UNPUBLISHED

UNITED STATES COURT OF APPEALS
                FOR THE FOURTH CIRCUIT


NATHAN LEWIN, a partner other than      
the tax matters partner,
                Petitioner-Appellant,
                and
I-TECH R&D LIMITED PARTNERSHIP,                 No. 02-1169
                       Petitioner,
                 v.
COMMISSIONER OF INTERNAL REVENUE,
              Respondent-Appellee.
                                        
             Appeal from the United States Tax Court.
                      (Tax Ct. No. 97-20561)

                      Argued: December 4, 2002

                      Decided: March 26, 2003

     Before GREGORY, Circuit Judge, Joseph R. GOODWIN,
                United States District Judge for the
                 Southern District of West Virginia,
       sitting by designation, and James H. MICHAEL, Jr.,
             Senior United States District Judge for the
        Western District of Virginia, sitting by designation.



Affirmed by unpublished per curiam opinion.


                            COUNSEL

ARGUED: Nathan Lewin, LEWIN & LEWIN, Washington, D.C.,
for Appellant. Rachel Ida Wollitzer, Tax Division, UNITED STATES
2                LEWIN v. COMMISSIONER OF INTERNAL REVENUE
DEPARTMENT OF JUSTICE, Washington, D.C., for Appellee. ON
BRIEF: Alyza D. Lewin, LEWIN & LEWIN, Washington, D.C., for
Appellant. Eileen J. O’Connor, Assistant Attorney General, Thomas
J. Clark, Tax Division, UNITED STATES DEPARTMENT OF JUS-
TICE, Washington, D.C., for Appellee.



Unpublished opinions are not binding precedent in this circuit. See
Local Rule 36(c).


                                  OPINION

PER CURIAM:

   Petitioner-Appellant Nathan Lewin appeals from the decision of
the United States Tax Court holding that petitioner’s deductions for
research and development expenses do not satisfy the requirements of
§ 174(a)(1) of the Internal Revenue Code. Jurisdiction in this court is
invoked pursuant to 26 U.S.C. § 7482. After carefully considering the
record, the briefs, and the parties’ arguments, this court affirms the
United States Tax Court’s ruling.

                                       I.

   Appellant Lewin was a partner in I-Tech R&D Limited Partnership
[hereinafter "I-Tech"]. For tax years 1984 through 1986, I-Tech
claimed deductions for research and development expenses pursuant
to § 174(a)(1) of the Internal Revenue Code.1 The Commissioner dis-
allowed the deductions, and Lewin, a partner other than the tax mat-
ters partner, filed a petition for readjustment of partnership items with
    1
     26 U.S.C.A. § 174(a)(1) (West 1994 & Supp. 2002) provides:
        A Taxpayer may treat research or experimental expenditures
        which are paid or incurred by him during the taxable year in con-
        nection with his trade or business as expenses which are not
        chargeable to capital account. The expenditures so treated shall
        be allowed as a deduction.
             LEWIN v. COMMISSIONER OF INTERNAL REVENUE                3
the United States Tax Court pursuant to I.R.C. § 6226(b). (Appellee’s
Br. at 3.) After a trial, the Tax Court issued an opinion holding that
I-Tech was not entitled to the deductions, and the instant appeal fol-
lowed. (J.A. 902-32.) At issue is whether the Tax Court properly dis-
allowed the deductions because the partnership’s expenditures were
not done "in connection with" the operation of the partnership’s trade
or business, and because the partnership did not have a "realistic pros-
pect" of exploiting any new discoveries or technology in a trade or
business related to those discoveries.

                       A. Factual Background

   I-tech, a Maryland limited partnership organized in 1984, had three
general partners: 1) Professor Itzhak Yaakov; 2) Capital Corporation
of Washington, owned by Robert E. Slavitt; and 3) Lloyd Levin. (J.A.
904.) Mr. Yaakov and Mr. Slavitt formed I-Tech to fund research and
development ["R&D"] projects of five startup Israeli companies. (J.A.
905.) The partnership’s Confidential Private Placement Memorandum
[hereinafter "PPM"] informed prospective investors that the five
Israeli companies would perform the actual research, while I-Tech
would provide funding for the research projects. 

Technolgies, Ltd., Efrat Future Technology, Ltd., AiTech Sys-
tems, Ltd., Hal Robotics, Ltd., and Cycon, Ltd., conducted research
in computer robotics and related fields.2 (J.A. 906.) I-Tech financed
the five R&D projects with proceeds from the sale of the limited part-
nership interests and from a commercial loan from the Israel General
Bank, Ltd. (J.A. 910.)

  Significantly, I-Tech did not set aside any funds to manufacture or
market products developed by the R&D companies. In contrast, the
  2
   Specifically, Oshap was researching robots and robotic production
lines to develop technology that would allow a manufacturer to simulate
a production line on a computer screen. (J.A. 906.) Efrat was developing
a digital voice message storage and retrieval system. 

a "ruggedized" computer that can be operated under extreme
environmental conditions. 

researching an auto-
mated process for engineering and producing a product by robots. (J.A.
907.) Finally, Cycon was developing a computer and software to control
a machine that would automatically mill metal parts.
4            LEWIN v. COMMISSIONER OF INTERNAL REVENUE
PPM contained detailed information about the marketing plans devel-
oped by each of the R&D companies, as well as the activities already
undertaken by each company. (J.A. 309, 310, 315-16, 318-19, 323-
24.)

   The partnership entered into a separate agreement with each of the
five companies. Under the agreements, I-Tech had certain rights, title,
and interest in the R&D companies’ existing and future technology.
(J.A. 911.) In exchange for a fee and royalty payments, each R&D
company had a nonexclusive license to use the technology before
completing its R&D project. (J.A. 912.) The partnership also granted
the R&D companies a limited nonexclusive license for the commer-
cial exploitation of any new technology developed by the R&D proj-
ects.3 (J.A. 463, 513, 561, 590, 592, 912.) During these periods, the
partnership was to receive royalties from the commercial exploitation
of the products. 

of Cycon, each of the R&D
companies had an option to acquire all rights, title, and interest in the
technology it developed. If a R&D company exercised its buy-out
option, the partnership could acquire an equity interest in the R&D
company. (J.A. 913.)

   I-Tech contracted with Robots & Software International, Inc. [here-
inafter "RSI"] to receive technical and other consulting services on
how best to exploit the results of the R&D projects. (J.A. 908.) Addi-
tionally, the partnership hired WorldTech Israel, Ltd. [hereinafter
"WorldTech"] to provide I-tech with management, financial, and con-
sulting services. (J.A. 909.)

   The research agreements with the R&D companies contained a
prohibition, imposed by the Israeli government, against the manufac-
ture of any products using the results of the R&D projects outside of
    3
    With respect to Efrat, AiTech, Hal Robotics, and Cycon, the nonex-
clusive licensing periods for exploitation of the research began after the
research was completed, and was to run "until specified levels of royal-
ties had been received, or until either I-Tech exercised certain rights to
acquire equity in [the four companies], or, in the case of Efrat, AiTech,
and Hal Robotics, until the R&D companies elected" to exercise their
buy-out options. (J.A. 912.) Oshap’s nonexclusive licensing period ran
for six months and one day after the completion date. 

OF INTERNAL REVENUE                5
Israel without the prior written consent of the Israeli government’s
office of the Chief Scientist. (J.A. 913.) The consent of the Chief Sci-
entist was not assured. (J.A. 288.) Finally, if the technology resulting
from the projects was not commercialized within five years of the
completion date, the rights to the technology transferred to the Israeli
government. (J.A. 914.)

                     B. The Tax Court’s Opinion

   After a one day trial, and a review of the record, the Tax Court held
that I-Tech was not entitled to the R&D deductions claimed for 1984
through 1986. The Tax Court recognized that case law clearly estab-
lishes that § 174(a)(1) does not require the taxpayer actually to be
engaged in a trade or business at the time of the expenditure. Snow
v. Comm’r, 

(1974); Cleveland v. Comm’r, 

(4th Cir. 1961). However, to qualify for a deduction under § 174, the
expenditure must still be "in connection" with the taxpayer’s trade or
business. Specifically, there must be a "realistic prospect" at the time
of the expenditure that the partnership will enter a trade or business
involving the technology being developed. Diamond v. Comm’r, 

, 374-75 (4th Cir. 1991); LDL Research & Dev. II, Ltd. v.
Comm’r, 

, 1345 (10th Cir. 1997); Kantor v. Comm’r,

, 1518 (9th Cir. 1993) ("We hold that a taxpayer dem-
onstrates such a prospect by manifesting both the objective intent to
enter such a business and the capability of doing so."); Zink v. United
States, 

, 1023 (5th Cir. 1991); Spellman v. Comm’r,

, 149 (7th Cir. 1988).

   The Tax Court first determined that I-Tech’s involvement with the
five R&D companies did not rise to the level of control or manage-
ment required to indicate that the R&D was done in connection with
I-Tech’s trade or business. The Tax Court rejected the petitioner’s
argument that Mr. Slavitt’s and Yaakov’s initial inspection tours of
the companies, their subsequent visits to the companies, and their
numerous conversations with personnel at WorldTech, RSI, and the
R&D companies, establishes active involvement with the R&D com-
panies. The Tax Court characterized the actions of Mr. Slavitt and Mr.
Yaakov as activities undertaken on behalf of I-Tech in its role as
investor in the R&D companies. (J.A. 921-22.) In reviewing the
record and the testimony, the court found that the "majority of Mr.
6            LEWIN v. COMMISSIONER OF INTERNAL REVENUE
Slavitt’s and Mr. Yaakov’s efforts was spent trying to assure I-Tech
its stream of ‘royalty’ income." (J.A. 922.) Furthermore, the court
below noted that an active role in directing the R&D is not by itself
sufficient to place the taxpayer in a trade or business for purposes of
§ 174. (J.A. 922-23.) Because the partnership did not have contractual
control over the research, it was merely an investor, and therefore,
was not engaged in a trade or business with regard to the R&D activi-
ties. 

further found that the partnership did not have a "re-
alistic prospect" of entering any trade or business involving technol-
ogy created from the R&D projects. First, the Tax Court noted that
the PPM did not contain any specific plans for I-Tech to market any
discoveries, or to hire staff with experience in marketing the technol-
ogy anticipated to emerge from the R&D projects. In fact, the PPM
spells out the marketing and manufacturing plans of each R&D com-
pany, but fails to specify how I-Tech planned on being involved in the
manufacturing and marketing of any discoveries. (J.A. 924-25.) Sec-
ond, in reviewing the record, the Tax Court concluded that "the plan
from the beginning was for the R&D companies to exercise their buy-
out options and for I-Tech to exercise its equity options in the R&D
companies or their affiliates." (J.A. 925.)

   The Tax Court also noted that the buy-out options of the R&D
companies almost certainly assured that I-Tech did not have a realistic
prospect of exploring any discoveries. The options had only a mini-
mal waiting period, and economic reality almost guarantees that if the
new technology is going to be profitable, the R&D companies would
exercise those options. (J.A. 927.) Finally, the Tax Court found that
the restrictions imposed by the Israeli Government also seriously
undermined the partnership’s ability to exploit the products.

   The Tax Court concluded that the partnership did not have "any
realistic prospect . . . [to] exploit any discoveries in a trade or busi-
ness," and that "I-Tech served as a financing vehicle set up to fund
five Israeli R&D companies in exchange for a stream of royalty pay-
ments convertible into equity interests in the R&D companies or their
affiliates." (J.A. 928.)
              LEWIN v. COMMISSIONER OF INTERNAL REVENUE                   7
                                    II.

   The parties disagree as to the proper standard this court must apply
in reviewing whether the Tax Court correctly held that I-Tech’s
expenditures could not be deducted under § 174(a)(1). If resolving
this issue is a question of fact, then the court cannot disturb the Tax
Court’s decision unless it is clearly erroneous. However, if determin-
ing whether the partnership’s expenditures qualify for a § 174(a)(1)
deduction involves a mixed question of fact and law, then the court
should perform de novo review. Estate of Waters v. Comm’r, 

, 841-42 (4th Cir. 1995) (noting that in reviewing Tax Court deci-
sions, the court of appeals reviews factual findings under the clearly
erroneous standard, but questions that "require the consideration of
judgment about the values underlying legal principles" are reviewed
de novo). The court need not directly address this issue, however,
because it will affirm the Tax Court’s decision in the instant case
under either standard of review.4
   4
     It is important to note that in Diamond v. Comm’r, 

(4th
Cir. 1991), the court addressed the identical issue that is currently before
the court. Although the court did not specifically discuss the applicable
standard of review, it did reference the clearly erroneous standard after
summarizing the Tax Court’s various findings. 

(noting that "[u]nder the applicable standard of review, it cannot be
said that the findings of the Tax Court are clearly erroneous"); see also
Harris v. Comm’r, 

, 81 (5th Cir. 1994) ("We must determine
whether the Tax Court was clearly erroneous in finding that . . . there
was a realistic prospect that the Partnership, instead of CemCom, would
engage in the licensing of the cement technology."). But cf. LDL
Research & Dev. II, Ltd. v. Comm’r, 

, 1342 (10th Cir.
1997) ("The court’s ultimate determination that the partnership’s expen-
ditures were not research or experimental expenditures in connection
with a trade or business involves the application of law to fact, and calls
for de novo review by this court.") (internal quotation marks and alter-
ations omitted); Scoggins v. Comm’r, 

, 952 (9th Cir. 1995)
("But the Tax Court’s ultimate determination that the partnership’s
expenditures were not ‘research or experimental expenditures . . . in con-
nection with a trade or business’ involves the application of law to fact,
and calls for de novo review by this court."); Zink v. United States, 

, 1020-21 (5th Cir. 1991) ("Whether the Zinks’ investment was
in their own ‘trade or business’ is a question that involves the application
of law to facts. We review the district court’s factual findings, including
reasonable inferences that may be drawn therefrom, under the clearly
erroneous standard, but review de novo the application of the law to
those facts.") (internal quotations marks and alterations omitted).
8            LEWIN v. COMMISSIONER OF INTERNAL REVENUE
   Petitioner argues that because I-Tech controlled the R&D of the
five Israeli companies, the partnership’s expenditures were "in con-
nection with" the partnership’s trade or business, and therefore, are
deductible under § 174. Specifically, I-Tech argues that the R&D
projects of the five Israeli companies were under the personal direc-
tion and control of the I-Tech general partners. (Appellant’s Br. at 31-
38.) Appellant references Mr. Slavitt’s and Mr. Yaakov’s active
involvement with the five R&D companies. In particular, appellant
cites the initial inspection tours of the five Israeli companies, the daily
conversations with personnel at WorldTech and the heads of the R&D
companies, and Yaakov’s business dealings with Cycon. 

that this involvement with the R&D companies establishes
that the partnership was not simply a passive investor.

   Appellee, on the other hand, argues that the activities of the part-
ners constituted management of an investment and are not sufficient
to establish that the R&D expenditures were incurred in connection
with a trade or business. Appellee stresses that the R&D companies,
and not I-Tech, had exclusive control of the R&D projects. (Appel-
lee’s Br. at 56.) Appellee argues that the activities of the I-Tech part-
ners amount to monitoring and supervision of the R&D projects, and
not to direction and control of those projects. (Appellee’s Br. at 57.)

   A close review of the facts in the case, however, reveals that I-Tech
was merely an investor in the five R&D companies, and was not
engaged in a trade or business related to the R&D projects. None of
the actions undertaken by Mr. Slavitt or Mr. Yaakov can be consid-
ered anything more than two very interested and capable investors
monitoring their investment and doing what they could to assure that
it was a successful venture. For example, even though Slavitt’s testi-
mony states that sometimes the partnership knew of the direction of
the companies’ research and development, and would communicate
information that might be beneficial to the ultimate outcome of the
project (Appellant’s Br. at 35), there is absolutely no indication that
I-Tech had any authority to direct the R&D in a certain direction. The
lack of actual control over the R&D projects precludes the court from
finding that the partnership was engaged in a trade or business related
to the R&D activities. See LDL Research & 

(noting that the "primary determinant between involvement and
investment was the degree of taxpayer control over, or regular and
             LEWIN v. COMMISSIONER OF INTERNAL REVENUE                   9
substantial participation in, the project in question"); Nickeson v.
Comm’r, 

, 978 (10th Cir. 1992) ("To establish that
claimed § 174 expenses were in connection with their trade or busi-
ness, taxpayers must show both a profit motive and that their activi-
ties were substantial and regular enough to establish that they were
actively involved in the trade or business.").

   Mr. Slavitt and Mr. Yaakov’s involvement simply does not exceed
that of an interested and active investor. As the Ninth Circuit recog-
nized in Kantor v. Commissioner, 

(9th Cir. 1993), a
case with substantially similar facts as the instant case, even when one
of the partners becomes more seriously involved with the R&D com-
pany, that, by itself, is not "indicative of an intent or capability of the
partnership to enter into a trade or business of its own." 

. Because the appellant places substantial emphasis on
the activities undertaken by Mr. Yaakov, and because those activities
are very similar to the ones at issue in Kantor, it is worth quoting the
Ninth Circuit’s conclusion at length:

     Hubert’s [partner] identification of a marketable technology,
     his formation of a partnership to fund its development, and
     his negotiation of agreements under which other entities
     would develop and market it amount to the promotion and
     protection of a technological investment, not a business.
     Although Hubert provided technical information and advice
     to those individuals developing the software, those individu-
     als were under the management and control of the research
     firm . . . not the partnership. Hubert’s activities with the
     research firm on behalf of the partnership were consistent
     with those of any investor who applies his knowledge and
     experience to insure that an investment is successful; his
     activities did not indicate that the partnership was engaged
     in a trade or business or was ever designed to do so.

of Appeals for the Fifth Circuit found that
partners that received reports, kept up with the progress of the
research project, visited the R&D plant on an occasion, and attended
an exhibition of the research project indicated "nothing more than that
they were interested investors keeping up with the progress of their
investment." 

. The court concluded that
10           LEWIN v. COMMISSIONER OF INTERNAL REVENUE
"[t]hese activities were insufficient, as a matter of law, to establish
that the Zinks were in that trade or business for the purposes of sec-
tion 174." 

in the record currently before us to dis-
tinguish the instant case from Kantor and Zink, and therefore, find
that I-Tech’s expenditures were not made "in connection with" a trade
or business within the meaning of § 174.

                                  III.

   Appellant further asserts that even if at the time of the deductions
the partnership was not engaged in a trade or business connected to
the R&D projects, I-Tech had a "realistic prospect" of exploiting any
products or technology derived from the R&D projects. In support of
its argument, appellant relies on I-Tech’s numerous statements in the
PPM that the partnership intends to exploit any inventions or new
products that emerge from the R&D companies. (Appellant’s
Response Br. at 4-5.) Furthermore, appellant emphasizes that the five
R&D companies were essentially start-up companies that lacked "any
experience in commercial exploitation of a product resulting from the
research and development activities." (J.A. 273.) Appellant also
stresses that the restrictions imposed by the Israeli government would
not inhibit the production and marketing of any new technology or
product in the United States because the restrictions were standard
and almost never enforced. (Appellant’s Br. at 42.) Finally, the appel-
lant asserts that the buy-out options of the five R&D companies sim-
ply protected the companies, and were not an indication that the
companies, and not I-Tech, would exploit any results from the
research projects. (Appellant’s Response Br. at 6-7.)

   In contrast, Appellee argues that the Tax Court correctly found that
I-Tech did not have a realistic prospect of entering a trade or business
in connection with the fruits of the R&D projects. Appellee asserts
that the buy-out options held by the R&D companies establish that I-
Tech lacked the intention and capability to exploit the results of the
research projects. After all, common sense and economic reality dic-
tate that the companies will exercise the buy-out options if the
research results yield any significant commercial potential. (Appel-
lee’s Br. at 36.) Appellee also stresses that I-Tech did not have any
specific plans, funds, infrastructure, or experience to exploit any tech-
nology that emerged from the research. (Appellee’s Br. at 41-47.)
             LEWIN v. COMMISSIONER OF INTERNAL REVENUE                11
Finally, appellee notes that the partnership lacked any assurance that
the Israeli government would approve the manufacture and develop-
ment of any derived products outside of Israel.

   The Tax Court’s conclusion that I-Tech did not have a realistic
prospect of exploiting any discoveries in a trade or business is sup-
ported by all of the evidence, and appellant’s conclusory statements
to the contrary do not satisfy their burden of establishing such a pros-
pect. To demonstrate a "realistic prospect" of entering its own busi-
ness in connection with the fruits of the research and development,
the taxpayer must "manifest[] both the objective intent to enter such
a business and the capability of doing so." 

.
Significantly, for purposes of § 174, the taxpayer’s prospective busi-
ness must be its own and not that of another entity. 

this court has previously stated, the "question is not whether it is pos-
sible in principle, or by further contract, for the[] partnership[] to
engage in a trade or business, but whether, in reality, the project part-
nership . . . possessed the capability in the years before the court to
enter into a new trade or business in connection with" the fruits of the
proposed research and development projects. 

.

   It is obvious from reading Appellant’s briefs and the PPM that the
partnership expressed the intent to "seek to exploit commercially" the
results of the five companies’ R&D projects. However, a closer exam-
ination of the record reveals that the partnership’s intent was simply
to secure royalty payments and equity interests in the five R&D com-
panies, and not to engage in any trade or business of its own. Contrary
to appellant’s assertions, the Tax Court did not brush aside the testi-
mony at trial or the statements in the PPM. Rather, the court looked
beyond the conclusory nature of I-Tech’s statements and explored the
economic realities and facts surrounding the partnership’s agreement
with and involvement in the R&D companies. Significantly, the
record clearly shows that I-Tech did not have specific plans or
resources to exploit or market the results of the research projects. In
fact, the partnership’s own "PPM sets forth the marketing and manu-
facturing plans for each R&D company and describes in detail which
R&D company or third party will carry out each function." (J.A. 924.)

  Furthermore, the buy-out options of the R&D companies almost
certainly guaranteed that the partnership did not have a realistic pros-
12           LEWIN v. COMMISSIONER OF INTERNAL REVENUE
pect of exploiting any discoveries in its own trade or business. As this
court previously recognized in the Diamond case, sound economic
reality and judgment dictates that if there is any profit to be made by
the results of the R&D, the five Israeli companies would exercise
their buy-out options and exploit the technology on their own. See

(noting that "if a money-making business
should materialize, there exists no reasonable expectation that Elco
[the R&D company] will permit it to be exploited by one of the part-
nerships"). Appellant tries to distinguish Diamond because, unlike the
five start-up companies in the instant case, the R&D company in Dia-
mond had the infrastructure, experience, and resources necessary to
exploit the technology. However, appellant forgets that even if the
five R&D companies lack the experience, infrastructure, or resources
to exploit their products on their own, the same can be said of I-Tech.
Additionally the PPM shows that the R&D companies, and not I-
Tech, had taken steps to plan for the manufacture and marketing of
any newly developed technology. Thus, while it is always possible
that I-Tech was going to develop its own trade or business to exploit
the technology, it was not probable that I-Tech would do that. See

("Courts have repeatedly held that while the
probability of a firm’s going into business will satisfy section 174, the
mere possibility of its doing so will not.") (citing 

); see also LDL 

("[T]he bare con-
tractual right to enter such a business does not entitle the taxpayer to
a § 174(a)(1) deduction. Rather, the right question is whether the part-
nership reasonably anticipated availing itself of the privileges it pos-
sessed on paper.") (internal quotations and citations omitted).

   Finally, the restrictions by the Israeli government seriously under-
mined I-Tech’s prospect of entering its own trade or business in con-
nection with the results of the R&D projects. Even considering Mr.
Yaakov’s testimony that those restrictions were only a formality, and
that there was a high likelihood that Israel’s Chief Scientist would
permit the manufacture of any product outside of Israel if there is a
profit to be made, I-Tech did not have any assurance that permission
would be granted. Although Mr. Yaakov’s experience and knowledge
may be substantial in this area,5 his testimony was simply conjecture
  5
  Mr. Yaakov served as chief of research and development in the Israel
Defense Forces. (J.A. 905.)
            LEWIN v. COMMISSIONER OF INTERNAL REVENUE             13
and opinion. Significantly, the PPM itself warned investors in the
partnership that "there is no assurance" that the Israeli government
would grant approval. (J.A. 928.) Accordingly, the partnership could
not demonstrate that it had a realistic prospect of exploiting any
results of the research projects in its own trade or business.

                                IV.

   Because we find that the partnership’s expenditures were done in
its role as an investor, and were not done "in connection with [its]
trade or business," and because we find that the partnership did not
have a realistic prospect of exploiting any discoveries in a trade or
business, the decision of the United States Tax Court is affirmed.

                                                        AFFIRMED