UNITED STATES TAX COURT



          CHAPMAN GLEN LIMITED, Petitioner v.
     COMMISSIONER OF INTERNAL REVENUE, Respondent



Docket Nos. 29527-07L, 27479-09.              Filed May 28, 2013.



       In 1998, P was a foreign insurance company that elected under
I.R.C. sec. 953(d) to be treated as a domestic corporation for U.S.
Federal income tax purposes. G signed the election in G’s reported
capacity as P’s secretary. P also applied for and was granted tax-
exempt status as an insurance company effective Jan. 1, 1998. For
2003, P filed a Form 990, Return of Organization Exempt From
Income Tax, that was not signed by one of P’s officers. In 2009, three
years after P consented to R’s revocation of P’s tax-exempt status
effective Jan. 1, 2002, R determined that (1) P’s election was
terminated in 2002 because P was not an insurance company in that
year and (2) P was therefore deemed under I.R.C. secs. 354, 367, and
953(d)(5) to have sold its assets on Jan. 1, 2003, in a taxable
transaction. P’s primary asset on Jan. 1, 2003, was its investment in a
disregarded entity (E) that owned various pieces of real property.

       Held: The three-year period of limitations under I.R.C. sec.
6501(a) remains open as to 2003 because P’s Form 990 was not a
valid return in that it was not signed by one of P’s corporate officers.
                                         -2-

             Held, further, P properly elected under I.R.C. sec. 953(d) to be
      treated as a domestic corporation, and the termination of that election
      in 2002 resulted in P’s making a taxable exchange under I.R.C. secs.
      354, 367, and 953(d)(5) during a one-day taxable year commencing
      and ending on Jan. 1, 2003.

            Held, further, E’s real property is included in that taxable
      exchange, and the fair market value of the real property is determined.

             Held, further, P’s gross income does not include amounts that R
      determined were “insurance premiums”, and R may not for the first
      time in R’s posttrial opening brief recharacterize the premiums as a
      different type of taxable income.



      Vicken Abajian and Gary Michael Slavett, for petitioner.

      Najah J. Shariff, James C. Hughes, and Michael K. Park, for respondent.



      WHERRY, Judge: These cases are consolidated for purposes of trial,

briefing, and opinion. Petitioner petitioned the Court in docket No. 29527-07L to

review the Internal Revenue Service (IRS) Office of Appeals’ determination

sustaining respondent’s proposed levy on petitioner’s property to collect $66,539

in additions to tax for 2004. The additions to tax relate to respondent’s

determination that petitioner failed to timely file Forms 990, Return of

Organization Exempt From Income Tax, and 990-T, Exempt Organization

Business Income Tax Return (and proxy tax under section 6033(e)), for 2004 and
                                         -3-

failed to timely pay the related tax.1 The parties’ only dispute remaining from this

petition is a computational adjustment that turns on the amount of the deficiency

for 2004.

      Petitioner petitioned the Court in docket No. 27479-09 to redetermine

respondent’s determination of the following deficiencies and additions to tax under

section 6655:

                                                                Addition to tax
                     Taxable Year               Deficiency        sec. 6655

                           2002                   $43,719             -0-
                Jan. 1 through Jan. 1, 2003    10,130,454             -0-
                Jan. 2 through Dec. 31, 2003      113,181           $3,278
                           2004                   111,696            3,191

Respondent alleged in an amendment to answer that the fair market value of real

property underlying the deficiency for the one-day taxable year was $36,589,000

instead of $28,943,229 as determined in the notice of deficiency and that the

deficiency for that year is therefore $12,806,452 instead of $10,130,454.2

Respondent asserts in respondent’s opening brief that recent concessions put the


      1
       Unless otherwise indicated, section references are to the Internal Revenue
Code of 1986, as amended and in effect for the applicable years (Code), Rule
references are to the Tax Court Rules of Practice and Procedure, and dollar
amounts are rounded to the nearest dollar.
      2
        Most currently, on the basis of certain concessions that respondent made
after his amendment to answer, respondent alleged in his pretrial memorandum that
the deficiency for the one-day taxable year is $12,693,052.
                                         -4-

applicable value of the real property at $34,607,500. Petitioner argues that the fair

market value of the real property is $13,711,775.

      Following concessions (including petitioner’s concessions that it is not an

insurance company and that it does not qualify as a tax-exempt organization under

section 501(c)(15) as of January 1, 2002), we are left to decide the following

issues:

      1. whether respondent issued the deficiency notice to petitioner before the

three-year period of limitations of section 6501(a) expired as to 2003;

      2. whether petitioner properly elected to be treated as a domestic

corporation under section 953(d);

      3. whether the subsequent termination of petitioner’s section 953(d) election

resulted in a taxable exchange under sections 354, 367, and 953(d)(5) during the

one-day taxable year in 2003;

      4. whether the real property that Enniss Family Realty I, L.L.C. (EFR),

owned was included in that taxable exchange;

      5. whether the fair market value of the real property at the time of the

exchange on January 1, 2003 (valuation date), was $34,607,500 as respondent

asserts; and
                                         -5-

      6. whether petitioner’s gross income for the respective taxable years

includes “insurance premiums” of $128,584, $882, $299,178, and $298,000.

                                FINDINGS OF FACT

I. Preliminaries

      The parties submitted stipulated facts and exhibits. We incorporate the

stipulated facts and exhibits herein.3 Petitioner’s principal office was in Lakeside,

California, when its petitions were filed.

      Petitioner was formed in the British Virgin Islands as a private international

business company on August 29, 1996. It filed Forms 990 for 2002, 2003, and

2004 (as well as for earlier years). Later, in April 2006, petitioner submitted

Forms 1120-F, U.S. Income Tax Return of a Foreign Corporation, for 2002 and

2003 to the IRS. The IRS did not accept those Forms 1120-F.




      3
        Petitioner objected on grounds of relevancy to the admission into evidence
of Exhibits 45-J, 46-J, and 47-J. The Court reserved ruling on those objections at
trial. We now overrule the objections and admit the exhibits into evidence. See
Fed. R. Evid. 401 (stating that evidence is relevant if it tends to make the existence
of any fact or consequence more or less probable).
                                          -6-

II. Petitioner

      A. Background

      Petitioner was formed primarily to operate as an insurance (including

captive insurance and reinsurance) company and to own, develop, and deal in real

property, securities, and personal property. On January 8, 1998, its initial director

resolved that all of petitioner’s stock be issued to Caesar Cavaricci and that Adam

Devone and Bruce Molnar be appointed as petitioner’s directors. The initial

director also resolved that its contemporaneously tendered resignation as

petitioner’s initial director was accepted.

      B. Section 953(d) Election

      On or about November 16, 1998, petitioner delivered to the IRS a “Foreign

Insurance Company Election Under Section 953(d)” (section 953(d) election),

stating that petitioner was electing under section 953(d) to be treated as a domestic

corporation for U.S. tax purposes effective the first day of petitioner’s taxable year

commencing December 27, 1997. Deanna S. Gilpin signed the election on

November 16, 1998, in her reported capacity as petitioner’s secretary and under

penalty of perjury that the statements therein were true and complete to the best of

her knowledge and belief. On or about March 20, 2000, petitioner submitted to the

IRS a Form 2848, Power of Attorney and Declaration of Representative,
                                         -7-

designating Mr. Molnar, Mr. Cavaricci, and David B. Liptz (an associate of Mr.

Molnar’s) as petitioner’s authorized representatives regarding the section 953(d)

election and other stated matters, as each applied to petitioner’s Federal income tax

for 1996 through 2000.

III. Enniss Family

      A. Family Members

      The Enniss family (as relevant here) has eight members. Arnold Reid

Enniss (Reid Enniss) and his wife (now deceased), Delpha Enniss, are two of the

members. Their children are the other six members. The children’s names are

Chad Enniss, Wade Enniss, Blake Enniss, Carolyn Sandoval, Kelly Kufa, and Eric

Enniss.

      B. Enniss Family Business

      The Enniss family has owned and operated a sand mine or quarry through

various entities for over five decades. The related business mines or dredges sand,

topsoil, and other dirt products (collectively, sand) mainly (if not solely) from

riverbeds and markets and sells the mined sand. The Enniss family also for many

years has through various entities owned and operated a general engineering and

general building contracting business and a steel fabrication and erection,
                                          -8-

construction trucking, demolition, and grading business. Each member of the

Enniss family is involved in the family businesses.

      The Enniss family began operating the sand mine in the early 1970s through

their controlled corporation, Enniss Enterprises, Inc. In 1987, Enniss Enterprises,

Inc., applied for a major use permit (MUP) with respect to the sand mine. The

sand mine was in Lakeside, and a significant portion of the property was on the

San Vicente Creek riverplain. On April 5, 1990, the San Diego County Planning

and Environmental Review Board approved the MUP, allowing Enniss Enterprises,

Inc., for a 15-year period, to conduct a mining operation that excavated and

removed 2.2 million cubic yards of sand and gravel and conducted related

screening.4 Eventually, from January 2002 through 2004, the sand mine business

was owned and operated by Enniss, Inc. (another entity that the Enniss family

controlled as discussed below). The Enniss family, through their various entities,

excavated approximately 1,708,960 tons of sand (approximately 1,139,307 cubic

yards) from the sand mine from 1990 to 2001.5


      4
          One cubic yard of sand generally weighs 1-1/2 tons.
      5
       The parties stipulated that Exhibit 74-J contains the Mining Operation
Annual Reports for Enniss Enterprises, Inc., Enniss, Inc., and Commercial
Conservancy Number One (another Enniss family controlled entity d.b.a. Enniss
Enterprises) for 1991 through 2001 and 2003 through 2009. Respondent in his
opening brief cited this exhibit and proposed that the Court find that approximately
                                                                         (continued...)
                                         -9-

IV. Lawsuit

      In February 1998, an employee of the Enniss family business was seriously

injured while at work, and he sued some or all of the Enniss family members both

personally and through their business. The Enniss family retained various

attorneys to defend them in the lawsuit and to structure the family’s finances to

protect their assets. The Enniss family asked Earl Husted, an attorney, for advice

on asset protection and estate planning. Mr. Husted recommended that the Enniss

family contact another attorney, Fred Turner, and Mr. Molnar, a certified public

accountant (C.P.A.). Mr. Turner and Mr. Molnar coowned a business in Orange

County, California, named Global Advisors.

V. Petitioner’s Application for Tax Exemption

      On June 17, 1999, petitioner filed with the IRS a Form 1024, Application for

Recognition of Exemption Under Section 501(a), seeking tax-exempt status under

      5
        (...continued)
1,708,960 tons of sand were excavated between 1991 and 2001. Petitioner in its
answering brief admitted this proposed finding. We find in Exhibit 74-J, however,
that the first annual report, while signed in 1991, actually reports sand that was
excavated in 1990 and this sand is included in the 1,708,960 tons. We therefore
find contrary to the stipulation that the sand was excavated between 1990 and
2001. See Gerdau MacSteel, Inc. v. Commissioner, 

, 144 n.55 (2012)
(stating that, where justice requires, the Court may disregard a stipulation which is
clearly contrary to the record). We also note that the annual report for 1995 lists a
number that appears to be 140,000 but could be 190,000. Respondent in his
proposed finding of fact has reflected that number as 190,000, and we do the same
given petitioner’s agreement with respondent’s proposed finding.
                                         - 10 -

section 501(c)(15) as a tax-exempt insurance company. The application stated that

petitioner was a licensed property and casualty insurance company which had

entered into reinsurance contracts and anticipated continuing that line of business.

The application stated that petitioner did not insure related parties or reinsure any

related-party insurance. The application listed Mr. Cavaricci as petitioner’s

president and director and Vince Ambrose as petitioner’s secretary and director.

On or about September 15, 1999, petitioner submitted to the IRS a Form 2848

authorizing Mr. Molnar (as a C.P.A.), Mr. Cavaricci (as an officer of petitioner),

and Ms. Gilpin (as a full-time employee of petitioner) to represent petitioner as to

the application and to petitioner’s Forms 990, as each related to petitioner’s

Federal income tax for 1996 through 1999.

      On November 24, 1999, the IRS (through the Chief of Exempt Organization

Technical Branch 3) notified petitioner by letter that the IRS had considered the

application and determined solely on the basis of the information furnished

therewith that petitioner was tax exempt as an organization described in section

501(c)(15), effective January 1, 1998. The IRS noted in the letter that petitioner

had filed its section 953(d) election. Petitioner subsequently filed its Forms 990

for 2002, 2003, and 2004 consistent with the status of a domestic tax-exempt entity

for Federal tax purposes.
                                        - 11 -

VI. Enniss Family’s Asset Protection and Estate Planning Strategies

      During or before 2001, Mr. Turner and Mr. Molnar met with the Enniss

family at the family’s office in Lakeside. The attendees discussed the previously

mentioned lawsuit (which was then pending), the Enniss family’s business

operations, and the possible benefits of a captive insurance company.6 Mr. Turner

and Mr. Molnar suggested that the Enniss family consider using a captive

insurance arrangement to protect their assets. Later that year, the Enniss family

decided to avail themselves of the proffered benefits of a captive insurance

company. Global Advisors recommended that the Enniss family purchase

petitioner, an already-existing captive insurance company that the then owner

wanted to sell, in order to avoid the costs of forming a new entity and to save

money on the venture. Petitioner’s stock was then wholly owned by Mr. Cavaricci.




      6
      As the Court explained in Hosp. Corp. of Am. v. Commissioner,
T.C. Memo. 1997-482:

             The insurance laws of some States provide for a category of
      limited purpose insurance companies, popularly called captive
      insurance companies or captive insurers. Captive insurance company
      statutes generally apply to companies that insure on a direct basis only
      the risks of companies related by ownership to the insurer. Because
      pure captive insurance companies typically are formed for the purpose
      of insuring the risks of related companies, the function of risk
      selection, in essence, is attained at the onset.
                                         - 12 -

VII. Enniss Family Purchases Petitioner Through BC Investments, L.L.C.

      From August through December 2001, the Enniss family caused a series of

transactions to be consummated to effect the family’s purchase of all petitioner

stock from Mr. Cavaricci. Through the transactions, petitioner first relinquished

all of its assets and liabilities and then Mr. Cavaricci sold his petitioner stock to BC

Investments, L.L.C., for $10,000.7 At that time, each member of the Enniss family

owned a 12.5% interest in BC Investments, L.L.C., and the IRS had issued the

Enniss family a Federal identification number for the company.

      BC Investments, L.L.C., continued to be petitioner’s sole owner through

2004. BC Investments, L.L.C., did not file a Form 1065, U.S. Return of

Partnership Income, or a Form 1120, U.S. Corporation Income Tax Return, for any

of the years 2001 through 2004.




      7
        The parties have stipulated that Exhibit 21-J is a stock purchase agreement
between Mr. Cavaricci and BC Investments, L.L.C., dated December 11, 2001, and
that Exhibit 23-J is a copy of the Form 990 that petitioner filed for 2002. The
former exhibit states that BC Investments, L.L.C., is a Nevis limited liability
company, and the latter exhibit states that BC Investments, L.L.C., is a California
general partnership. The parties also have stipulated that petitioner has not
stipulated that BC Investments, L.L.C., is either a Nevis limited liability company
or a California general partnership. The record fails to indicate whether BC
Investments, L.L.C., is a Nevis limited liability company, a California general
partnership, or something else, and we need not and do not make a finding as to
that matter.
                                       - 13 -

VIII. Enniss, Inc., and EFR

      A. Overview

      Mr. Turner and Mr. Molnar wanted to establish an entity (eventually, Enniss,

Inc.) to operate the Enniss family’s general engineering and general building

contracting business and another entity (eventually, EFR) to hold the Enniss

family’s real property. Mr. Turner and Mr. Molnar wanted petitioner to provide

insurance coverage for Enniss, Inc., and for EFR.

      B. EFR

             1. Background

      Effective December 31, 2001, the Enniss family formed EFR as a California

limited liability company to hold and to manage their real property. Incident to

this formation, each Enniss family member contributed $125 to EFR in exchange

for a 12.5% interest in EFR. Each Enniss family member later transferred his or

her real property to EFR. From 2002 through 2004, EFR owned various pieces of

real property and operated primarily as a real property management company.

Reid Enniss was EFR’s general manager, and members of the Enniss family

performed in the United States activities related to the management of EFR’s real

properties. EFR did not file a Form 1065 (or a Form 1120) for any of the years

2001 through 2004.
                                         - 14 -

             2. Transfers

      On or about January 1, 2002, the Enniss family contributed their

membership interests in EFR to BC Investments, L.L.C.8 BC Investments, L.L.C.,

then contributed those interests to petitioner. As of January 1, 2002, petitioner

owned EFR as a “Disregarded Entity” for Federal tax purposes.9 Petitioner has

treated EFR as its wholly owned disregarded entity since January 1, 2002.

             3. Specific Real Property Holdings

      During 2002 and 2003, EFR owned the following nine groups of property,

as identified by Eichel, Inc., real estate analysis and appraisers, with the following

corresponding parcels:10




      8
        While Ms. Sandoval testified that she never transferred her membership
interest in EFR to BC Investments, L.L.C., that testimony is disproved by the
credible evidence in the record.
      9
        See secs. 301.7701-1(a)(4) (providing that “certain organizations that have
a single owner can choose to be recognized or disregarded as entities separate from
their owners”), 301.7701-3(b)(1) (providing that a domestic entity is “Disregarded
as an entity separate from its owner if it has a single owner” and does not elect
otherwise), Proced. & Admin. Regs.
      10
        For part of this time, EFR also owned lot 8, parcel No. 375-190-08-00, in
addition to the listed parcels. That 1.08-acre parcel was sold on October 8, 2002,
for $635,000.
                                        - 15 -
                                                         Approximate
Property group               Parcel     Parcel number      acreage     Zoning

1--Sand mine
                        A:   Lot 210     375-040-01-00      18.38       A70
                        B:   Lot 209     375-040-18-00      14.50       A70
                        C:   Lot 206     375-040-15-00       9.90       A70
                        D:   Lot 203     375-040-14-00      10.15       A70
                        E:   Lot 215     375-040-33-00      17.70       M58
                                                            70.63

2--Rock quarry
                        F: Highway 67    326-050-11-00       7.53       M58

3--Vacant industrial
       land

                        G: Lot 212       375-041-41-00       2.86       M58
                        H:               375-041-44-00       4.70       M58
                        I: Lot 1         375-190-01-00       0.88       M58
                                                             8.44

4--Vacant industrial
       land

                        J: Lot 2         375-190-02-00       1.05      M58/A70
                        K: Lot 4         375-190-04-00       2.37      M58/A70
                        L: Lot 10        375-190-10-00       1.14       M58
                        M: Lot 11        375-190-11-00       1.29       M58
                        N: Lot 12        375-190-12-00       3.93       M58
                                                             9.78

5--Vacant multifamily
       site

                        O: Graves        384-120-63-00       22.23      HL
                        P:               378-120-62-00        6.25      HL
                        Q:               378-120-31-00        2.99      HL
                                                             31.47

6--Single-family
    dwelling

                        R: Lot 17        379-060-21-00        2.76      A70

7--Single-family
    dwelling

                        S: Via Viejas    404-300-03-00        2.5       A70
                                            - 16 -
      8--Vacant single-family
                lots

                                T: Utah       27-02-426-002    0.13        R
                                U: Utah       27-02-426-005    0.16        R
                                                               0.29

      9--Vacant residential
               site

                                V: Ramona     287-031-26-00   39.24       A72




      A70 zoning allows limited agricultural and commercial uses related to

agricultural or civic uses. M58 zoning reflects high-impact industrial use (e.g.,

steel fabrication and contractors’ yards), and vacant land with M58 zoning

provides an additional advantage to certain businesses in that it allows for

unenclosed commercial and industrial uses having potential nuisance

characteristics. HL zoning allows for limited residential development.

               4. Description of Properties

                        a. Property Group 1

      Property group 1 is the Enniss family’s sand mine plant at the corner of

Vigilante Road and Moreno Avenue. As of the valuation date, parcels A through

D were used to mine sand and topsoil, and parcel E, which had a few small

buildings on it, was used primarily as the sand mine’s business office and for

storage. The highest and best use of property group 1 as of the valuation date was

continued mining of the property’s mineral resources. The highest and best use for
                                         - 17 -

the property after the mineral resources are depleted is industrial development or

outdoor storage.

                     b. Property Group 2

      Property group 2 is vacant land north of Vigilante Road, on State Highway

67. This property’s use is limited to source material for a rock quarry operation.

The parties agree that the fair market value of property group 2 as of the valuation

date was $500,000.

                     c. Property Groups 3 and 4

      Property groups 3 and 4 (which the parties refer to as the Vigilante Industrial

Lots) are vacant industrial lots across the street from each other on Vigilante Road

between property group 1 and State Highway 67. The eight underlying parcels are

irregular in shape, they are accessible by way of Vigilante Road, and they have

available water, sewer, and electricity service.

      As of the valuation date, property groups 3 and 4 were used for open surface

and minor office buildings. The highest and best use for these property groups was

industrial usage, open storage, or outdoor manufacturing.
                                         - 18 -

                    d. Property Group 5

      Property group 5 (which the parties refer to as the Graves Avenue

Properties) is undeveloped Rattlesnake Mountain hillside land in Santee,

California, approximately five miles south of property groups 3 and 4. Property

group 5 is located at the terminus of Graves Avenue.

      The Enniss family bought property group 5 for $300,000 in 1998. The

previous owner had mined granite on the property, leaving a decomposed granite

pit with several hundred thousand tons of large boulders weighing from 1 to 30

tons each. The Enniss family purchased property group 5 to resell the boulders for

rip rap along the coast of California. Rip rap is the rock revetment that goes along

the beach to dissipate the energy from the ocean so that it does not erode the cliffs.

       The Enniss family started marketing the boulders as rip rap during the

spring of 1999, but a local sheriff ordered them in 2001 to stop their activities on

property group 5. The property remained idle until 2002, when a lawyer for a

developer, Joel Faucetta, approached the Enniss family to buy the property as part

of Mr. Faucetta’s efforts to redevelop a surrounding area to the west. Graves

Avenue was the proposed development’s only access road, and Mr. Faucetta

wanted property group 5 to access his proposed development. Santee was backing

and spearheading a development of the surrounding area for residential use.
                                          - 19 -

      On August 12, 2002, EFR, as optionor, and Faucetta Development Co.

(FDC), as optionee, entered into an option agreement that provided FDC, for a

term of up to 24 months (or, if earlier, five days after the recordation of the first

final subdivision map for the development), with the right to purchase property

group 5 for $5 million.11 FDC paid EFR $1 for the option. If FDC failed


      11
           The option agreement provided in part:

             A.      Optionor has offered to grant Optionee an option to
      purchase its fee title interest in approximately 30 acres (plus or minus)
      of real property located in the City of Santee, County of San Diego,
      California * * * on the terms and conditions hereinafter set forth.

            B.     Optionee desires to acquire an option to purchase the
      Property under the terms and conditions hereinafter set forth.

            C.      Optionee understands and agrees that the Property will
      be processed for development entitlements with other adjacent
      property consisting of approximately 275 acres under a joint
      application for one Master Project.

            NOW THEREFORE, in consideration of the payment of $1.00
      and the mutual promises contained herein, the parties agree as
      follows:

             1.     Grant of Option. Optionor hereby grants to Optionee, or
      its Assignee, the exclusive right and option to purchase the Property
      upon the terms and conditions and for the purchase price hereinafter
      set forth.

                      *      *     *      *        *   *      *

                                                                           (continued...)
                                        - 20 -

to exercise the option, EFR had to sell FDC two easements over property group 5

at a total cost of $2 million and FDC had to make certain improvements to the

property. When the option agreement was entered into, Reid Enniss knew that Mr.

Faucetta was trying to acquire several surrounding parcels for a larger

development. On the valuation date, property group 5 was zoned Hillside Limited,

which allowed residential development of approximately seven to nine homes.

      On August 8, 2004, FDC notified EFR that FDC was exercising the option

to purchase property group 5 on or before September 12, 2004. FDC and EFR

      11
        (...continued)
              6.    Exercise of Option. In the event that Optionee, or its
      Assignee, exercises this Option, such exercise shall be effected by
      Optionee, or its Assignee, sending written notice to Optionor of the
      intent to exercise the option. Thereafter, Optionee shall within three
      (3) business days of the date of the written notice open an escrow to
      purchase the Property in accordance with the terms provided herein.

              In the event that Optionee does not exercise the Option
      provided for herein, Optionor shall sell to Optionee an easement for
      ingress and egress over the road across the Property shown on the
      approved tentative map for the Master Project. In addition, Optionor
      shall grant Optionee an easement over the land at the entrance of the
      Master Project, not to exceed one-half acre, in order to erect
      appropriate entry monumentation for the Master Project. In exchange
      for the purchase of the easement for the road and the easement for
      entry monumentation of the Master Project, Optionee shall improve
      the access road, the entry monumentation area and provide stubbed
      underground utilities, including sewer, water, electricity and cable to
      all the approved lots on the Property and pay the sum of Two Million
      and No/Dollars ($2,000,000) within five (5) business days after the
      approval of the first final subdivision map for the Master Project.
                                        - 21 -

eventually agreed on September 20, 2004, to extend the close of the sale and the

escrow until April 15, 2005, in exchange for FDC’s agreeing to pay EFR an

additional $500,000. The option was ultimately assigned to Lennar Homes, a

national home builder, which purchased property group 5 on April 15, 2005, for its

Sky Ranch development project.

                      e. Property Group 6

      Property group 6 is an older single family dwelling in Lakeside. The parties

agree that the fair market value of property group 6 was $367,500 as of the

valuation date.

                      f. Property Group 7

      Property group 7 is a high-end single-family dwelling in Alpine, California.

The parties agree that the fair market value of property group 7 was $918,000 as of

the valuation date.

                      g. Property Group 8

      Property group 8 is two adjacent single family lots in Sandy, Utah. The

parties agree that the fair market value of property group 8 was $126,000 as of the

valuation date.
                                        - 22 -

                    h. Property Group 9

      Property Group 9 is vacant land in a remote rural area of northeast San

Diego County. The parties agree that the fair market value of property group 9 was

$145,000 as of the valuation date.

             5. Leases

      From 2002 through 2004, EFR entered into leasing agreements with various

third parties for rental of its properties. On January 1, 2002, EFR leased parcels A

through D of property group 1 to Enniss, Inc., in exchange for a royalty payment of

$2 per ton of material processed and sold from those parcels.

      C. Enniss, Inc.

      Mr. Husted incorporated Enniss, Inc., in the State of California on or about

December 19, 2001. Enniss, Inc., is involved in general engineering, general

building contracting, steel fabrication and erection, construction trucking,

demolition, and grading and operates the Enniss family’s sand mine. Enniss, Inc.,

is controlled by the Enniss family.

      Since January 1, 2002 (including on the valuation date), Enniss, Inc., has

operated the sand mine on parcels A through D pursuant to its lease agreement

with EFR. The agreement provided that Enniss, Inc., could use the property as its

sand mining operation, materials division office, and maintenance facilities. The
                                         - 23 -

parties to that lease also entered into a second lease agreement on the same date

under which Enniss, Inc., used one acre and 4,800 feet of office space on parcel E.

As of the valuation date, Enniss, Inc., used parcel E as the site for its offices and

storage and maintenance sheds, as well as a yard area for the stacking and

processing of materials.12

IX. Reclamation Plan

      A. Background

      The Surface Mining and Reclamation Act of 1975 (SMARA), Cal. Pub. Res.

secs. 2710 through 2796 (West 2001 & Supp. 2013), required that the sand mine

have an approved reclamation plan that details how the mine would be reclaimed

to a usable condition in a manner that prevented or minimized adverse

environmental impacts and eliminated residual hazard to the public health and

safety. The reclamation plan for property group 1, as in effect on the valuation

date, generally required that the operator of the sand mine reclaim the sand mine

after the mining was complete. Specifically, as of that time, fill had to be

transported to the pits on the property to construct various stable and compacted

pads. The reclamation plan also required that a drainage channel be constructed




      12
           Minimal mining also occurred on parcel E.
                                          - 24 -

through the two southern parcels of the site to carry water from the lake to the

existing San Vicente Creek south of the site.

      The SMARA also required a financial assurance mechanism (e.g., a bond or

a letter of credit) to guarantee that the costs associated with reclaiming the land in

accordance with the approved reclamation plan would be paid if the mine operator

became financially insolvent. Regardless of the mine operator’s financial

condition, the land owner is ultimately responsible for the cost of reclamation. As

of the valuation date, no financial assurance was in place to guarantee that

reclamation of property group 1 would occur. Property group 1, once in the 1990s,

had a $40,000 bond but the bond expired before the valuation date.

      B. Fill

      The primary reclamation activity is obtaining fill to refill the mined pits.13

Sand mine owners and operators in San Diego County sometimes purchase fill,

especially when the fill is of a specialized material. Other times, the owners and

operators receive free fill from construction debris and other off-site sources, or

charge a $2 to $6 per ton tipping fee to allow companies desiring to dispose of

their fill to dump the fill in the mined pits at the sand mines.


      13
         Other reclamation activities included removing equipment and structures,
revegetation, and certain indirect items. The costs of these other activities were
relatively minimal in relation to the cost of the fill.
                                          - 25 -

         As of the valuation date, multiple mining enterprises in the San Diego area

used fill for reclamation purposes. Many of these enterprises charged tipping fees

for accepting the fill. Development projects in downtown San Diego provided a

major source of the fill in San Diego County, and other sites outside of the

downtown area did as well. Additional fill sources in the Lakeside area at or

around that time included concrete rubble, asphalt rubble, construction overburden,

and sand and gravel that was not suitable for processing. During 2002 and 2003,

the amount of fill that these areas around the sand mine were capable of generating

was projected over five years to comprise between 475,000 and 2 million cubic

yards.

         Enniss, Inc.’s nearby neighbor, Hanson Materials (Hanson), had about 2

million cubic yards of fill dirt at that time sitting in a large pile on the property.

The Hanson site was near property group 1 but, inter alia, a 5,700-foot conveyor

system would have had to be constructed to transport the fill to property group 1.

Baxter owned a parcel of real property between property group 1 and the Hanson

site. The owner of property group 1 would need Baxter’s consent to build the

conveyor on or over Baxter’s property. Baxter was a blasting contractor and stored

explosives on its land. Other parcels of land also were between the Hanson site

and property group 1, and the owner of property group 1 also needed the consent
                                          - 26 -

of those property owners to build the conveyor on or over their properties. The

Enniss family had no permission from Baxter or from any of the other property

owners to run a conveyor over their properties. The Enniss family, however, may

have then owned the other properties.14

      Beginning in 2002, Enniss, Inc., charged companies tipping fees to dump

their fill at its sand mine. The relevant data underlying the tipping fees that Enniss,

Inc., received in 2002 and 2003 is as follows:

                     Fill received        Tipping fees     Average tipping
           Year          (tons)             collected       fee per ton

           2002        2,769.52             $84,128             $30.38
           2003       10,483.37             144,450              13.78

      C. Lakes

      Property group 1 included a northerly lake. As of the valuation date, no

sand remained for permissible excavation in that lake. The approved mining depth

was generally 35 feet, and the northerly lake had been overexcavated to a depth of

at least 40 feet and perhaps as deep as 75 feet. The approved reclamation plan and

the MUP called for the area to remain a lake.


      14
        Although the record is ambiguous, Chad Enniss testified that to construct
and to operate the proposed conveyor system Enniss Inc., would have needed
“permission [i.e., an easement or license] from Hanson, Baxter, [and] possibly a
couple of the others there on Vigilante Road, but at that time, I think that we
owned all of those” other parcels of property.
                                         - 27 -

      Property group 1 also included a southerly lake. As of the valuation date,

no sand remained for permissible excavation in the southerly lake. The southerly

lake had to be filled as part of the reclamation of property group 1.

      D. Condition of Mine on the Valuation Date

      On the valuation date, property group 1 was in the worst condition it had

been in since the Enniss family started mining the property. Few if any conditions

of the MUP had been met; little reclamation had taken place; and the property had

been mined out of phase, over depth, and too close to the road. In addition, no

financial assurance was in place; existing roads were not widened; new roads were

not built; and the mines were approximately 60 to 80 feet deep from the surface

elevation.

X. Ms. Sandoval

      Ms. Sandoval was petitioner’s secretary during the subject years. She was in

charge of filing and signing petitioner’s tax returns.

XI. Petitioner’s Forms 990 and 990-T

      A. Form 990 for 2002

      Petitioner filed its Form 990 for 2002 on or about January 15, 2004. The

return lists Chad Enniss as petitioner’s president and Ms. Sandoval as petitioner’s

secretary. The return is signed and dated by Ms. Sandoval, and she also printed her
                                           - 28 -

name and title (“Secretary”) next to her signature on the line for those items. The

return was prepared and also signed by a representative of Molnar and Associates

on behalf of that entity in his or her capacity as the return’s preparer. The

representative’s signature is illegible.

      The Form 990 for 2002 reports that EFR is a limited liability company that

petitioner wholly owned. The return also reports that EFR is a disregarded entity.

In addition, the return reports that petitioner received tax-exempt insurance

premium revenue of $128,584 during 2002.

      B. Form 990 for 2003

      Petitioner filed its Form 990 for 2003 on or about November 19, 2004. The

return lists Chad Enniss as petitioner’s president and Ms. Sandoval as petitioner’s

secretary. The return was prepared and signed by a representative of Molnar and

Associates on behalf of that entity in his or her capacity as the return’s preparer.

The representative’s signature is illegible, but it appears to be that of the same

individual who signed the Form 990 for 2002 as its preparer.15 The return was not

signed by anyone other than the preparer.

      The Form 990 for 2003 reports that EFR is a limited liability company that

petitioner wholly owns. The return also reports that EFR is a disregarded entity.

      15
       While petitioner asks the Court to find that the signature is that of Mr.
Molnar, the signature is most likely that of Mr. Liptz.
                                        - 29 -

The return also reports that petitioner received tax-exempt insurance premiums

revenue of $300,000 during 2003.

      C. Form 990 for 2004

      Petitioner filed its Form 990 for 2004 on or about November 21, 2005. The

return lists Chad Enniss as petitioner’s president and Ms. Sandoval as petitioner’s

secretary. The return was prepared by J. Douglass Jennings, Jr., on behalf of his

professional corporation, and was signed by him in that capacity. The return also

was signed and dated by Ms. Sandoval in her capacity as petitioner’s secretary, and

she also printed her name and title (“Secretary”) under her signature on the line for

those items.

      The Form 990 for 2004 reports that petitioner received tax-exempt insurance

premiums revenue of $298,000 during 2004.

      D. Form 990-T for 2004

      Petitioner filed its Form 990-T for 2004 on or about November 15, 2005.

XII. Respondent’s Examination

      A. Tax-Exempt Status

      During or about June 2005, the IRS (through its Tax-Exempt and

Government Entities Division) began an examination for petitioner’s 2002 and

2003 taxable years and most specifically petitioner’s tax-exempt status under
                                         - 30 -

section 501(c)(15). The IRS ultimately determined that petitioner was not an

insurance company and did not qualify as a tax-exempt organization described in

section 501(c)(15) as of January 1, 2002. Petitioner eventually agreed with this

determination. On April 12, 2006, Ms. Sandoval, as petitioner’s secretary and

treasurer, signed Form 6018-A, Consent to Proposed Action, consenting to the

IRS’s revocation of petitioner’s tax exemption as of January 1, 2002.

      B. Income Tax

      During or around November 2005, the IRS (through its Large and Mid-Size

Business Division) began an examination for petitioner’s income tax liabilities for

2002 and 2003. The examination was later expanded to include 2004.

      Respondent used substitute for return procedures to determine petitioner’s

income tax liability for each subject year. Respondent determined that the

termination of petitioner’s section 953(d) election caused petitioner to be a taxable

corporation which sold its assets to a controlled foreign corporation on January 1,

2003 (which, respondent determined, was a one-day taxable year in and of itself).

Respondent bifurcated petitioner’s 2003 taxable year into the one-day taxable year

beginning and ended on January 1, 2003, and a second taxable year consisting of

the remainder of 2003. For the one-day taxable year, respondent determined

petitioner’s income tax liability in part on the basis of the deemed sale.
                                         - 31 -

XIII. Notice of Deficiency

      On August 5, 2009, respondent issued petitioner the notice of deficiency

underlying these cases.

                                       OPINION

I. Burden of Proof

      With one exception, petitioner bears the burden of proving that respondent’s

determination of the deficiencies set forth in the deficiency notice is incorrect. See

Rule 142(a)(1); Welch v. Helvering, 

, 115 (1933); Baxter v.

Commissioner, 

, 495 (9th Cir. 1987), aff’g in part, rev’g in part on

issue not relevant here T.C. Memo. 1985-378. Section 7491(a) sometimes shifts to

the Commissioner part or all of the burden of proof where the taxpayer introduces

credible evidence of a factual matter, but that section does not apply where a

taxpayer fails to satisfy the related requirements. See, e.g., sec. 7491(a)(2)(A), (B),

and (C). Petitioner has failed to establish that it meets all of those requirements.

      The single exception is that respondent bears the burden of proof as to the

fair market value of the real property underlying the deficiency for the one-day

taxable year. These cases are appealable to the Court of Appeals for the Ninth

Circuit (absent the parties’ stipulation to the contrary), and this Court will follow a

decision of that court which is “squarely in point”. See Golsen v. Commissioner,
                                        - 32 -

, 757 (1970), aff’d, 

(10th Cir. 1971). The Court of

Appeals for the Ninth Circuit has indicated, on at least three occasions, that the

presumption of correctness that attaches to a notice of deficiency is forfeited where

the Commissioner adopts a litigating position different from the valuation stated in

a deficiency notice. See Estate of Mitchell v. Commissioner, 

, 701-

702 (9th Cir. 2001), aff’g in part, vacating in part and remanding 

(1994) and T.C. Memo. 1997-461; Estate of Simplot v. Commissioner, 

, 1193-1194 (9th Cir. 2001), rev’g and remanding 

(1999);

Morrissey v. Commissioner, 

, 1148-1149 (9th Cir. 2001), rev’g and

remanding Estate of Kaufman v. Commissioner, T.C. Memo. 1999-119.16

Respondent’s litigating position as to the fair market value of the real property

underlying the deficiency in the one-day taxable year differs from the value stated

in the deficiency notice.


      16
         In each of these cases, the Commissioner determined an estate tax
deficiency on the basis of an increase in the fair market value over that reported on
the estate tax return and later submitted expert reports supporting the
Commissioner’s concessions that the fair market value was less than that
determined in the statutory notice. See Estate of Mitchell v. Commissioner, 

, 698-699 (9th Cir. 2001), aff’g in part, vacating in part and remanding

(1994) and T.C. Memo. 1997-461; Estate of Simplot v.
Commissioner, 

, 1193-1194 (9th Cir. 2001), rev’g and remanding

(1999); Morrissey v. Commissioner, 

, 1149 (9th Cir.
2001), rev’g and remanding Estate of Kaufman v. Commissioner, T.C. Memo.
1999-119.
                                         - 33 -

II. Period of Limitations

      Petitioner argues that the three-year period of limitations of section 6501(a)

precludes respondent from assessing any tax for the one-day taxable year. To that

end, petitioner asserts, it filed a Form 990 for 2003 that commenced the period of

limitations for the one-day taxable year. Respondent argues that the period of

limitations for the one-day taxable year never began because, respondent asserts

(among other reasons), petitioner did not file a valid Form 990 for any part of

2003. We agree with respondent.

      Section 6501(a) generally provides that the Commissioner must assess any

income tax for a taxable year within three years after the return was filed. For this

purpose, section 6501(g)(2) provides that “[i]f a taxpayer determines in good faith

that it is an exempt organization and files a return as such under section 6033, and

if such taxpayer is thereafter held to be a taxable organization for the taxable year

for which the return is filed, such return shall be deemed the return of the

organization”. Section 6033(a)(1) requires, with limited exceptions not applicable

here, that every organization exempt from tax under section 501(a) file an annual

return listing certain information, and section 1.6033-2(a)(2)(i), Proced. & Admin.

Regs., generally states that the return shall be filed on Form 990. Section 6062

requires that a corporation’s “president, vice-president, treasurer, assistant
                                        - 34 -

treasurer, chief accounting officer or any other officer duly authorized so to act”

sign the corporation’s income tax return. Filing an unsigned form is not the filing

of a valid return for purposes of commencing the running of the period of

limitations. See Lucas v. Pilliod Lumber Co., 

(1930); Elliott v.

Commissioner, 

(1999); see also Richardson v. Commissioner, 

, 823-824 (1979) (and the cases cited thereat). This is true even where the

IRS accepts and processes the unsigned return. See Pilliod Lumber 

; Plunkett v. Commissioner, 

, 650 (1st Cir. 1941), aff’g 

(1940).

      The parties dispute whether petitioner’s Form 990 for 2003 that was

submitted to the IRS was signed by one of petitioner’s officers. Petitioner asserts

in its brief that the form was signed by Ms. Sandoval but that neither petitioner nor

respondent has been able to produce a copy of the signed form. Petitioner asserts

alternatively that the return was signed by Mr. Molnar as a director who was duly

authorized to sign the return on petitioner’s behalf. We disagree with petitioner on

both points.17




      17
        Petitioner argues that the term “officer” in sec. 6062 naturally includes a
corporation’s director even if the director is not also a corporate officer. We need
not and do not decide that issue.
                                         - 35 -

      Exhibit 24-J is a joint exhibit that was entered into evidence through a

stipulation that the exhibit “is a true and correct copy of the Form 990 Return of

Organization Exempt from Income Tax filed by CGL [petitioner] for tax year

2003.” The form bears no signature on the line for the “signature of officer”. Nor

does it list any date on the corresponding line for the date, or any information on

the corresponding line for “Type or print name and title”. In the section that is

labeled “Paid Preparer’s Use Only”, a signature was reportedly entered on

November 4, 2004, by a preparer who worked for Molnar and Associates. The

preparer’s signature is illegible, however, and the return does not otherwise

identify the preparer. The signature does not appear to be that of either Chad

Enniss or Ms. Sandoval, who the return reports are petitioner’s only officers. Nor

does the return contain any other signatures.

      Petitioner asks the Court to find as a fact that Ms. Sandoval signed

petitioner’s Form 990 for 2003 notwithstanding the fact that Exhibit 24-J contains

no such signature and that the parties have stipulated that the exhibit is a true copy

of petitioner’s Form 990 for 2003. To that end, petitioner invites the Court to

minimize the significance of the stipulation by observing that Ms. Sandoval

testified at trial that “I think I signed the [2002 through 2004] returns.” Ms.

Sandoval also testified that “I believe I did” sign petitioner’s returns for 2002
                                         - 36 -

through 2004. We decline petitioner’s invitation to make its desired finding. A

stipulation that only one of the parties thereto challenges is generally treated as a

conclusive admission to the extent of its terms, and the party is not allowed to

qualify, change, or contradict any or all parts of a stipulation unless justice

requires.18 See Rule 91(e); Spencer v. Commissioner, 

, 81 (1998);

Modern Am. Life Ins. Co. v. Commissioner, 

, 1249 (1989); see also

Bail Bonds by Marvin Nelson, Inc. v. Commissioner, 

, 1547-1548

(9th Cir. 1987), aff’g T.C. Memo. 1986-23. We are not persuaded that Ms.

Sandoval’s equivocal testimony supports a conclusion that justice requires that we

disregard any part of the parties’ stipulation that Exhibit 24-J “is a true and correct

copy of the Form 990 Return of Organization Exempt from Income Tax filed by

CGL [petitioner] for tax year 2003”.

      Nor are we persuaded that the Form 990 which petitioner submitted to

respondent for 2003 was appropriately signed by one of petitioner’s officers

through the preparer’s signing of his or her name as the return preparer. The

preparer’s signature is illegible, as stated above, and the record does not otherwise

      18
        We note that the parties’ Joint Stipulation of Facts further states “that
either party may introduce other and further evidence not inconsistent with the
facts herein stipulated unless otherwise stated as reserved.” (Emphasis added.)
Stipulation 27, referencing Exhibit 24-J, does not reserve the issue as to its
accuracy but does state: “The truth of assertions within stipulated exhibits may be
rebutted or corroborated with additional evidence.”
                                          - 37 -

allow us to definitively find the preparer’s identity. Even if we were to assume that

the preparer’s signature on the Form 990 for 2003 was Mr. Molnar’s, an

assumption which we do not find as a fact notwithstanding petitioner’s request that

we do so, our view would stay the same. The preparer’s signature on that form is

explicitly that of an individual in his or her capacity as the preparer of the return; it

is not explicitly that of an officer of petitioner in his or her capacity as such.

Contrary to petitioner’s suggestion, the fact that the preparer signed his or her

name under penalties of perjury, as was required for the corporate officer’s

signature as well, is not enough to carry the day. We conclude that petitioner did

not file a Form 990 for 2003 which commenced the period of limitations for that

year and that the period remains open.19 See sec. 6501(c)(3).

III. Section 953(d) Election

       A. Validity of Election

       A foreign corporation may elect to be taxed as a domestic entity if the

corporation would qualify under the Code as an “insurance company” (if it were a

domestic entity) and it meets the other requirements set forth in section 953(d).

The parties dispute one of the other requirements, which the IRS included in


      19
        Petitioner also argues that the period of limitations began to run in April
2006 when it gave a Form 1120-F for 2003 to the IRS. We disagree. The IRS
never accepted that return, and the return was never filed.
                                         - 38 -

Notice 89-79, 1989-2 C.B. 392, as guidance for a foreign corporation’s making a

section 953(d) election.20 See also sec. 953(d)(1)(C) and (D) (authorizing the

Secretary to prescribe rules to ensure that taxes imposed on the corporation are

paid and stating that the foreign corporation must make the requisite election). The

disputed requirement is that a “responsible corporate officer” sign a corporation’s

election statement.

      Ms. Gilpin signed petitioner’s section 953(d) election statement under

penalty of perjury in her stated capacity as petitioner’s secretary, and she was a

“responsible corporate officer” if she was petitioner’s “president, vice-president,

treasurer, assistant treasurer, chief accounting officer, or any other officer duly

authorized so to act.” See sec. 6062; see also Notice 

. Ms. Gilpin’s

signing of her name on the election statement is prima facie evidence that

petitioner authorized her to make the election on its behalf. See sec. 6062.

      Petitioner argues that its section 953(d) election was invalid because,

petitioner states, Ms. Gilpin was not an officer authorized to sign the election

statement. We are unpersuaded that Ms. Gilpin lacked the requisite authority to

sign the statement. The fact that Ms. Gilpin signed the election under penalty of


      20
        Notice 89-79, 1989-2 C.B. 392, was modified and superseded by Rev.
Proc. 2003-47, 2003-2 C.B. 55, but that action is not effective as to the election
here.
                                          - 39 -

perjury in her stated capacity as petitioner’s officer and that petitioner then filed

the election with the IRS speaks loudly as to petitioner’s and Ms. Gilpin’s

understanding that Ms. Gilpin was then an officer authorized to make the election.

The same is true as to petitioner’s later reliance on the elected status in applying

for tax-exempt status under section 501(c)(15) and the fact that petitioner during

this proceeding has not come forward with any credible documentary or

testimonial evidence directly refuting that Ms. Gilpin was an officer who was

properly authorized on November 16, 1998, to make the election. We also bear in

mind that petitioner, after it filed the election statement with the IRS, confirmed its

understanding that the election was valid by submitting on or about March 20,

2000, a power of attorney that referenced the election without any dispute as to its

validity and that petitioner has repeatedly filed Federal returns consistent with its

election. The mere fact that some or all of the Forms 990 that petitioner filed with

the IRS may have failed to include a copy of petitioner’s election statement and

that Notice 

, instructs a taxpayer to attach its election statement to its

“annual income tax return, Form 1120PC or Form 1120L,” does not mean, as

petitioner concludes, that petitioner’s election is rendered invalid ab initio. Nor do

we agree with petitioner’s assertion that respondent was on notice as to the identity

of petitioner’s officers so as to know, as petitioner now claims, that Ms. Gilpin was
                                         - 40 -

not petitioner’s officer at the time of the election. We conclude that petitioner’s

section 953(d) election was valid. While respondent argues alternatively that the

doctrine of estoppel precludes petitioner from contesting the validity of its section

953(d) election, we need not and do not address this alternative argument.21

      B. Termination of Election

      A foreign corporation’s election under section 953(d) to be taxed as a

domestic corporation applies for the year in which the election is made and to all

subsequent years, unless terminated or revoked with the Secretary’s consent. See

sec. 953(d)(2). Such an election is terminated when the corporation fails to meet

the election requirements prescribed under section 953(d)(1). See sec.

      21
         We also need not decide respondent’s request to amend the answer to
allege an affirmative defense of equitable estoppel to petitioner’s claim that the
election was invalid for lack of signature by a corporate officer. We note,
however, that any such amendment appears unnecessary because the petition does
not allege that the election was invalid. Rule 34(b)(4) and (5) requires that the
petition contain “[c]lear and concise assignments of each and every error which the
petitioner alleges to have been committed” and “[c]lear and concise lettered
statements of the facts on which petitioner bases the assignments of error”,
respectively. The petition states simply that respondent erred in determining that
the election was revoked during the subject years, thus indicating that petitioner’s
view as set forth in the petition is that the election is still in place (which, of
course, is contrary to its claim now that the election was invalid from the
beginning). We also note that a pleading need not be amended when issues not
raised by the pleadings are tried by express or implied consent. See Rule 41(b)(1).
It appears that the parties have tried the issue by express or implied consent and
that respondent’s amendment simply formalizes respondent’s position as to
petitioner’s invalid election claim raised outside of the pleadings. We will deny
respondent’s request as moot.
                                         - 41 -

953(d)(2)(B). The termination applies for all taxable years beginning after the year

in which the corporation failed to meet the election requirements prescribed under

section 953(d)(1). See sec. 953(d)(2)(B).

      Petitioner concedes it was not operating as an insurance company during

2002. Petitioner therefore failed to satisfy that requirement for maintaining the

section 953(d) election throughout 2002, see sec. 953(d)(1)(B), and its election was

thereby terminated. The termination applied to all of petitioner’s taxable years

after 2002. See 

Termination

      Respondent determined that the termination of petitioner’s section 953(d)

election caused petitioner to be treated as a taxable corporation which is deemed to

have sold its assets to a controlled foreign corporation on January 1, 2003 (which,

respondent determined, was a one-day taxable year in and of itself). We agree with

this determination.

      Upon termination of a corporation’s election under section 953(d), the

corporation is treated for purposes of section 367 as a domestic corporation which

transfers all of its assets to a foreign corporation in an exchange to which section

354 applies. See sec. 953(d)(5). The transfer is deemed to occur on the first day of
                                         - 42 -

the taxable year following the revocation of the election. See 

here is January 1, 2003.

      Under section 367(a)(1), a foreign corporation receiving property in an

exchange to which section 354 applies is generally not considered a corporation for

purposes of determining the extent to which gain is recognized by the transferor.

Thus, absent an exception, the termination of a corporation’s election under section

953(d) results in a deemed transfer of the domestic corporation’s assets to a foreign

corporation in an exchange that is taxable to the domestic corporation. After the

deemed transfer on the “first day”, the taxpayer’s taxable year as a domestic

corporation naturally terminates as of the end of that day, given that it is no longer

taxed as a domestic corporation, and the taxable year of the deemed transferee

foreign corporation then begins and naturally runs through the end of the

transferor’s taxable year as ascertained as if the transfer had not occurred.

      Petitioner’s primary activity during 2002 was managing the real property

that its disregarded entity, EFR, owned. All of the real property was in the United

States, and the activities related to the management of these properties were

performed within the United States by members of the Enniss family. As no

exception was applicable at the time of the deemed exchange on January 1, 2003,

petitioner’s deemed transfer of property is a taxable exchange for which petitioner
                                         - 43 -

must recognize gain under section 367. Because petitioner failed to file a Federal

income tax return for its taxable year beginning and ending on January 1, 2003,

respondent determined petitioner’s income tax liability for that one-day taxable

year taking into account, inter alia, the deemed sale.

      Petitioner argues that section 367 was not intended to apply in the setting at

hand. We disagree. By its terms, section 953(d)(5) provides that the termination

of petitioner’s section 953(d) election requires that petitioner, “[f]or purposes of

section 367”, be “treated as a domestic corporation transferring (as of the 1st day

of such subsequent taxable year) all of its property to a foreign corporation in

connection with an exchange to which section 354 applies.” We read nothing in

section 953, or in section 367, or in the regulations under either provision, that

would trump the quoted rule of section 953(d)(5). While petitioner looks to

strands of legislative history to support its argument of a contrary legislative intent,

the best source of legislative intent is found in the text of the statute. See Bedroc

Ltd., L.L.C. v. United States, 

, 177 (2004); United States v. Lanier,

, 267 n.6 (1997); Conn. Nat’l Bank v. Germain, 

,

253-254 (1992). Absent absurd, unreasonable, or futile results, there is “no more

persuasive evidence of the purpose of a statute than the words by which the

legislature undertook to give expression to its wishes.” United States v. Am.
                                         - 44 -

Trucking Ass’ns, Inc., 

, 543 (1940); cf. Albertson’s, Inc. v.

Commissioner, 

, 545 (9th Cir. 1994), aff’g 

(1990).

Congress has specifically and unambiguously provided in section 953(d)(5) that a

termination of a section 953(d) election results in a transfer of property within the

rules of section 367, and there is nothing that is absurd, unreasonable, or futile in

applying that text as written. We are not unmindful that unequivocal evidence of a

clear legislative intent may sometimes override the words of a statute and lead to a

different result, but that unequivocal bar is a high one to clear. See Consumer

Prod. Safety Comm’n v. GTE Sylvania, Inc., 

, 108 (1980); Landreth

v. Commissioner, 

, 646 n.6 (9th Cir. 1988), aff’g T.C. Memo. 1986-

242; Halpern v. Commissioner, 

, 899 (1991). The legislative history

here provides scant and unpersuasive support for a holding contrary to that which

we reach.22

      Petitioner also argues from a factual point of view that petitioner was not

EFR’s owner. As petitioner sees it, EFR was a limited liability company that the

Enniss family owned directly. Moreover, petitioner asserts, even if the facts

formally establish that petitioner was EFR’s owner, the substance of the facts

      22
        Petitioner argues from an equitable point of view that sec. 367 should not
apply because, petitioner states, it will be taxed on the unrealized gain when it
eventually sells the properties. We disagree that equity plays any part in our
interpretation and implementation of secs. 367 and 953(d)(5) in the setting at hand.
                                          - 45 -

trumps their form and requires a contrary finding that the Enniss family directly

owned EFR. We disagree in both regards. The record establishes, and we have so

found, that petitioner owned EFR. We note in support of this finding, but not as

the sole reason for the finding, that petitioner’s statements in its returns are

admissions that may be overcome only through cogent evidence, see Waring v.

Commissioner, 

, 801 (3d Cir. 1969), aff’g per curiam T.C. Memo.

1968-126; Estate of Hall v. Commissioner, 

, 337-338 (1989), and that

petitioner filed a Form 990 for 2002 and 2003, each of which listed petitioner as

the sole owner of EFR.23 We also note that EFR has never filed a partnership (or

corporate) tax return with regard to any of the subject years.24

      Nor do we believe that the substance of the facts supports petitioner’s

proposed finding. The U.S. Supreme Court “has observed repeatedly that, while a

taxpayer is free to organize his affairs as he chooses, nevertheless, once having

done so, he must accept the tax consequences of his choice, whether contemplated

or not, * * * and may not enjoy the benefit of some other route he might have


      23
         While petitioner’s Form 990 for 2003 failed to be a valid return because it
was not signed by one of petitioner’s officers, petitioner’s preparation and filing of
the document with the IRS expressed petitioner’s understanding that petitioner was
the sole owner of EFR.
      24
         Ms. Sandoval and Reid Enniss each testified in a conclusory manner (and
without further elaboration) that they were members of EFR. We do not accept
this testimony as the credible evidence in the record disproves it.
                                         - 46 -

chosen to follow but did not.” Commissioner v. Nat’l Alfalfa Dehydrating &

Milling Co., 

, 149 (1974) (citations omitted); see also Wilkin v.

United States, 

, 1402 (9th Cir. 1987); Lomas Santa Fe, Inc. v.

Commissioner, 

, 73 (9th Cir. 1982), aff’g 

(1980).25 Thus,

petitioner and the Enniss family, while they were entitled at the start to structure

their affairs so that the Enniss family members owned EFR as of the relevant time,

must now accept the consequences of instead causing petitioner to be EFR’s sole

owner (although their actions on this point probably resulted from questionable

legal advice). EFR’s ownership as structured by its controlling owners must “be

given its tax effect in accord with what actually occurred and not in accord with

what might have occurred.” Commissioner v. Nat’l Alfalfa Dehydrating & Milling

. We note in passing, however, that we disagree with

petitioner’s primary premise for finding that the members of the Enniss family

were in substance EFR’s owners. The mere fact that petitioner and the Enniss

family may have treated EFR as an independent entity for purposes of management




      25
        Of course, where the issue is one of law as to the proper substantive
characterization of facts, the label used by the taxpayer may not always be
determinative if it is incorrect. See Selfe v. United States, 

, 774 (11th
Cir. 1985); Pinson v. Commissioner, T.C. Memo. 2000-208; LDS, Inc. v.
Commissioner, T.C. Memo. 1986-293.
                                        - 47 -

and operations, as petitioner asserts, does not necessarily mean that EFR was

owned by the Enniss family rather than by petitioner.

V. Subject of Exchange

      Petitioner asserts that it never owned the real property and that it may not be

taxed as to any property that EFR owned. We disagree. For Federal income tax

purposes, although petitioner may not have actually owned the real property that

EFR owned, petitioner is deemed to own EFR’s real property because EFR’s

owners chose to characterize EFR as an entity that is disregarded as separate from

its owners. See secs. 301.7701-1(a)(4), 301.7701-3(b)(1), Proced. & Admin.

Regs.; cf. Samueli v. Commissioner, 

, 39 n.3 (2009) (where a grantor

trust was a disregarded entity that owned an interest in a limited liability company,

the Court treated the grantor as the owner of that interest), aff’d and remanded on

another issue, 

(9th Cir. 2011). Our disregard of the entity EFR

essentially means that we view the facts as if EFR did not exist for Federal income

tax purposes and as if EFR’s sole owner, petitioner, was the sole owner of EFR’s

assets. Cf. Samueli v. Commissioner, 

n.3.
                                         - 48 -

VI. Fair Market Value of Disputed Property

      A. Overview

      The parties dispute the applicable fair market value of four of the property

groups. These groups are property groups 1, 3, 4, and 5. We proceed to determine

those values.

      A determination of fair market value is a factual inquiry in which the trier of

fact must weigh all relevant evidence of value and draw appropriate inferences.

See Commissioner v. Scottish Am. Inv. Co., 

, 123-125 (1944);

Helvering v. Nat’l Grocery Co., 

, 294 (1938); Zmuda v.

Commissioner, 

, 726 (1982), aff’d, 

(9th Cir. 1984). Fair

market value is measured as of the applicable valuation date, which in this case is

January 1, 2003. See Estate of Proios v. Commissioner, T.C. Memo. 1994-442;

Thornton v. Commissioner, T.C. Memo. 1988-479, aff’d without published

opinion, 

(9th Cir. 1990). The willing buyer and the willing seller are

hypothetical persons, instead of specific individuals or entities, and the

characteristics of these hypothetical persons are not always the same as the

personal characteristics of the actual seller or a particular buyer. See Propstra v.

United States, 

, 1251-1252 (9th Cir. 1982); Estate of Bright v.

United States, 

, 1005-1006 (5th Cir. 1981); Estate of Newhouse v.
                                         - 49 -

Commissioner, 

, 218 (1990). The views of both hypothetical persons

are taken into account, and focusing too much on the view of one of these persons,

to the neglect of the view of the other, is contrary to a determination of fair market

value. See Estate of Scanlan v. Commissioner, T.C. Memo. 1996-331, 72 T.C.M.

(CCH) 160 (1996), aff’d without published opinion, 

(5th Cir. 1997);

Estate of Cloutier v. Commissioner, T.C. Memo. 1996-49. Fair market value

reflects the highest and best use of the property on the valuation date, and it takes

into account special uses that are realistically available because of the property’s

adaptability to a particular business. See Mitchell v. United States, 

,

344-345 (1925); United States v. Meadow Brook Club, 

, 45 (2d Cir.

1958); Stanley Works & Subs. v. Commissioner, 

, 400 (1986).

Property is generally valued without regard to events occurring after the valuation

date to the extent that those subsequent events were not reasonably foreseeable on

the date of valuation. See Ithaca Trust Co. v. United States, 

(1929);

Trust Servs. of Am., Inc. v. United States, 

, 569 (9th Cir. 1989);

Bergquist v. Commissioner, 

, 17 (2008); Estate of Giovacchini v.

Commissioner, T.C. Memo. 2013-27.
                                         - 50 -

      B. Approaches Used To Determine Fair Market Value

             1. Overview

      Generally, three approaches are used to determine the fair market value of

property. See United States v. 99.66 Acres of Land, 

, 655 (9th Cir.

1992). These approaches are: (1) the market approach, (2) the income approach,

and (3) the asset-based approach. See Bank One Corp. v. Commissioner, 

, 306 (2003), aff’d in part, vacated in part and remanded on another issue sub

nom., JP Morgan Chase & Co. v. Commissioner, 

(7th Cir. 2006);

Cohan v. Commissioner, T.C. Memo. 2012-8. The question of which approach to

apply in a case is a question of law. Powers v. Commissioner, 

, 260

(1941). Because neither party relies upon the asset-based approach, and we agree

that is not applicable in these cases, we limit our discussion of that approach to a

brief explanation of it.

             2. Three Approaches

                    a. Market Approach

      The market approach requires a comparison of the subject property with

similar property sold in an arm’s-length transaction in the same timeframe. The

market approach values the subject property by taking into account the sale prices

of the comparable property and the differences between the comparable property
                                         - 51 -

and the subject property. See Estate of Spruill v. Commissioner, 

,

1229 n.24 (1987); Wolfsen Land & Cattle Co. v. Commissioner, 

, 19-20

(1979). The market approach measures value properly only when the comparable

property has qualities substantially similar to those of the subject property. See

Wolfsen Land & Cattle Co. v. Commissioner, 

. Where

comparable properties are present, the market approach is generally the best

determinant of value. See Whitehouse Hotel Ltd. P’ship v. Commissioner, 

, 156 (2008), vacated and remanded on another issue, 

(5th

Cir. 2010); Van Zelst v. Commissioner, T.C. Memo. 1995-396, aff’d, 

(7th Cir. 1996). Moreover, while unforeseeable events occurring after the

valuation date are generally not taken into account in determining a property’s fair

market value, a sale of other property within a reasonable time after the valuation

date may be a proper starting point for the measure of the property’s fair market

value. See Estate of Scanlan v. 

(adjustments made to redemption price to account for passage of time and the

change in the setting from the date of the decedent’s death to the date of the later

redemption); see also Estate of Trompeter v. Commissioner, T.C. Memo. 1998-35,

, 1660-1661 (1998), vacated and remanded on other

grounds, 

(9th Cir. 2002).
                                         - 52 -

                    b. Income Approach

      The income approach relates to capitalization of income and discounted

cashflow. This approach values property by computing the present value of the

estimated future cashflow as to that property. The estimated cashflow is

ascertained by taking the sum of the present value of the available cashflow and the

present value of the asset’s residual value.

                    c. Asset-Based Approach

      The asset-based approach generally values property by determining the cost

to reproduce it less applicable depreciation or amortization.

      C. Expert Witnesses

             1. Background

      Each party retained experts to value the properties at issue. Petitioner

retained and called Harry B. Holzhauer as a real estate expert and Warren R.

Coalson as a mining expert. Respondent retained and called Norman Eichel as a

real estate expert and John A. Hecht as a mining expert. Respondent also called

Steve C. Cortner to testify in rebuttal to a portion of Mr. Coalson’s testimony and

recalled Mr. Eichel and Mr. Hecht to testify in rebuttal to the respective testimony

of Mr. Holzhauer and Mr. Coalson. Petitioner recalled Mr. Holzhauer and Mr.
                                        - 53 -

Coalson to testify in rebuttal to the respective testimony of Mr. Eichel and Mr.

Hecht.

             2. Qualifications of Experts

                   a. Mr. Holzhauer

      Petitioner retained Mr. Holzhauer to ascertain the fair market value of the

subject nine property groups. Mr. Holzhauer has appraised real estate for over

three decades, and he holds the Appraisal Institute designation of MAI, SRA, and

SRPA.26 He has previously testified in Federal and State courts as an expert

witness. He has taught classes on appraisal at colleges and for professional

organizations for approximately two decades. He has developed a course for the

IRS on the uniform standards of professional appraisal practice, and he has taught

that course for the IRS to IRS agents nationwide.

      The Court recognized Mr. Holzhauer as an expert in the field of real estate

appraisals, with no objection by respondent.




      26
         The designation of MAI is awarded to qualifying members of the
American Institute of Real Estate Appraisers, and it is the most highly recognized
appraisal designation within the appraisal community. The designations SRA
(senior residential appraiser) and SRPA (senior real estate property appraiser) are
awarded to qualifying members of the Society of Real Estate Appraisers.
                                        - 54 -

                    b. Mr. Coalson

      Petitioner retained Mr. Coalson to ascertain the cost of reclaiming the mined

property, to help determine the value for the mineral resources that remained on the

property, and to estimate the amount of potentially developable land that would be

created by site reclamation. Mr. Coalson is a mining consultant with over 30 years

of experience in the mining industry, inclusive of 23 years of consulting on mining.

He has a bachelor of arts degree, with a double major in geography and

environmental reclamation, and he has previously testified as an expert on (among

other matters) property and mineral resource valuation. For approximately the last

20 years, he has been the president of a company that he founded, which provides

environmental and mine permitting services.

      The Court recognized Mr. Coalson as an expert in the field of mining, with

no objection by respondent.

                    c. Mr. Eichel

      Respondent retained Eichel, Inc., to ascertain the fair market value of the

subject nine property groups. Eichel, Inc., is a real estate research and appraisal

firm which specializes in the valuation of real estate in the Los Angeles, California,

and surrounding areas, and in litigation consulting with respect to real estate

valuation matters. Eichel, Inc.’s president is Mr. Eichel. Mr. Eichel has a bachelor
                                           - 55 -

of science degree from the University of Southern California with a major in

finance, and he performed graduate work in the field of real estate research. Mr.

Eichel holds the Appraisal Institute designation of MAI.

      The Court recognized Mr. Eichel as an expert in the field of real estate

appraisals, with no objection by petitioner.

                    d. Mr. Hecht

      Respondent retained Sespe Consulting, Inc. (Sespe), and its president Mr.

Hecht, to estimate the cost to reclaim property group 1 as of the valuation date,

among other things. Mr. Hecht holds a bachelor of science degree in electrical

engineering from Valparaiso University and a professional degree in geophysics

from Colorado School of Mines. He has worked professionally in the mining

industry for almost three decades, and he is a certified registered professional

engineer in the State of California and a registered environmental assessor. He

currently is the president of Sespe, an environmental and engineering consulting

firm, where he devotes approximately 65% of his work to mining and construction

material projects (mainly reclamation planning, preparing reclamation plans, and

financial cost estimates) in California.

      The Court recognized Mr. Hecht as an expert in the field of mining, with no

objection by petitioner.
                                        - 56 -

                   e. Mr. Cortner

      Mr. Hecht (through his firm) retained Mr. Cortner to determine some costs

of product and materials and to assist Mr. Hecht with the applicable reclamation

standards. Mr. Cortner has worked in the mining industry in southern California,

mostly in and around San Diego County, for over 35 years. The Court did not

specifically recognize Mr. Cortner as an expert but allowed him to testify as a fact

witness in rebuttal to a portion of Mr. Coalson’s testimony.

      D. Applicable Standards

      Each expert testified on direct examination primarily through his expert

report, see Rule 143(g)(1), which the Court accepted into evidence. Each expert

then generally testified on cross-examination, redirect examination, and recross-

examination, through the typical question and answer process.

      We may accept or reject the findings and conclusions of the experts,

according to our own judgment. See Helvering v. Nat’l Grocery 

; Parker v. Commissioner, 

, 561-562 (1986). In addition, we

may be selective in deciding what parts (if any) of their opinions to accept. See

Parker v. Commissioner, 

. We also may reach a determination

of value based on our own examination of the evidence in the record. Silverman v.

Commissioner, 

, 933 (2d Cir. 1976), aff’g T.C. Memo. 1974-285.
                                         - 57 -

       E. Analysis

              1. Nine Property Groups

       Mr. Holzhauer and Mr. Eichel each valued the nine property groups

discussed herein. As part of his analysis, Mr. Holzhauer reduced his total value of

the nine property groups by 15% to apply a “bulk discount” and then rounded that

number to reach his final total value. Mr. Eichel did not apply a similar discount to

his total value.

       The parties later agreed on the applicable fair market values of property

groups 2, 6, 7, 8, and 9. The fair market values that Mr. Holzhauer and Mr. Eichel

ascertained and the agreed amounts are as follows:

      Property group     Mr. Holzhauer                Mr. Eichel    Agreed value

                                                  1
              1            $5,000,000                 $15,876,000         ---
              2               300,000                   2,100,000     $500,000
              3             3,625,000                   5,425,000         ---
              4             5,000,000                   6,250,000         ---
              5               450,000                   5,000,000         ---
              6               310,000                     425,000      367,500
              7               962,000                     918,000      918,000
              8               126,000                     126,000      126,000
              9               210,000                     145,000      145,000
                  Total    15,983,000                  36,265,000         ---
                  Discount  2,397,450                       -0-           ---
                  Net      13,585,550                  36,265,000         ---
                  Rounded 13,600,000                   36,265,000        ---

              1
               Mr. Eichel in his original written expert witness report valued
       this property at $16,200,000 but revised this number in his rebuttal
                                        - 58 -

      report to $15,876,000 to correct for a computational error of $324,000
      that he discovered in his original written expert witness report and
      direct testimony.

      We are therefore left to decide the fair market values of the remaining

property groups as well as the appropriateness of a “bulk discount”. In rendering

our decisions, we are aided by the testimony of each of the four experts, all of

whom we consider to be qualified in their areas of expertise. Each expert testified

in favor of the party who called him, and we have weighed the experts’ testimony

with due regard to their qualifications, the credible evidence in the record, and our

judgment. See Estate of Christ v. Commissioner, 

, 174 (9th Cir.

1973), aff’g 

(1970); Chiu v. Commissioner, 

, 734 (1985).

On some matters, we were persuaded more by petitioner’s experts than by

respondent’s experts, while on other matters we were persuaded more by

respondent’s experts than by petitioner’s experts.
                                                 - 59 -

               2. Property Group 1

                           a. Overview

      We summarize each expert’s valuation of property group 1 as follows:

                                      2003                       2004                    2005
                           Mr. Holzhauer Mr. Eichel   Mr. Holzhauer Mr. Eichel Mr. Holzhauer Mr. Eichel

Tonnage                       188,000       148,164        188,000       193,455    188,000       122,037
Royalty rate (per ton)              $4         ---           $4.14         ---        $4.28          ---
Sale price                      ---          $14.50            ---           $15       ---         $15.50
Sales revenue                   ---      $2,148,378            ---    $2,901,825       ---    $1,891,574
Fill material fees              ---         $70,000            ---      $130,000       ---      $400,000
Gross income1                $752,000    $2,218,378       $778,320    $3,031,825   $805,561   $2,291,574
Reclamation costs               ---           ---              ---         ---         ---           ---
Selling costs                   ---           ---              ---         ---         ---           ---
Real estate taxes             $28,500       $53,500        $29,070       $54,570    $29,651       $55,661
Production cost                 ---        $592,656            ---     $773,820        ---      $549,167
Fill material processing        ---          $5,000            ---        $5,000       ---      $200,000
SG&A                            ---        $200,000            ---      $200,000       ---       $200,000
Net operating income         $723,500    $1,367,222       $749,250    $1,998,435   $775,910    $1,286,746
Reclamation costs               ---           ---              ---         ---         ---          ---
Zoning action                   ---           ---              ---         ---         ---          ---
Land sale                       ---           ---              ---         ---         ---          ---
Permit compliance               ---        $250,000            ---         ---         ---          ---
 Total                          ---      $1,117,222            ---    $1,998,435       ---     $1,286,746
 Discount factor2                .8811                        .7763                   .6839
 PV NOI                      $637,445                     $604,180                 $550,948
                                                    - 60 -
                                     2006                          2007                     2008
                           Mr. Holzhauer Mr. Eichel      Mr. Holzhauer Mr. Eichel Mr. Holzhauer Mr. Eichel

Tonnage                       188,000         148,623       188,000       66,377             ---         26,568
Royalty rate (per ton)          $4.43            ---          $4.59          ---             ---            ---
Sale price                      ---                $16          ---           $16            ---         $14.50
Sales revenue                   ---        $2,377,968           ---   $1,062,032             ---      $385,497
Fill material fees              ---        $1,200,000           ---     $375,000             ---      $250,000
Gross income1                $833,756      $3,577,968      $862,937   $1,437,032              ---      $635,497
Reclamation costs               ---             ---            ---          ---        $24,600,000         ---
Selling costs                   ---             ---            ---           ---             ---          ---
Real estate taxes             $30,244         $56,775       $30,849       $57,910          $31,466      $59,068
Production cost                 ---          $743,115           ---    $356,074              ---      $150,211
Fill material processing        ---          $600,000           ---    $125,000              ---        $25,000
SG&A                            ---          $200,000           ---     $200,000             ---      $200,000
Net operating income         $803,511      $1,978,078      $832,088     $689,048      ($24,631,466)   $201,218
Reclamation costs               ---             ---            ---          ---             ---           ---
Zoning action                   ---             ---            ---       $34,000             ---       $33,000
Land sale                       ---             ---            ---           ---             ---          ---
Permit compliance               ---             ---            ---           ---             —            ---
 Total                          ---        $1,978,078           ---    $655,048                       $168,218
 Discount factor2               .6026                         .5309                          .4678
 PV NOI                      $502,407                      $458,142                   ($11,522,600)

                                        2009                        2010           Total
                            Mr. Holzhauer    Mr. Eichel          Mr. Eichel    Mr. Holzhauer

Tonnage                           ---            29,126             ---                ---
Royalty rate (per ton)            ---              ---              ---                ---
Sale price                        ---               $14             ---                ---
Sales revenue                     ---          $407,764             ---                ---
Fill material fees                ---          $250,000           $125,000             ---
Gross income                 $34,505,673       $657,764           $125,000             ---
Reclamation costs                 ---              ---              ---                ---
Selling costs                 $1,035,170           ---              ---                ---
Real estate taxes                $32,096        $60,250            $61,455             ---
Production cost                   ---          $164,562             ---                ---
Fill material processing          ---           $25,000             ---                ---
SG&A                              ---          $200,000            $25,000             ---
Net operating income         $33,438,407       $207,952            $38,545             ---
Reclamation costs                 ---             ---           $2,547,529             ---
Zoning action                     ---           $33,000             ---                ---
Land sale
  Parcel A-D                       ---            ---          $18,220,000              ---
  Parcel E                         ---            ---          $15,188,500              ---
    Total                          ---         $174,952        $30,899,516              ---
    Discount factor2               .4121                            ---                ---
    PV NOI                   $13,779,967                            ---             $5,040,211
    NPV @14%                                                   $15,876,320              ---
    Rounded                                                    $15,876,000          $5,000,000

               1
             For each year 2005 through 2007, the gross income shown in Mr.
      Holzhauer’s columns is slightly different from the product of his royalty rate
                                            - 61 -

      shown for the year, and 188,000. Mr. Holzhauer first calculated the gross income
      for 2003 and then calculated the gross income for each year 2004 through 2007
      by increasing the previous year’s gross income by 3.5%. Mr. Holzhauer then
      backed into his royalty rates by dividing the income for the year by 188,000, and
      rounding the quotient to the nearest cent.
             2
               For each year 2003 through 2007, the PV NOI shown in this chart is
      slightly different from the product of the net operating income shown for the year
      and the discount factor shown for the year. Mr. Holzhauer rounded his discount
      factors shown in this chart to the nearest ten-thousandths, but he apparently did
      not round the factors when performing his calculations. For 2003, Mr. Holzhauer
      multiplied his discount factor by net operating income to arrive at his PV NOI.
      For each of the other years 2004 through 2007, Mr. Holzhauer multiplied his
      discount factor by gross income to arrive at his PV NOI.

      With a single exception, we find that Mr. Holzhauer’s analysis underlying

his $5 million value is a better measure of property group 1’s fair market value

than Mr. Eichel’s analysis underlying his $15,876,000 value, notwithstanding that

Mr. Holzhauer’s analysis sometimes appears to be outcome driven. While both

Mr. Holzhauer and Mr. Eichel generally ascertained their values as the sum of the

present value of the remaining mineable sand on the property plus the present

value of the residuary interest in the property, only Mr. Holzhauer adequately

recognized as of the valuation date that the property was primarily in poor

condition, out of compliance with the MUP, and zoned primarily for agricultural

use; that the property’s value stemmed mainly from the underlying real property;

and that the mining operation was conducted by Enniss, Inc., not petitioner. Mr.

Holzhauer also opined most persuasively that the highest and best use of property

group 1 was to extract the remaining sand, then perform reclamation, and then to
                                        - 62 -

redevelop or to sell the land; and that the value of the remaining sand was best

derived on the basis of the net income from royalties that a third party would pay

for extracting the sand, see, e.g., Terrene Invs., Ltd. v. Commissioner, T.C. Memo.

2007-218 (the Court used a royalty-based income capitalization method to value a

tract of land with sand and gravel deposits), as opposed to, as Mr. Eichel

concluded, an extraction of the sand by the land owner.27 The single exception is

that Mr. Holzhauer, in contrast to Mr. Eichel, improperly minimized the value that

inhered in the tipping fees that the owner of property group 1 would receive as to

the property. We turn to discuss some specifics of Mr. Holzhauer’s valuation and

our discussion of the tipping fees.

                    b. Value of Remaining Mineable Sand

                          i. Background

      Mr. Holzhauer ascertained his value of the remaining mineable sand by

relying upon Mr. Coalson’s opinion of the volume of the remaining sand, the rate

of extraction, and the per-ton value for the remaining material.




      27
        Mr. Eichel also considered various sales of property that occurred in 2007
to ascertain the fair market value of property group 1 (and property groups 3 and
4). We disagree with his use of those sales which occurred too far after the
valuation date.
                                       - 63 -

                          ii. Mineable Sand

      Mr. Coalson calculated the volume of extractable sand on the basis of a

review of the site of and MUP conditions of parcels A through D as of the

valuation date. He concluded that no material remained for excavation in the lake

portions of property group 1 and estimated the recoverable material as the product

of: (1) the undisturbed acreage on parcels B, C, and D (taking into account certain

setbacks as required under the MUP); (2) an assumed excavation depth in

conformity with the MUP; and (3) a conversion factor for cubic yards per

acre/foot. He arrived at an estimated volume of 625,000 cubic yards of remaining

sand and applied the appropriate conversion factor of 1.5 tons per cubic yard to

reasonably calculate that 940,000 tons of recoverable salable sand remained on the

premises. The then-current market price for washed sand was $14.50 per ton in

2003, a total value in place at 2003 prices of $13,640,000.28 He likewise

reasonably assumed that the remaining sand would be mined at the same

approximate rate that it was previously mined (plus or minus 200,000 tons a year)

and reasonably concluded that the mine life was five years given that the mine was

five years from depletion as of the valuation date. He conservatively ascertained




      28
        There appears to be a rounding or math error of $10,000 (i.e., 940,000 x
$9.50 = $13,630,000).
                                         - 64 -

that the remaining sand would be extracted at an even rate over the five-year period

(in other words, at 188,000 tons (940,000/5) per year).29

      Mr. Coalson opined credibly that as of the valuation date there was a high

demand in San Diego County for 940,000 tons of sand. He valued the remaining

sand under two scenarios: (1) the property owner mines the sand and (2) a third

party mines the sand and pays the property owner a royalty for the sand. As to the

first scenario, i.e., the owner mines the sand, Mr. Coalson explained that the owner

would first have to acquire a permit to mine the sand and that the permit process

had previously taken 18 years in the case of one site in San Diego County. As to

the second scenario, i.e., a third party mines the sand and pays a royalty for the

sand, Mr. Coalson explained that royalty arrangements were common in

circumstances where the owner did not want to develop a mining plan, hire

consultants, and get the requisite permit. He opined that an owner of a sand mine

in San Diego County would likely enter into a royalty agreement with a mining

company rather than mine the property itself. He estimated a “very generous

royalty rate” of $4 per ton for sand mined by the third party, explaining that his


      29
         Mr. Eichel, on the other hand, estimated that the remaining sand was
734,368 tons and that this sand would be extracted over a seven-year period at
rates that he improperly ascertained through his consideration of data that was not
reasonably foreseeable as of the valuation date. In line with this estimate, Mr.
Eichel also unpersuasively concluded that property group 1 would be sold in 2010.
                                          - 65 -

estimate was derived from two royalty agreements that his company aggressively

negotiated in Lakeside during 2002, and opined reasonably that the owner would

expect a 3.5% annual increase in that rate to take into account inflation. Mr.

Holzhauer concluded that the real property owner would pay the real estate taxes

and the reclamation costs.

      Mr. Holzhauer projected that $24.6 million of reclamation costs would be

owed in 2008, the year after the sand was excavated. Mr. Coalson had estimated

that the reclamation costs would total $24,913,003, using unadjusted 2003 price

data to estimate that amount, and Mr. Holzhauer first rounded that amount to $25

million and then ultimately concluded that reclamation costs would total $24.6

million. Mr. Holzhauer did not explain why he ultimately reduced the $25 million

to $24.6 million.

      As Mr. Coalson saw it, as of the valuation date, the volume of fill required to

reclaim the mining pits in the sand mine was 1,982,500 cubic yards determined as

follows:30

      30
         Mr. Hecht opined that no fill need be added to the northerly lake or to a
portion of the southerly excavation area. We disagree. Mr. Coalson testified
persuasively that the northerly lake had to be filled, noting among other things that
the sand in the lake was very permeable, as contrasted with the compacted sand
found in the pits, and that fill had to be added to the lake to raise the bottom of the
lake to its required depth. As to the southerly extracted area, Mr. Hecht opined that
this area need not be filled because nothing was extracted from that area during
                                                                            (continued...)
                                         - 66 -

                            Fill area                      Cubic yards

             Northerly Lake                                    372,500
             Southerly Lake                                    985,000
             Remaining southerly extraction area               625,000
              Total volume backfill required                 1,982,500

Mr. Coalson logically determined these amounts by multiplying the area that was

required to be filled by the depth of the area. Mr. Coalson determined on the basis

of his review of the market that the fill would cost $9.50 per cubic yard, or

$18,833,750 in total (1,982,500 x $9.50), which takes into account both the price to

purchase specialized fill and to transport the fill to the site. Mr. Coalson also took

into account various other secondary costs relating to the property’s reclamation

and arrived at a total reclamation cost of $24,913,003 (which, as previously

mentioned, Mr. Holzhauer rounded down to $24.6 million).

      Mr. Holzhauer concluded that the owner of the sand mine would receive no

income from the acceptance of fill because, Mr. Holzhauer stated, this income does

      30
         (...continued)
2003. Mr. Coalson opined, however, that the sand on property group 1 would be
extracted over a five-year period. Mr. Hecht acknowledged in his testimony that
the 625,000 cubic yards of fill would appropriately be taken into account if the
amount of sand was extracted in 2003 but that applicable financial standards do not
take this amount into account because the extraction is after one year. We do not
believe that the referenced one-year rule is an appropriate guide to ascertaining the
fair market value of property group 1. Instead, we believe that the hypothetical
willing buyer and the hypothetical willing seller would take into account all costs
associated with the property, whether the anticipated costs are to be incurred before
one year or afterwards.
                                         - 67 -

not relate to the real property value. Mr. Holzhauer rationalized that income

generated from tipping fees had “nothing to do” with the owner of the land into

which the fill was deposited. Mr. Coalson (and thus Mr. Holzhauer) did not

consider whether the owner of property group 1 could receive free fill from the

Hanson site because he believed that Hanson desired a buyer for its fill and would

not give its fill to a competitor for free. Mr. Coalson also opined that Hanson’s

excess fill was dedicated to fill one of its own projects and was unavailable to fill

property group 1. Mr. Coalson also asserted, without further elaboration, that

accepting free fill was contrary to “state policy” because its availability at the time

of need could not be foreseen with any certainty.

      We disagree with Mr. Holzhauer that the ability to receive tipping fees with

respect to property group 1 has nothing to do with the owner of the property or,

more importantly, with a determination of the fair market value of property group

1. Mr. Eichel persuasively opined that these fees belong to the owner of the

property, and he took the fees into account in his analysis. Moreover, as we see it,

a hypothetical willing buyer and a hypothetical willing seller would both take into

account the ability to receive tipping fees from property group 1 when agreeing on

the purchase price of that property. The ability to receive income as to property is

an important attribute of the property and factors into its value. To say the least,
                                         - 68 -

net-income-producing property is certainly worth more than the exact same

property that does not produce net income.

      That said, we believe that a hypothetical purchaser would not assume, as of

the valuation date, that it could receive the relevant industry minimum $2 per ton

tipping fee or benefit from free fill over the next five years of the sand mine

operation plus any additional time required to complete the land reclamation

project. Tipping fees and free fill are factually speculative, depending on

time-sensitive nearby demand and nearby supply, and could be achieved only as

long as San Diego County and the California Department of Conservation

permitted the sand mine operation and/or reclamation activities to continue. Any

such continuation was speculative, as of the valuation date, in view of the

uncontradicted testimony that SMARA, Cal. Pub. Rec. secs. 2710 and 2773,

required an appropriate financial assurance mechanism to ensure that adequate

funds to complete all required reclamation work are available when mining ends.31

The sand mine was out of compliance with that provision given that an appropriate

reclamation financial assurance plan was not then in place. The original 1990s




      31
       See generally People ex rel. Dept. of Conservation v. El Dorado County,

(Cal. 2005), as to procedural enforcement matters and People ex rel.
Connell v. Ferreira, 

(Cal. Ct. App. 2003), and McCain v.
County of Lassen, 

(Cal. Ct. App. 2003), as to fines and penalties.
                                        - 69 -

financial plan was obsolete because significant mining had occurred since then and

the posted $40,000 bond for that plan had expired.32

      Other serious major problems with the MUP and with the reclamation plan

were present as of the valuation date. The MUP set numerous requirements that

were not met. The MUP required the construction of certain roads, but those roads

were not then built. Sand had been mined too close to the roadways to allow an

acceptable slope on the sides of the pits. Sand was mined in large quantities far

below the permitted maximum mining depth. Reclamation and channel work were

far behind schedule. The approved mining plan regulating which areas were to be

mined first and in which order, known as the mining phases, had been ignored on

account of flooding and the lack of channel work. Consequently, the sand mine’s

entire operation was at significant risk that the underlying business could, and


      32
         In 2005, San Diego County pursued the matter further and Enniss, Inc.,
after several meetings, persuaded the county to accept a $2.9 million letter of credit
coupled with Hanson’s representation that Enniss, Inc., could use fill available on
the Hanson site to reclaim Enniss, Inc.’s sand mine. Whether Enniss, Inc., could
have actually used the Hanson fill, however, was questionable because Hanson
also was considering using some or all of that fill for other projects. Moreover,
even if Hanson allowed Enniss, Inc., to use the fill, there was no certainty that the
required conveyor system which would require at least an easement over the
nearby properties could be constructed to transport the fill between the two sites.
Absent the Hanson fill, the necessary but then-absent bond or letter of credit to
keep the sand mine open would have had to be in the amount of approximately $20
million as the county had indicated that the bond or letter of credit would have to
reflect the cost of 2 million cubic yards of fill at $9.50 per cubic yard.
                                             - 70 -

would, be fined and/or shut down by San Diego County and/or by the California

Department of Conservation and the required reclamation work demanded

immediately.

        Should that have occurred, there would be no further revenue from sand

sales or tipping fees until, if ever, government authorities approved a new MUP

and reclamation plan. Even worse, a shutdown would force use of the Hanson fill

if still available and permission for the conveyor system could be obtained, or if

not, suitable fill material would have to be purchased on the open market to

reclaim the land at great cost. These facts would be of great concern to a

hypothetical purchaser and would significantly temper its thinking regarding the

purchase price and any offsetting consideration of potential tipping fees and free

fill.

        Still, sand mine owners and operators in San Diego County routinely

received tipping fees in exchange for allowing others to dump debris in the pits at

their mines. We fail to see why a hypothetical owner of property group 1, to the

extent that it could, would not charge a tipping fee to do the same at that site.33

While Mr. Coalson testified that specialized fill had to be used to reclaim property

group 1, we are unpersuaded that this is the case as to all of the property. In fact,


        33
             Tipping fees are inversely related to hauling costs.
                                          - 71 -

as Mr. Hecht pointed out, environmental documents for property group 1 state

specifically that construction debris can be used to fill the pits.

      Fill for dumping was available as of the valuation date, yet Mr. Coalson

improperly minimized the receipt of the tipping fees when ascertaining his value of

property group 1.34 The record does not allow us to find with precision the portion

of the 1,982,500 cubic yards of fill that the hypothetical owner of property group 1

would have to pay $9.50 for vis-a-vis the portion that the owner would pay nothing

for but instead would receive tipping fees. We believe it reasonable to reduce Mr.

Holzhauer’s calculation that the owner would pay $9.50 for each of the 1,982,500

cubic yards of fill by a stated amount in tipping fees and then apply the net amount

to the 1,982,500.

      To the extent that Mr. Coalson asserted that State policy for determining an

appropriate financial assurance plan prohibits the receipt of fill for free would also

apply to receiving fill and a tipping fee, we are unpersuaded that any such policy is


      34
         The record does not allow us to find as of the valuation date the exact
amount of fill that could be received either for free or with a tipping fee. We note,
however, that on November 9, 2004, Chad Enniss informed the Department of
Planning and Land Use that five nearby named “truckers and dirt brokers” had
3,721,000 cubic yards of fill available for dumping within a one-year period and
that these truckers and brokers had expressed a desire to dump their product at the
sand mine. He also named 20 other dirt and rubble producers in the county and
stated that the 25 total producers were “just a small list of company’s that haul,
dump, or produce dirt or rubble”.
                                         - 72 -

as cut and dried as Mr. Coalson stated. Mr. Coalson did not explain or otherwise

elaborate on his asserted policy, and the record establishes apart from the

determination and approval of financial assurance plans that in the real operating

world sand mines regularly received tipping fees during the relevant period. At the

same time, we are unpersuaded that the hypothetical buyer and the hypothetical

seller would have concluded, as of the valuation date, that fill for property group 1

could be obtained and economically transported from the Hanson site.

      Valuation is an inexact science which does not call for scientific precision,

see, e.g., Frazee v. Commissioner, 

, 577 (1992), and we believe that

simply reducing the $9.50 cost by three-fourths of the minimal but customary $2

per ton in tipping fees (i.e., by $1.50 per ton) is the best measure for the overall

cost of the fill related to property group 1 to adequately consider the risk of a

government shutdown and to blend the amount of fill that would be purchased vis-

a-vis the amount of fill that would be accepted for a fee. The parties should factor

these tipping fees into Mr. Holzhauer’s calculation in their Rule 155

computation(s).35

      35
         As a point of clarification, Mr. Holzhauer’s $24.6 million of reclamation
costs in 2008 should be reduced by $4,460,625 in tipping fees (i.e., $1.50 per ton x
the 1.5 tons per cubic yard conversion rate x 1,982,500 cubic yards). We recognize
that each cubic yard of fill received with a tipping fee will likewise produce a
savings of $9.50 per cubic yard and have blended that savings into our
                                                                          (continued...)
                                          - 73 -

                     c. Residuary Interest in Property

       Mr. Holzhauer calculated a value for the reclaimed sand mine on the basis of

his valuation of the underlying individual parcels. His calculation assumed a

highest and best use of each lot primarily as storage. He reviewed 12 real property

sales as part of his analysis. The sites of the properties underlying these sales were

as follows:

              Sale 1         12566 Vigilante Rd., Lakeside CA
              Sale 2         9120 Jamacha Rd., Spring Valley CA
              Sale 3         Woodside Ave. and Wheatlands Rd., Santee CA
              Sale 4         ES Rockville St., Santee CA
              Sale 5         SWC Jamacha Blvd. and Folex Way, Spring Valley CA
              Sale 6         1596 North Johnson Ave., El Cajon CA
              Sale 7         10007 Riverford Rd., Lakeside CA
              Sale 8         Woodside Ave., North of Marilla Dr., Lakeside CA
              Sale 9         Woodside Ave. and Hartley Rd., Santee CA
              Sale 10        11322 North Woodside Ave., Santee CA
              Sale 11        SEC Riverford Rd. & Riverside Dr., Lakeside CA
              Sale 12        NWC Mapleview St. & Channel Rd., Lakeside, CA

The pertinent information underlying the sales (as adjusted to reflect additional

costs to the buyers for items such as required fill or grading and adjustments for

size to reflect actual useable land) is as follows:36




      35
       (...continued)
$1.50-per-ton calculation.
      36
       M54 and IG zoning is general industrial use. IL zoning is light industrial
use. S88 zoning is limited industrial use.
                                                       - 74 -
                                          Square
Sale # Sale date Sale price Acreage        feet1   Price/SF     Zoning                Use

  1        Oct 02    $635,094     1.08    47,045    $13.50       M58      Industrial development; outdoor   storage
  2        May 02     650,000     1.09    47,480     13.69       M54      Industrial development; outdoor   storage
  3        May 02     681,507     1.39    60,548     11.26       IL       Industrial development
  4        Apr 01     750,000     1.50    65,340     11.48       IL       Church parking
  5        Apr 03   1,310,000     2.36   102,802     12.74       M58      To build ministorage
  6        Mar 04   1,277,000     3.81   165,964      7.69       M        Industrial development; outdoor   storage 2
  7        Apr 02   1,335,000     3.86   168,142      7.94       S88      Industrial development
  8        Aug 03   1,218,500     4.78   208,217      5.85       S88      Industrial development
  9        Jul 03   2,251,177     5.44   236,966      9.50       IL       Industrial development
  10       Sep 04   2,200,000     7.29   317,552      6.93       IG       Industrial development; outdoor   storage 2
  11       Feb 00   2,711,500     8.00   348.480      7.78       S88      Industrial development
  12       Jun 04   2,140,000    20.06   873,814      2.45       S88      Preservation

       1
           One acre equals 43,560 square feet.
       2
           The use for outdoor storage depends on a conditional permit.

Mr. Eichel’s comparable sales, by contrast, involved many properties which were

sold in 2007 and other properties which were not actually comparable to the

properties underlying property group 1.

       Mr. Holzhauer considered sales 1, 2, 6, and 10 to be the most relevant to his

analysis because they each were actually used or going to be used for outdoor

storage. He reasonably concluded that sale 1 was the most relevant sale because

the underlying parcel was on Vigilante Road and had been purchased primarily for

outdoor storage. He also reasonably considered sales 2, 6, and 10 to ascertain the

square-foot value of the reclaimed land because the reclaimed land was much

larger than the property underlying sale 1. He concluded from these four

comparable sales that the sand mine parcels, when fully reclaimed, had an average

value as of the valuation date of $8 per square foot (or approximately $24.5 million

in total). He then applied a real estate appreciation factor of 5% per year to arrive
                                         - 75 -

at a future residuary value of $34,505,673 in 2009 for the fully reclaimed

properties and reduced that value by selling expenses of approximately 3%

($1,035,170) to be incurred when the reclaimed property was sold in 2009. Costs

included annual real estate taxes of 1.5% of the market value of the property, with

a 2% annual increase ($32,096 per year by 2009).

                    d. Applicable Discount Rate

      Mr. Holzhauer applied a 13.5% discount rate to capitalize cashflows arising

from property group 1 to arrive at a final present value for the property of

$5,040,211 before consideration of the cost to comply with certain MUPs and the

value of real property improvements (e.g., a 4,300-square-foot office building on

parcel E). After considering these items, $330,000 and $400,000, respectively, he

arrived at a value of $4,995,000, which he rounded to $5 million. He opined that

this rate was appropriate because an investment in royalties from a sand mine

carried a high risk, given the regulatory risk, reclamation risks, and the risk of

demand and pricing for sand. He reviewed the yield rates listed in a reliable survey

of real property economic indicators and chose 13.5% as a rate that was slightly

less than the mean rate for higher risk properties.

      We agree that Mr. Holzhauer’s 13.5% rate is a reasonable rate to apply in the

setting at hand and in conjunction with our resolution of the fill dirt costs.
                                         - 76 -

Discount rates are generally set at the rates of return that property buyers in the

marketplace will demand to invest in property, see, e.g., Terrene Invs., Ltd. v.

Commissioner, T.C. Memo. 2007-218, and the rate to apply in a given case must

reflect an adequate return on investment with due respect to the attendant risks in

the investment. As of the valuation date, an investment in property group 1 was a

high risk, given among other things that the property was in poor condition and

many of the MUP and reclamation plan conditions were not met. The 13.5% rate,

which falls within the lower half of the high risk rates included in the referenced

survey, is reasonable in that it reflects a sensible return on investment as of January

1, 2003, when considering the attendant risks in investing in property group 1.
                                        - 77 -

               3. Property Groups 3 and 4

      These property groups include eight parcels on either side of Vigilante Road.

Mr. Holzhauer opined that the applicable fair market value of property groups 3

and 4 were $3,625,000 and $5 million, respectively.37 He arrived at those values

by applying a sales comparison approach and by comparing the attributes of the

parcels underlying property groups 3 and 4 and the comparable properties. Mr.

Eichel ascertained that the rounded respective values were $5,425,000 and

$6,250,000 using a comparative sales analysis that reviewed the same properties he

reviewed to value the residuary interest in property group 1. As was similarly true

in the case of property group 1, the properties underlying Mr. Eichel’s comparable


      37
           He broke down these amounts as follows:

             Property                  Acres     Value/SF           Value

               G                       2.86          $10         $1,245,816
               H                       4.70            9          1,842,588
               I                        .88           14            536,659
                 Total                                            3,625,063
                 Total (as rounded)                               3,625,000

               J                        1.05          13            594,594
               K                        2.37          12          1,238,846
               L                        1.14          14            695,218
               M                        1.29          13.50         758,597
               N                        3.93          10          1,711,908
                 Total                                            4,999,163
                 Total (as rounded)                               5,000,000
                                        - 78 -

sales were for the most part not comparable to the parcels in property groups 3 and

4 or the sales were too far removed from the valuation date.

      We find Mr. Holzhauer’s analysis underlying his values to be more

persuasive than Mr. Eichel’s analysis underlying his values. Mr. Holzhauer

determined the highest and best use for property groups 3 and 4 to be continued

use for open storage or outdoor manufacturing. He valued property groups 3 and 4

using 11 of the 12 comparable sales he analyzed in valuing the reclaimed land in

property group 1 (he concluded that the remaining sale was not pertinent to this

valuation). He ascertained that the mean of the 11 sales was $9.77 per square foot

and noted that the sales price per square foot tended to decrease for those sales as

the size of the property increased.

      Mr. Holzhauer reasonably concluded that sale 1, the underlying parcel of

which was the smallest parcel in the 11 sales, was a good benchmark in valuing the

smallest parcels in property groups 3 and 4 because the property underlying sale 1

was on the same block as the properties underlying property groups 3 and 4. He

also reasonably concluded that sales 7, 8, and 9 provided guidance on the impact of

size on value. He acknowledged that group 3 property was sold in 2007, but here

where the sale was more than four years later he properly minimized or
                                        - 79 -

disregarded that sale either because the value of industrial properties had surged

since 2004 or the sale date was too far removed from the valuation date.38

             4. Property Group 5

      Mr. Holzhauer opined that the applicable fair market value of property group

5 was $450,000. Mr. Eichel ascertained that the applicable value was $5 million.

We find that the value was $3,975,000 (or, as explained below, $5 million as

adjusted to reflect an average 1% per month appreciation in the property from the

valuation date to the original option exercise date of August 12, 2004).

      Mr. Eichel noted that property group 5 was under option as of the valuation

date for purchase at a price of $5 million. He noted that the property was later sold

to a national builder of homes and opined that a key element of the value of

property group 5 was the option purchase price. He analyzed other sales of similar

residential development land in the surrounding area and concluded that the $5

million option price for property group 5 was significantly lower than the other




      38
        Actual sales of the same property within a reasonable period after the
valuation date are relevant and admissible. See Estate of Giovacchini v.
Commissioner, T.C. Memo. 2013-27, at *50-*58 (and cases cited thereat). That
said, where relevant events materially affecting value were not reasonably
foreseeable on the valuation date, the price effect of those events should be
discounted or adjusted in determining value as of the valuation date, or the entire
subsequent sale should be disregarded.
                                         - 80 -

sale prices but that a reasonable purchaser would pay no more than $5 million for

property group 5.

      Mr. Holzhauer minimized the fact that Santee was driving a development of

the property surrounding property group 5 and determined that the highest and best

use for property group 5 was mining with a remote possibility of future residential

development. He ascertained his $450,000 fair market value for property group 5

by first determining a trended value for the property on the basis of the price that

petitioner paid for the property approximately 54 months before the valuation date.

He then applied an appreciation rate of approximately 1% per month to reflect the

appreciation of industrial land. He concluded that the option agreement was

irrelevant to his valuation of property group 5 because, he stated, the rules of

valuation require that the property be valued as if it were for sale “free and clear”

of the option.

      We disagree with Mr. Holzhauer’s analysis as to property group 5. Contrary

to his belief, the option agreement was not irrelevant in valuing property group 5.

In addition, contrary to petitioner’s statements in its brief, we do not ignore the

option agreement in valuing property group 5 or otherwise value that property as if

it were for sale free and clear of the option. The fact that property group 5 was

subject to the option agreement on the valuation date and that our hypothetical
                                         - 81 -

buyer and hypothetical seller are considered to know the same are important facts

that must be taken into account when valuing that property. In other words, the

hypothetical buyer and the hypothetical seller in buying and selling the property

would know that the option agreement, as it existed on the valuation date, had to be

consummated by August 12, 2004 (20-1/2 months after the valuation date). This

agreement further provided that the owner of the property immediately before

consummation of the option would either sell property group 5 to the optionee for

$5 million, or if it did not, the owner, petitioner, would sell the optionee the

referenced easements for $2 million, in which case the optionee at its cost would

improve the access road and stub utilities at the access road to all other approved

property lots.39 While the initial optionee may have been a strategic buyer as Mr.


      39
        Petitioner invites the Court to find as a fact that the optionee had both an
option to purchase property group 5 for $5 million and an option to purchase the
easements for $2 million. We decline to do so. As we read the option agreement,
and as we ultimately find in consideration of the record as a whole, the option
applies only to the purchase of property group 5 for $5 million. To be sure, the
option agreement explicitly distinguishes the option from the mandatory sale of the
easements. The option agreement states in part:

             In the event that Optionee does not exercise the Option
      provided for herein, Optionor shall sell to Optionee an easement for
      ingress and egress over the road across the Property shown on the
      approved tentative map for the Master Project * * * [and that]
      Optionor shall grant Optionee an easement over the land at the
      entrance of the Master Project, not to exceed one-half acre, in order to
      erect appropriate entry monumentation for the Master Project.
                                          - 82 -

Holzhauer opined, this does not mean, as Mr. Holzhauer concluded, that a

hypothetical willing buyer and a hypothetical willing seller would ignore the fact

that the optionee was contemplating buying the property at a future date for $5

million. Nor would the hypothetical willing buyer and the hypothetical willing

seller ignore the fact that the optionee was obligated to pay $2 million to the owner

of the property for easements on the property, make road improvements, and stub

utilities if the optionee did not exercise the option.

      As we see it, forgetting for the moment any appreciation in property group 5

between the valuation date and the date that the option is consummated, that

property was worth at least approximately $2 million on the valuation date given

that the optionee, at a minimum, was going to pay $2 million for easements on the

property approximately 20-1/2 months later.40 The question, therefore, is how

much more than $2 million was it worth? Petitioner argues that the exercise of the

option was “very speculative” as of the valuation date and should be given no

weight. We disagree.

      The optionee was committed to pay $2 million for the easements alone

(exclusive of the additional cost of the improvements), and we do not consider it

unreasonable to conclude that the optionee would pay the extra $3 million (or less,

      40
       We say “approximately” because the optionee also had to make certain
improvements to the property in return for the easements.
                                         - 83 -

when taking into account the improvement cost) to acquire the full bundle of the

property rights included in the 31.47 acres of property group 5. This is especially

true given that Santee was spearheading the development of the nearby property as

a residential development, and the record leads to the conclusion that a

hypothetical buyer and a hypothetical seller would both anticipate that the option

was going to be exercised at the $5 million strike price.41 To be sure, we doubt that

sophisticated longtime businessmen such as the members of the Enniss family

would encumber their property with the two-year option in return for a single

dollar and the permanent easement sale for $2 million were they not confident that

the option was likely to be exercised.

      Mr. Eichel analyzed various similar properties and concluded that the fair

market value of property group 5 was at least $5 million. Respondent invites the

Court to set the applicable value at $5 million. We decline to do so. We believe

that the $5 million option price is a reliable guide to the fair market value of

property group 5 as of the exercise date but that the price must be adjusted to take

into account the time value of money (also appreciation in property group 5)

between August 12, 2004, and the valuation date. See Estate of Trompeter v.

      41
        The fact that the parties to the option agreement expected the development
to go through is also seen in part by observing that the option agreement provided
that FDC would pay EFR $2 million for the easements after the first final
subdivision map for the master project was approved.
                                         - 84 -

Commissioner, T.C. Memo. 1998-35; Estate of Scanlan v. Commissioner, T.C.

Memo. 1996-331. Similar property in the area was appreciating at the rate of 1%

per month, and we believe it appropriate to discount the $5 million option price by

20-1/2% to reflect (primarily but among other things) the passage of time from the

valuation date to August 12, 2004.

      While, theoretically speaking, the fair market value of property group 5

should also take into account the risk that the optionee would not have the funds to

pay $5 million to exercise the option, the fact that Santee was pushing the

development of the nearby property and that we apply the 1% rate for each of the

20-1/2 months persuades us that this calculation best establishes the fair market

value of property group 5 as of the valuation date. We hold that the applicable fair

market value of property group 5 was $3,975,000 (i.e., $5 million x (1 - .205)).

      5. Bulk Sale Discount

      Mr. Holzhauer applied a bulk sale discount of 15% to the total value of the

nine property groups. Petitioner argues that the discount is appropriate to reflect

the fact that the nine groups of property are valued as if they were sold as of the

same time. While petitioner calls this discount a “bulk discount”, we understand

petitioner to refer to a “market absorption” or “blockage” discount. See Estate of

Auker v. Commissioner, T.C. Memo. 1998-185.
                                         - 85 -

      We agree with petitioner that a 15% discount is reasonable under the facts

herein. Relevant evidence of value may include consideration of a market

absorption discount in that such a discount reflects the fact that the sale of a large

block of property in the same general location over a reasonable period of time

usually depresses the price for that property. See id.; see also Estate of Sturgis v.

Commissioner, T.C. Memo. 1987-415 (20% market absorption discount applied to

11,298.86 acres of undeveloped land); Carr v. Commissioner, T.C. Memo. 1985-19

(30% market absorption discount applied to 175 developed lots; no discount

applied to 437.5 undeveloped lots); Estate of Folks v. Commissioner, T.C. Memo.

1982-43 (20% market absorption discount applied to five leased lumberyards with

the same tenant and in the same geographical area); Estate of Grootemaat v.

Commissioner, T.C. Memo. 1979-49 (15% market absorption discount applied to

undeveloped lots totaling 302 acres). We believe that the sale of the nine property

groups on or about the valuation date would depress the price for that property and,

under the facts at hand, conclude that the 15% discount that petitioner requests is a

reasonable measure of that depression.
                                        - 86 -

VII. Insurance Premiums

      Respondent determined that petitioner failed to recognize insurance

premium income of $128,584, $882, $299,178, and $298,000 received respectively

in 2002, the one-day taxable year in 2003, the remaining taxable year in 2003, and

2004. Respondent determined these amounts on the basis of insurance revenues

that petitioner reported on its Forms 990 for 2002 through 2004. Respondent

continued to argue that these amounts were taxable as insurance premiums up until

respondent’s opening brief was filed. In that brief, respondent abandoned the

characterization of the amounts as insurance premiums income, arguing instead

that the amounts are rental income. Respondent asserts that the amounts petitioner

reportedly received as insurance premiums were actually received as rent because

the royalty rate set forth in the lease between EFR and Enniss, Inc., was not at fair

market value. Respondent asserts that EFR could extract whatever amount of rent

it deemed appropriate from Enniss, Inc., during the subject years because EFR

could change lease terms at its discretion and terminate at will the leasehold of

Enniss, Inc.

      Petitioner argues in its pretrial memorandum (and in its opening brief) that

the disputed amounts do not reflect insurance premiums income because petitioner

failed to provide insurance. Instead, petitioner argues, the amounts are nontaxable
                                         - 87 -

contributions to capital pursuant to Carnation Co. v. Commissioner, 

(9th Cir. 1981) (holding that funds that a corporation received as insurance

premiums were recharacterized as nontaxable contributions to capital because the

corporation did not provide insurance), aff’g 

(1978). Petitioner argues

in its answering brief that it is prejudiced by respondent’s attempted

recharacterization of the disputed amounts at this late stage of this proceeding

because it never knew that it had to prove that the funds were not rent. Petitioner

asserts that it would have developed and presented evidence at trial showing that

the lease terms were at arm’s length had it known that respondent was going to

make the arguments that respondent now advances.

      We agree with petitioner that respondent’s new position is untimely. A

party may not raise an issue for the first time on brief if the Court’s consideration

of the issue would surprise and prejudice the opposing party. See Smalley v.

Commissioner, 

, 456 (2001); Seligman v. Commissioner, 

, 198-199 (1985), aff’d, 

(5th Cir. 1986). In deciding whether the

opposing party will suffer prejudice, we consider the degree to which the opposing

party is surprised by the new issue and the opposing party’s need for additional

evidence to respond to the new issue. See Pagel, Inc. v. Commissioner, 

, 212 (1988), aff’d, 

(8th Cir. 1990). In addition, a party may not
                                         - 88 -

rely upon a new theory unless the opposing party has been provided with fair

warning of the intention to base an argument upon that theory. See 

warning” means that a party’s ability to prepare its case was not prejudiced

by the other party’s failure to give notice, in the notice of deficiency or in the

pleadings, of the intention to rely on a particular theory. See 

respondent’s raising of the rental income issue in

respondent’s opening brief precluded or limited petitioner’s opportunity to present

pertinent evidence and that petitioner would be significantly prejudiced if we

decided that issue on the basis of the record at hand. Respondent had numerous

opportunities to raise the new theory, and the failure to raise this issue when

respondent could have done so waives the argument. See Aero Rental v.

Commissioner, 

, 338 (1975). We decline to consider it. Because

petitioner did not provide insurance during the subject years, we conclude that the

funds that it received as insurance premiums could not have been received as such

but were instead received as contributions to its capital. See Carnation Co. v.

.
                                       - 89 -

      The Court has considered all contentions, arguments, requests, and

statements that the parties made and has rejected those not discussed here because

they were without merit, moot, or irrelevant.

      To reflect the foregoing,


                                                      Decisions will be entered under

                                                Rule 155.