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Deductions for Expenses Incurred in Attempting to Rent Farmhouse Disallowed.
(Parker Tax Publishing September 27, 2014)

The taxpayers could not take rent expense deductions where they made no effort to change their strategy after being unable to find a rent-paying tenant for over 30 years. Meinhardt v. Comm'r, 2014 PTC 468 (8th Cir. 9/10/14).

Donald Meinhardt worked full time at an architectural firm. His wife, Arvilla, operated a day care center out of the couple's home. In 1976, the Meinhardts bought approximately 140 acres of land that was improved with a farmhouse and outbuildings and that also consisted of crop land and pasture land. The couple rented out the farmland separately from the farmhouse. Since buying the land, the Meinhardts have had numerous local farmers lease the crop land and the pasture land. The couple attempted to rent out the farmhouse but were unsuccessful in finding tenants to rent the house in exchange for cash.

From 1976 through 2007, various individuals lived in the farmhouse at different times, often exchanging services (such as repairs and maintenance on the farmhouse) for use of the house. Over the years, the occupants included Arvilla's brother, who lived in the farmhouse seasonally for 20 years; the Meinhardts' daughter and her husband, who lived in the farmhouse for four years; and the Meinhardts' son and his family, who lived in the farmhouse for three months. The Meinhardts never received rent for use of the farmhouse. At various other times, the farmhouse remained vacant. The Meinhardts did not keep or present any detailed records of the value of these barter exchanges or the fair market rental value of the farmhouse.

For 2005-2007, the Meinhardts reported on Schedule E approximately $32,000 in rental income from the rental of crop and pasture land and expenses of approximately $74,500. The expenses consisted of insurance, supplies, repairs, and other expenses associated with the farmhouse. According to the Meinhardts, the farmhouse was available for rent during the years at issue. The IRS denied the expenses relating to the farmhouse.

The Tax Court denied the rent expense deductions, concluding that because the Meinhardts made no effort to change their strategy after being unable to find a rent-paying tenant for over 30 years, they had not put forth a reasonable effort to rent out the farmhouse. Additionally, the fact that the Meinhardts allowed individuals to live in the house rent free connoted personal use to the court. In reaching its conclusion, the Tax Court cited Ray v. Comm'r, T.C. Memo. 1989-623, in which the taxpayer deducted expenses in connection with a house inherited from her mother, which had never been offered for rent or for sale. The taxpayer in Ray claimed the expenses were ordinary and necessary expenses paid for the production or collection of income, or for the management, conservation, or maintenance of property held for the production of income within the meaning of Code Sec. 212(1) or (2). The Ray court concluded that, given the almost universal experience with appreciating residential property (which was the case at the time), something more was required than a taxpayer's mere statement that he or she held residential property for investment purposes. The totality of the facts and circumstances convinced the court in Ray that the taxpayer did not possess the requisite profit objective and found similarly in the case of the Meinhardts. The Meinhardts appealed.

The Eighth Circuit affirmed the Tax Court's decision and held that the farmhouse rental expenses were nondeductible. The Eighth Circuit agreed with the Tax Court that there was no indication that the farmhouse was held for the production of income during the tax years in question because the Meinhardts did nothing to generate revenue during the years in issue and had no credible plan for operating it profitably in the future. The court noted that there was no affirmative act, such as renting or holding the property for appreciation in value, to demonstrate that the property was held for the production of income.

For a discussion of the deductibility of rental expenses, see Parker Tax ¶86,105. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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