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Tax Court Holds That Despite Losses, Cattle Ranch Was Operated for Profit

(Parker Tax Publishing January 2023)

The Tax Court held that a married couple was entitled to deduct expenses from a cattle ranch they operated at a loss because, after applying the factors in Reg. Sec. 1.183-2(a), the court found that the couple entered into the cattle ranching business with the actual and honest objective of making a profit. The court noted that although the ranch sustained losses every year, the couple operated the ranch in a businesslike manner, hired a foreman to oversee its operations, and expected to make a profit on the sale of the property. Wondries v. Comm'r, T.C. Memo. 2023-5.


Paul Wondries operated many successful business enterprises. These included some 23 car dealerships, half of which he managed to convert from losing enterprises to profitable ones. Around early 2004, Paul and his wife, Patricia, sought to diversify their business interests by acquiring a cattle ranch. They toured many properties before ultimately deciding on an 1,100-acre ranch in Parkfield, California. Various structures stood on the property: a main house, a guest house, a swimming pool, and a foreman's house. Wells and natural springs serviced the ranch's water needs; the Wondries also installed large storage tanks and drinking troughs for the animals. Approximately 30 miles of roads provided access to all parts of the ranch.

The Wondries financed the ranch's purchase through a California bank. In support of their loan application, they included a business plan indicating that the ranch would generate sufficient income to satisfy the mortgage payments - primarily through cattle sales and guided hunting expeditions - and be profitable within a few years. Their secondary approach was to hold the property for investment. The bank funded the loan, and the Wondries purchased the property for $2 million.

Because they had no experience in the ranching industry, the Wondries hired a foreman, Robert Palm. Palm was familiar with the area and knew many individuals in the industry. He also had approximately two decades of ranching experience. Notably, he had profitably managed two ranches - both over 1,000 acres - close to the Wondries' ranch. Palm's foreman duties included overseeing the property when the Wondries were away, repairing and replacing ranch equipment and infrastructure, hiring and overseeing laborers to perform more extensive tasks, managing the cattle herd, controlling the landscape, and tending the ranch's crops. As part of those duties, the Wondries provided Palm with a separate checkbook and a credit card for ranch purchases.

The Wondries realized quickly that operational income from the ranch alone would be insufficient to support the mortgage payments. They discovered that raising cattle would be cost prohibitive given feed prices. Thus within a few months of purchasing the ranch, they sold most of the cattle. The Wondries also determined at this time that guided hunting would not generate a profit. In the light of these failed exploits, the Wondries pivoted to an investment focus, hoping to eventually sell the property at a gain. They endeavored to improve the property by repairing the fencing and irrigation system, renovating the housing structures and pool, clearing brush for fire control, and maintaining the grounds surrounding the buildings. The Wondries usually had Palm and third-party contractors complete these tasks, but when they visited the ranch - approximately six days per month - they would contribute by performing tasks around the ranch.

Since acquiring the ranch, the Wondries have never realized a profit nor broken even. They realized a net loss every year since the purchase and claimed corresponding deductions on their income tax returns, which they used to offset their significant income from other sources. In 2019, the Wondries received a notice of deficiency stating that the ranch property was an activity not engaged in for profit within the meaning of Code Sec. 183 during the years at issue. The Wondries challenged the notice of deficiency in the Tax Court.

Taxpayers are generally allowed deductions for business-related and investment expenses under Code Sec. 162 and Code Sec. 212. Under Code Sec. 183(a), individuals are not allowed a deduction if such activity is not engaged in for profit. If an activity is not engaged in for profit, no deduction attributable to the activity is allowed except to the extent provided by Code Sec. 183(b). Code Sec. 183(b) allows deductions that would have been allowable had the activity been engaged in for profit, but only to the extent of gross income derived from the activity.

Reg. Sec. 1.183-2(b) provides a non-exhaustive list of nine factors that are generally considered in determining whether an activity is engaged in for profit: (1) the manner in which the taxpayer carries on the activity; (2) the expertise of the taxpayer or the taxpayer's advisers; (3) the time and effort expended by the taxpayer in carrying on the activity; (4) the expectation that assets used in the activity may appreciate in value; (5) the success of the taxpayer in carrying on other similar activities; (6) the taxpayer's history of income or loss with respect to the activity; (7) the amount of occasional profits, if any, which are earned; (8) the financial status of the taxpayer; and (9) whether elements of personal pleasure or recreation are involved.


The Tax Court held that, while this was a close case, the Wondries engaged in their ranching activity for profit and their activities could not be characterized as a hobby.

In the court's view, the manner in which the Wondries operated the ranch and the expertise of Palm weighed in favor of a profit motive. The hiring of an experienced person such as Palm indicated to the court that the Wondries conducted the ranch in a businesslike manner. The court also noted that the Wondries maintained complete and accurate books and records during the years at issue. Further, the Wondries' shift to an investment focus once discovering that the operational one would be unprofitable indicated a profit motive. Although the Wondries spent little time at the ranch, the court observed that Palm and his wife lived and worked on the property year round and that in addition, Palm hired numerous individuals to help complete repairs on the property. Therefore, the court said the Wondries' insubstantial amount of time devoted to the ranch business did not undercut their profit motive.

The court found that the Wondries' expectation that the ranch assets would appreciate in value also weighed in their favor. The court reasoned that the Wondries purchased the property in early 2004 for around $2 million and that it was worth between $5.5 and $6 million during the years at issue. Even with the approximately $300,000 in losses each year, the court found that the Wondries could still expect to earn a profit on a sale of the business. The court further found that although the Wondries had not engaged in similar activities in the past, Paul's many years of success in the automotive sales and service business was evidence that the Wondries engaged in the ranch business for profit. The court noted that several of Paul's dealerships were operating at a loss when he acquired them and that he was able to turn around all of these businesses and make them profitable.

The court found that several factors weighed against the Wondries: the ranch's history of losses, the absence of a profit while incurring significant expenses, and the fact that the ranch losses generated a tax benefit to the Wondries. However, the fact that the Wondries derived personal pleasure from the ranch activity did not, in the court's view, weigh against them. The court reasoned that the Wondries own numerous properties in desirable locations besides the ranch and that at these properties, they engaged in true recreational activities such as hiking, biking, and boating. Despite taking some personal pleasure from the ranch property, the court found that the Wondries' primary motivation was to earn a profit.

For a discussion of determining whether or not an activity is engaged in for profit, see Parker Tax ¶97,505.

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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