1998 U.S. Tax Ct. LEXIS 33">*33 Decisions will be entered for respondent.
Partnerships subject to U.S. income reporting made soil and water conservation expenditures in connection with their farming operations in New South Wales, Australia, during the years in issue. Under
HELD:
110 T.C. 445">*445 OPINION
NIMS, JUDGE: Respondent issued a notice of final partnership administrative adjustment (FPAA) to each of the two subject partnerships, disallowing in each instance soil and water 110 T.C. 445">*446 conservation expenditure deductions under
Taxable Year | Amount of Deduction | |
Partnership | Ending | Disallowed |
Koramba Farmers & | June 30, 1987 | $ 806,633 |
Graziers No. 1 | June 30, 1988 | 519,004 |
(Koramba No. 1) | ||
Koramba Farmers & | June 30, 1988 | 1,011,360 |
Graziers No. 2 | June 30, 1989 | 2,683,415 |
(Koramba No. 2) |
All section references, unless otherwise1998 U.S. Tax Ct. LEXIS 33">*36 specified, are to sections of the Internal Revenue Code in effect for the years in issue. All Rule references are to the Tax Court Rules of Practice and Procedure.
By order, these cases were consolidated for trial, briefing, and opinion. They were submitted fully stipulated.
The sole issue for our consideration is whether the Koramba partnerships' soil and water conservation expenditures (conservation expenditures) incurred after December 31, 1986, with respect to land located outside the United States can qualify for deductibility under
BACKGROUND
Koramba No. 1 was organized as a general partnership under the laws of Australia. At the time each of the Koramba No. 1 petitions was filed, the partnership had its principal place of business at Koramba, Boomi, New South Wales, Australia.
Koramba No. 2 was organized as a general partnership under the laws of Australia. At the time each of the Koramba No. 2 petitions was filed, the partnership had its principal place of business at Koramba, Boomi, New South Wales, Australia.
At all relevant times, Dean Phillips (Phillips) has been the tax matters partner of Koramba No. 1 and Koramba No. 2 (partnerships). Phillips' address at1998 U.S. Tax Ct. LEXIS 33">*37 the time the petitions were filed was No. 326, 4132 S. Rainbow Boulevard, Las Vegas, Nevada 89013.
Prior to 1985, William Michael Owen and Penelope Ann Owen (the Owens) of New South Wales, Australia, were the 110 T.C. 445">*447 owners of a farm, named Koramba, located in New South Wales. The Koramba farmland was used for grazing sheep and cattle and for farming dry-land wheat and sorghum. The Owens, who were looking for a financial partner to develop their farm, were introduced to Phillips, who was interested in acquiring additional rural properties in Australia. In 1985, Phillips and Heetco, Inc. (Heetco), a U.S. corporation in which Phillips is a shareholder, acquired a 50-percent interest in the Koramba farm from the Owens. Phillips, Heetco, and the Owens thereupon formed Koramba No. 1 to develop the farmland.
The Koramba farmland is located in a floodplain along the Macintyre and Barwon Rivers in northern New South Wales. The Koramba partners decided to use the nearby water resources to develop a portion of the farmland to grow cotton, which requires ample water supplies. In 1986, Koramba No. 1 started the construction of an irrigation system to raise cotton on the land. With the subsequent purchase1998 U.S. Tax Ct. LEXIS 33">*38 of two adjacent farms in 1987 and 1988, the scale of the cotton farming operations was expanded, leading to the formation of Koramba No. 2, a second Australian general partnership, between Phillips and the Owens. By 1991, the partnerships' irrigation system covered 11,000 acres of farmland.
By following sound soil and water conservation (conservation) practices in their cotton farming operations, the partnerships minimize the consumption of irrigation water. Pursuant to authorization from the New South Wales authorities, the partnerships pump water from the Macintyre and Barwon Rivers and store it in five reservoirs, together with excess water captured during flood season. From the reservoirs, the water is delivered to the cotton fields through a comprehensive system of irrigation pipes and channels. The partnerships' 44 cotton fields have been precisely leveled, using laser surveying technology, to permit proper water application and drainage. Run off water from the fields is recovered and returned to the reservoirs for future use. Using computer technology, the partnerships continuously measure soil moisture during the growing season, allowing precise determination of when and how1998 U.S. Tax Ct. LEXIS 33">*39 much irrigation is needed.
In building their irrigation system, the partnerships complied with the standards and procedures for floodplain 110 T.C. 445">*448 construction set forth by the New South Wales Government Department of Water Resources (the Department of Water Resources). The Department of Water Resources encourages and controls the implementation of sound conservation practices in New South Wales, and exercises stringent controls over the placement of levees, banks, water channels, and reservoirs to ensure proper floodplain management. Pursuant to Part VIII of the New South Wales Water Act (the Water Act), the partnerships' conservation expenditures received general approval from the Department of Water Resources as being consistent with the conservation guidelines and plan for the area. Thus, the conservation expenditures incurred by the partnerships were consistent and in accordance with a conservation plan approved by the Department of Water Resources for the floodplain in which the land was located.
In connection with the filing of Forms 1065, U.S. Partnership Return of Income, the partnerships elected to deduct conservation expenditures under
DISCUSSION
The relevant provisions of
(a) In general. -- A taxpayer engaged in the business of farming may treat expenditures which are paid or incurred by him during the taxable year for the purpose of soil or water conservation in respect of land used in farming, or for the prevention of erosion of land used in farming, as expenses which are not chargeable to capital account. The expenditures so treated shall be allowed as a deduction.
* * * * *
110 T.C. 445">*449 (c) Definitions. -- For purposes of subsection (a) --
* 1998 U.S. Tax Ct. LEXIS 33">*41 * * * *
(3) Additional limitations. --
(A) Expenditures must be consistent with soil conservation plan. -- Notwithstanding any other provision of this section, subsection (a) shall not apply to any expenditures unless such expenditures are consistent with --
(i) the plan (if any) approved by the Soil Conservation Service of the Department of Agriculture for the area in which the land is located, or
(ii) if there is no plan described in clause (i), any soil conservation plan of a comparable State agency.
Until 1954, the resolution of the question of the treatment for tax purposes of the expenditures made by farmers to improve their land required a highly fact-intensive inquiry. Compare, e.g.,
In 1954, Congress added
In 1991, the IRS issued
Unfortunately from the partnerships' perspective, however, the IRS in the TAM also took the position (which is respondent's position here) that, even if a proper
As stated previously,
With the enactment of
The committee is concerned that certain Federal income tax provisions may be affecting prudent farming decisions adversely under present law. In particular, the committee is concerned that such provisions may have contributed to an increase in acreage under production, which in turn may have encouraged the present-day overproduction of agricultural commodities. * * * S. Rept. 99-313, 1986-3 C.B. (Vol. 3) 265.
Thus, the focus of the1998 U.S. Tax Ct. LEXIS 33">*44 amendment is to discourage overproduction of agricultural commodities by keying the availability of conservation expenditure deductions to amounts incurred that are consistent with a conservation plan approved by the Soil Conservation Service (SCS) of the Department of Agriculture, and if there is no SCS conservation plan for the area in which the property is located, amounts incurred for improvements that are consistent with a plan of a State conservation agency. S. Rept. 99-313, supra, 1986-3 C.B. (Vol. 3) at 265.
Respondent argues that the consequence of the form in which Congress chose to cast
The partnerships agree with respondent that their conservation expenditures obviously cannot qualify under
They first maintain that the term "State", as used in clause (ii), should be read expansively so as to embrace governmental entities over and beyond the 50 States constituting the United States plus the District of Columbia. We need not tarry long over this first argument. The partnerships argue, among other things, that including foreign agencies is consistent with the use of the term "State" in the international context. We quote from the partnerships' opening brief:
Including foreign agencies in the definition of "comparable State agency" is also consistent with the general usage of the term "State" in the international tax context. Although "State" naturally is often limited to the U.S. states when used domestically, it more typically is used internationally to refer to national governments. For example, in the U.S./Australia income tax treaty, the term is defined as follows:
The term "State" means any National State, whether or not one of the Contracting States.
Convention Between the Government of the United States of America and the Government of Australia1998 U.S. Tax Ct. LEXIS 33">*46 for the Avoidance of Double Taxation and the Prevention of Fiscal Evasion with Respect to Taxes on Income, Article 3(1)(h), reprinted in
Following this quotation, the partnerships simply state that, based on the treaty definition, a broader reading of the term "State" is more appropriate "in this context".
We think it indisputable that the term "State", as it appears in
(9) United States. -- The term "United States" when used in a geographical sense includes only the States and the District of Columbia.
(10) State. -- The term "State" shall be construed to include the District of Columbia, where such construction is necessary to carry out provisions of this title.
The language of the Senate report states that "amounts incurred for improvements that are consistent with a plan of 110 T.C. 445">*452 a STATE conservation agency are deemed to satisfy the FEDERAL standards." S. Rept. 99-313, supra, 1986-3 C.B. (Vol. 3) at 265 (emphasis added). There isn't the1998 U.S. Tax Ct. LEXIS 33">*47 slightest hint in the legislative history or the statute itself that Congress had anything else in mind when
Somewhat more plausibly, but nevertheless unconvincingly, the partnerships urge that, even if a "comparable State agency" excludes foreign agencies,
We disagree. For
110 T.C. 445">*453 The conference committee report dispels any doubt which may remain as to the correctness of our analysis. There it is stated that
the conferees wish to clarify that while prior approval of the taxpayer's 1998 U.S. Tax Ct. LEXIS 33">*49 particular project by the Soil Conservation Service or COMPARABLE STATE AGENCY is not necessary to qualify the expenditure under this provision, THERE MUST BE AN OVERALL PLAN FOR THE TAXPAYER'S AREA that has been approved by SUCH AN AGENCY in effect at any time during the taxable year. H. Conf. Rept. 99-841, 1986-3 C.B. (Vol. 4) 110; emphasis added.
The phrase "such an agency" unmistakably refers to the SCS or a State agency comparable to the SCS, whose plan is in effect for the taxpayer's area.
To the extent the partnerships make other arguments regarding the meaning of "State" and "comparable State agency" as used in the instant statute, we find the arguments wholly unconvincing and unnecessary to discuss.
The partnerships are understandably aggrieved that, while subject to U.S. income tax reporting, they are nevertheless denied conservation deductions to which a similarly situated owner of farmland located in the United States would be entitled. We are convinced, nevertheless, that in order to discourage overproduction of agricultural commodities as a result of previously existing Federal income tax provisions, Congress found it necessary to limit allowable1998 U.S. Tax Ct. LEXIS 33">*50 conservation deductions to those incurred with respect to land located within an area in the United States that are consistent with statutorily specified conservation plans for that area. The unfortunate consequence of this restricting enactment, from the partnerships' point of view, is that as of 1987 conservation expenditure deductions related to foreign farmland are no longer allowed by reason of
To reflect the foregoing,
Decisions will be entered for respondent.
1. Cases of the following petitioners are consolidated herewith: Koramba Farmers & Graziers No. 1, Dean Phillips, Tax Matters Partner, docket No. 3680-96; Koramba Farmers & Graziers No. 2, Dean Phillips, Tax Matters Partner, docket No. 3681-96; and Koramba Farmers & Graziers No. 2, Dean Phillips, Tax Matters Partner, docket No. 3682-96.↩