T.C. Memo. 2018-61



                       UNITED STATES TAX COURT



           DYNAMO HOLDINGS LIMITED PARTNERSHIP,
        DYNAMO, GP, INC., TAX MATTERS PARTNER, Petitioner v.
         COMMISSIONER OF INTERNAL REVENUE, Respondent

                BEEKMAN VISTA, INC., Petitioner v.
          COMMISSIONER OF INTERNAL REVENUE, Respondent



      Docket Nos. 2685-11, 8393-12.             Filed May 7, 2018.



      Martin R. Press, Edward A. Marod, Clinton R. Losego, Lu-Ann M.

Dominguez, Alan S. Lederman, and John W. Terwilleger, for petitioners.

      David B. Flassing, Lisa M. Goldberg, William G. Merkle, Timothy A.

Sloane, and G. Roger Markley, for respondent.
                                        -2-

[*2]        MEMORANDUM FINDINGS OF FACT AND OPINION


       BUCH, Judge: The Moog family has been very successful in real estate

development. Their real estate business originated in Canada. When it expanded

into the United States, they created U.S. subsidiaries under the Canadian structure.

Over time some family members and beneficial owners of the Canadian structure

moved to the United States.

       The Canadian structure proved to be very tax inefficient, particularly when

income was distributed (or deemed to be distributed) up the Canadian ownership

chain. To cure this inefficiency, the family created a U.S.-based structure and

began shifting assets to that new structure. The asset transfers took place during

2005, 2006, and 2007, the years in issue in these cases.1 In particular, U.S.

subsidiaries within the Canadian structure made advances to entities within the

U.S.-based structure to fund Dynamo’s operations. Also, entities within the

Canadian structure sold income-producing assets to entities within the U.S.-based

structure. Over time, the effect was to shift the U.S.-based income to the U.S.-

based structure.




       1
       The years in issue for Dynamo Holdings Limited Partnership are 2005,
2006, and 2007. The years in issue for Beekman Vista, Inc., are 2005 and 2006.
                                         -3-

[*3] The Commissioner argues that this planning was improper. The

Commissioner makes two principal arguments. First, the Commissioner argues

that the advances to the U.S.-based structure were not bona fide loans. Instead,

the Commissioner argues that we should treat the advances as gifts. The

Commissioner argues that this treatment would result in deemed distributions up

the Canadian ownership chain followed by deemed gifts to the owners of the U.S.-

based structure and deemed contributions to the U.S.-based structure. The

Commissioner argues that withholding taxes would apply when the deemed

distributions made their way across the border. In addition, the Commissioner

argues that some of the assets that were sold to the U.S.-based business were sold

below fair market value, giving rise to gifts that are subject to this triangular

distribution theory.

      We find that the advances were bona fide loans. Some of the assets,

however, were transferred at less than fair market value.

                                FINDINGS OF FACT

I.    The Moog Family

      The Moog family members are successful real estate developers. Delia

Moog is a wealthy Canadian who, during the years in issue, was in her seventies.

Mrs. Moog’s daughter is Christine Moog, and her nephew is Robert Julien. For
                                         -4-

[*4] over half a century, the family successfully developed real estate in Canada,

and for over 20 years, they successfully developed real estate in the United States.

      Over the years, Mrs. Moog engaged in estate planning. She began making

gifts of large portions of her estate in the 1990s, and she continued to do so after

the years in issue. She structured many of the gifts as 60/40 splits, giving 60% to

her daughter, Christine, and 40% to her nephew, Mr. Julien.2

II.   Beekman

      During the years in issue, Beekman Vista, Inc. (Beekman Vista), was a

corporation wholly owned by a Canadian entity controlled by Mrs. Moog.

Beekman Vista was a holding company that owned several property development

companies in the United States. We use “Beekman” to refer to the group of

entities consisting of Beekman Vista and its U.S. subsidiaries.

      Beekman Vista was organized as a Delaware corporation in 1984 to enter

the U.S. real estate market. Beekman Vista was a wholly owned subsidiary of a

Canadian corporation, Canada Square Management, Ltd. (Canada Square).

Canada Square was a wholly owned subsidiary of Kolter Property Co. Kolter

Property Co.’s preferred shares were held by 1231024 Ontario, Inc., and Kolter


      2
      To avoid confusion, we refer to Delia Moog as Mrs. Moog and her
daughter Christine Moog as Christine.
                                       -5-

[*5] Property Co.’s common shares and ownership control were held by 2020072

Ontario, Ltd. 1231024 Ontario, Inc.’s common stock was held in a 60/40 split,

with Delia Moog Family Trust holding 60% and Robert Julien Family Trust

holding 40%; Mrs. Moog owned all of its preferred shares. 2020072 Ontario, Ltd.

was wholly owned by 2020064 Ontario, Ltd. 2020064 Ontario, Ltd.’s nonvoting

common stock was held in a 60/40 split with Delia Moog Family Trust #2 holding

60% and Robert Julien Family Trust #2 holding 40%; Mrs. Moog held all of its

voting control. Mrs. Moog’s ownership of the voting stock of 2020064 Ontario,

Ltd. gave her indirect control over Beekman.

      Mrs. Moog, Mr. Julien, and Christine were among the beneficiaries of the

trusts. Christine was one of the beneficiaries of the Delia Moog Family Trust, and

Robert Julien was one of the beneficiaries of the Robert Julien Family Trust. The

beneficiaries of the Delia Moog Family Trust #2 and the Robert Julien Family

Trust #2 were Mrs. Moog, Christine and her descendant, and Mr. Julien and his

immediate family. Mr. Julien and Mrs. Moog were among the trustees of the

Robert Julien Family Trust #2 and the Delia Moog Family Trust #2.

      Beekman’s principal business activity was real estate management and

development. Beekman Vista’s subsidiaries owned and operated office buildings

in Dallas, Texas, and developed residential real estate in south Florida. Beekman
                                        -6-

[*6] also held a hedge fund portfolio, the Dynamo Fund, that produced investment

income. The hedge fund had lockup periods, which limit an investor’s ability to

redeem the investment. All but one lockup period expired on January 1, 2006.

      Beekman’s management team has a long track record of profitable real

estate projects. The management team operated under the Kolter brand name

common to Beekman and its parent companies. Mr. Julien and Mrs. Moog were

among the officers and directors of Beekman Vista. Although Mrs. Moog was an

officer and director, Mr. Julien and his team primarily handled the development

projects.

      The Beekman management team members worked together for decades.

Mr. Julien had worked in real estate with Kolter since the 1980s, and each of the

other members of the team had significant real estate experience before joining

Kolter. The management team had a well-defined project selection process; it

would not bid on projects until completing due diligence and running financial

models that demonstrated that the project would be a worthwhile investment.

      By the early 2000s Beekman’s business had changed substantially.

Beekman sold its Texas and Florida rental properties, and the management team

decided to focus its efforts on Florida real estate development.
                                           -7-

[*7] In 2004 Mr. Julien moved to Florida, and the remaining management team

members followed. Beekman also moved its principal office and management

team from Canada to Florida.

       Following his move, Mr. Julien discussed with legal consultants how to set

up a long-term business structure in the United States. Mr. Julien believed that

lending institutions were uncomfortable doing business with foreign companies

such as Beekman and that a U.S.-owned structure would provide the lending

institutions additional confidence in their projects or business. The management

team was also concerned with talent retention and believed that a U.S. company

would better attract and retain younger people. The management team was also

aware of the withholding tax on cross-border distributions from Beekman Vista to

Canada Square. Mrs. Moog decided to form a U.S. partnership.

       Beekman continued to operate profitably from 2005 to 2007. Beekman

Vista’s estimated earnings and profits for tax years 2005, 2006, and 2007 were

$34,504,980, $141,115,279, and $138,406,011, respectively.3

III.   Dynamo

       Dynamo Holdings Limited Partnership was formed in early 2005 as a

Delaware limited partnership. We use “Dynamo Holdings” to refer to Dynamo

       3
           All dollar amounts are rounded to the nearest dollar.
                                        -8-

[*8] Holdings Limited Partnership, and “Dynamo” to refer to the group of entities

consisting of Dynamo Holdings and the entities owned by it. Dynamo Holdings

was owned by two trusts that were limited partners and a corporation that was a

general partner. The 2005 Christine Moog Family Delaware Dynasty Trust held a

59.9995% limited partnership interest, the 2005 Robert Julien Family Delaware

Dynasty Trust held a 39.9995% limited partnership interest, and Dynamo GP held

a .001% general partnership interest. The beneficiaries of the U.S. trusts and the

Canadian trusts were not identical. Dynamo GP was owned 60% by 2020072

Ontario, Ltd., one of the Canadian corporations indirectly controlled by Mrs.

Moog, and 40% by Robert Julien. 2020072 Ontario, Ltd. was the common

indirect owner of Beekman and Dynamo.

      Dynamo Holdings was a holding company that owned, either directly or

indirectly, several single-member limited liability companies that were disregarded

for tax purposes. Dynamo Holdings directly held Dynamo, LLC, which directly

held Kolter Capital, LLC, which directly held Kolter Communities, LLC, which

directly held various property development companies.

      When Dynamo Holdings was formed, Mrs. Moog funded the initial

contribution by giving cash to the two trusts that funded Dynamo Holdings. Mrs.

Moog gave the trusts $100 million in a 60/40 split, transferring $60 million to the
                                      -9-

[*9] Christine Moog Dynasty Trust (Christine Dynasty Trust) and $40 million to

the Robert Julien Dynasty Trust (Julien Dynasty Trust). Mrs. Moog received the

$100 million as a dividend from the Canadian entities. This $100 million

provided Dynamo with the means to begin real estate development in the United

States.

      Dynamo’s principal business was real estate development and sales in

Florida. The management team was the same as the Beekman team, and it

continued to operate under the Kolter brand name. As it had done before, the

management team followed a well-defined process to select and bid on profitable

projects. It also provided management services to Beekman. The result was that,

although Dynamo was a newly formed structure, it had an experienced real estate

development team.

      For efficiency purposes, Dynamo centralized its operations. The

management team had centralized operations for Beekman and the other Canadian

companies. With the creation of Dynamo, they implemented the same approach.

Not only were the employees and overhead centralized, but the group of entities

also centralized their cash management.

      To centralize their cash management, one entity would function as the bank,

and when the operating companies produced cash from operations, they would
                                        - 10 -

[*10] transfer those profits to the bank. Likewise, the bank would advance cash to

the operating entities through intercompany advances. The operating entities

would not submit applications, undergo credit checks, or execute promissory

notes. The management team did not believe that formal procedures were

necessary. Because the borrower and lender had the same management team, the

lender had all the details related to each project and the risks associated with

lending to its subsidiary or corporate cousin. The intercompany advances were

booked to an asset account and to an account labeled as “due from/to” by the

lender and the borrower and accrued interest until they were repaid.

IV.   Advances Between Beekman and Dynamo

      Upon formation and through the years in issue, Beekman advanced funds to

Dynamo, and Dynamo recorded the funds on its ledgers as an account payable to

Beekman. The yearend balances of the advances were approximately $240

million, $501 million, and $176 million in 2005, 2006, and 2007, respectively.

Some of the funds that Beekman transferred to Dynamo were funds that Beekman

had received as loans from Canada Square. The purposes of the advances were to

fund operating expenses and to acquire assets.

      When Beekman advanced funds to Dynamo, specifically through Kolter

Capital and Kolter Communities as the centralized banks, the funds were recorded
                                       - 11 -

[*11] on the general ledgers in the “due from/to” account. Interest accrued on that

balance. And when Dynamo made repayments, the repayments were recorded on

the general ledgers as well.

      Beekman and Dynamo did not follow many customary lending practices.

Beekman did not demand payments, require collateral or security, or provide a

fixed due date. Beekman would not have forced Dynamo into bankruptcy to

collect the debts.

      The Beekman and Dynamo management team did not believe that formal

lending procedures were necessary. The companies shared a single management

team that had full knowledge of and access to both companies’ information, and

the companies had a the long history of advances and repayments over the years.

Given that the management team had control over both the lenders and the

borrowers, they believed that formal lending procedures were redundant and

unnecessary. They also believed that it was unnecessary to demand payments

because past repayments were made without demand.

      Beekman and Dynamo treated the recorded transfers as debt. Beekman’s

management expected that the recorded transfers would be repaid, and Dynamo’s

management expected to repay the recorded transfers.
                                       - 12 -

[*12] Dynamo made repayments to reduce the outstanding balance each year, and

Beekman never took any steps to enforce repayment. Dynamo repaid Beekman

with proceeds Dynamo received from capital contributions. It also repaid its debts

to Beekman by making wire transfers and by paying Beekman’s outstanding

obligations to third parties. Finally, Dynamo also repaid by providing

management services. Rather than collect management fees from Beekman only

to return them as payment on the debt, Dynamo provided management services

and Beekman deducted the cost of those services from Dynamo’s outstanding loan

balance.

      A.    The 2007 Restructuring

      In 2007 Dynamo engaged in a series of transactions that restructured the

advances to more accurately reflect the advances. As part of the transactions,

Beekman and Dynamo executed restructuring documents, including promissory

notes evidencing the prior advances. These agreements were executed by

February 2008 and would not have been created if the restructuring transactions

had not occurred.
                                       - 13 -

[*13] In the restructuring documents, Beekman and Dynamo agreed that Beekman

had previously lent Kolter Capital $500 million.4 Beekman and Kolter Capital

agreed to divide the outstanding balance into three parts, with Dynamo, LLC

assuming $220 million through a Dynamo, LLC note; RJ-K Newco, a newly

formed Kolter Capital subsidiary, assuming $146,666,667 through an RJ-K Newco

note; and Kolter Capital maintaining the remainder, $134 million, of the recorded

transfers to Beekman through the Kolter Capital note.5 The Kolter Capital note

was a revolving credit facility, and the Dynamo, LLC and RJ-K Newco notes were

demand notes. Each note had required interest to accrue at the London Interbank

Offering Rate for U.S. dollar deposits plus 1.85%, payable on the fifth day

following demand.

      Beekman and Dynamo did not abide by State laws that serve to formalize

lending agreements. Dynamo did not pay any State-level document stamp tax on



      4
       We note that there is an approximately $53 million discrepancy between
the amount recorded on the loan documents and the amounts recorded on the
general ledgers. The total amount included in the promissory notes for the
outstanding advances was $500,666,667, whereas the total outstanding advances
reported on Dynamo’s general ledger before the restructuring transaction was
$554,030,254.
      5
      The face amount of the RJ-K Newco note was $146,666,667; however,
RJ-K Newco recorded only $146,000,000. We find that the amount of the
assumption was only $146,000,000.
                                        - 14 -

[*14] these notes. Also as part of the restructuring documents, Dynamo and

Beekman executed a security agreement; however, the security agreement was

never filed with the Florida secretary of state.

      In addition to restructuring the outstanding balance, Dynamo Holdings

distributed interests in disregarded entities that held amounts substantially equal to

the amounts of the notes. Dynamo Holdings distributed Dynamo, LLC to

Christine Dynasty Trust. Dynamo, LLC held the Dynamo Fund, which had assets

worth approximately $220 million. And Dynamo Holdings distributed RJ-K

Newco to the Julien Dynasty Trust, which had $146,666,667 in assets consisting

of $70 million cash and a $76,666,667 promissory note.

      B.     General Ledgers

      The general ledgers of Beekman and Dynamo reflected the advances.

Dynamo booked all of the intercompany advances on its general ledger in a “due

to/from” account. These balances changed daily. The entries on the general

ledger could not be erased or replaced; instead, incorrect entries had to be reversed

by adding additional adjustment entries to the general ledger.

      At trial petitioners called Steven Moses to explain Dynamo’s general

ledgers. Mr. Moses has over 30 years of experience as a certified public

accountant and has experience in forensic accounting. Mr. Moses spent thousands
                                        - 15 -

[*15] of hours analyzing the financial records of Dynamo and Beekman and

selected records of Canada Square, each of which maintained separate books. He

prepared schedules of all the transactions recorded by Dynamo and Beekman from

2005 to 2011.

      Through his review of the financial records, Mr. Moses determined that

during the years in issue the yearend outstanding balances were $240,711,225,

$501,834,241, and $176,194,052 for 2005, 2006, and 2007, respectively. Because

entries could not be erased, Mr. Moses tracked the entries to determine whether

they had been reversed or corrected. He concluded that the outstanding balances

were entirely repaid by 2011. He also found that in 2006 and 2007 (as well as the

years following the restructuring transaction), interest was charged, accrued to the

loan balance, and paid as part of the satisfaction of the loans.

      For 2005 Mr. Moses determined that the total outstanding balance due was

$240,711,225, resulting from $378,242,851 of advances that increased the balance

due to Beekman and $137,531,626 in repayment or reductions that decreased the

balance due to Beekman. Dynamo recorded all of these transactions but one on

December 31, 2005. These amounts were reflected through 55 transfers between

Beekman and Dynamo; 16 of those were repayments or adjustments that decreased
                                      - 16 -

[*16] the balance owed to Beekman. Dynamo did not accrue any interest on the

outstanding balance in 2005.

      For 2006 Mr. Moses determined that the total outstanding balance due was

$501,834,241, resulting from $1,248,066,597 in transfers that increased the

balance due to Beekman and $986,943,581 in transfers that decreased the balance

due to Beekman. These amounts were reflected through 367 transfers between

Beekman and Dynamo; 212 of those were repayments or adjustments that

decreased the balance owed to Beekman. One of the transactions that increased

the total amount due was interest of $25,607,340.6

      For 2007 Mr. Moses determined that the total outstanding balance due was

$176,194,052 resulting from $188,094,578 of transfers that increased the balance

due to Beekman and $513,734,767 of transfers that decreased the balance due to

Beekman. These amounts were reflected through 2,718 transfers between

Beekman and Dynamo; 2,545 of those were repayments or adjustments that

decreased the balance owed to Beekman. One of the transactions that increased

the total amount due was interest of $17,220,493.




      6
        Although the description says “interest amount paid”, Mr. Moses testified
that the interest amount accrued to the loan balance and was paid as part of the
satisfaction of the loans.
                                        - 17 -

[*17] Mr. Moses determined that the advances were entirely repaid including

interest in 2011. The Commissioner did not offer any expert who contradicted Mr.

Moses.

      C.     Commercial Lending Practices

      At trial the Commissioner called Filmore Enger to explain whether a

commercial lender would have entered into loans like those between Dynamo and

Beekman. Mr. Enger has over 25 years of experience in the commercial lending

and banking industry.

      A commercial lender is typically a commercial bank, but a commercial

lender can also be a nonregulated financial company. Mr. Enger explained that

the basic elements required for a commercial loan are a stated principal amount

and interest rate, documentation that requires principal and interest to be repaid,

and a credit agreement that specifies the terms and conditions of such repayment.

He believed that no reasonable commercial lender would have given Dynamo

loans like those from Beekman on July 1, 2005, and December 11, 2006, without

credit guaranties or collateral, credit analyses, loan documents, stated interest

payments, or fixed maturity dates.
                                      - 18 -

[*18] D.    Capital Adequacy

      At trial petitioners called Israel Shaked and William Chambers to testify to

Dynamo’s ability to repay the advances. The Commissioner called Christopher

Lucas as an expert to explain whether Kolter Communities and Kolter Capital

could have obtained the advances from third-party lenders.

            1.     Professor Shaked

      Professor Shaked is a professor of finance and economics with almost 40

years of experience teaching doctoral, graduate, and undergraduate courses on

finance and economics. He has extensive valuation and financial consulting

experience and has written multiple books on these topics.

      He conducted financial analyses of Dynamo for the years in issue to analyze

the creditworthiness from the viewpoint of a third-party lender. He conducted

forward-looking economic analyses based on economic trends and Dynamo’s

financial statements to examine Dynamo’s short-term and long-term ability to

repay, the degree to which the fair market value of Dynamo’s assets exceeded the

value of its debts, and Dynamo’s capital adequacy.

      On the basis of his review, Professor Shaked determined that Dynamo’s

financial position would have been viewed favorably by a third-party lender. He

concluded that Dynamo had the ability to repay its debts in both the short term and
                                       - 19 -

[*19] the long term. He also calculated that Dynamo’s assets exceeded the value

of its debt, including the advances from Beekman, by at least $124 million and as

much as $292 million. Finally, he determined that Dynamo was adequately

capitalized on the basis of “net debt”, which requires subtracting cash and

marketable securities from debt of the business enterprise. He explained that

portfolios could be easily liquidated. He concluded that Dynamo’s liquid assets

exceeded its debt throughout the years at issue.

             2.    Dr. Chambers

      Dr. Chambers is a professor of Finance with over 30 years of credit rating

experience. For over 10 years Dr. Chambers has been teaching graduate and

undergraduate courses in portfolio management, financial markets, and corporate

finance. Before becoming a professor, Dr. Chambers spent two decades in the

credit rating division of Standard & Poor’s and was involved in developing credit

rating criteria and procedures.

      Dr. Chambers conducted a credit analysis of Dynamo for the years in issue

to determine what credit rating might have been assigned to it. He reviewed the

lockup periods for the hedge fund and determined that all but one expired on

January 1, 2006. He determined that Dynamo’s credit rating would never have
                                         - 20 -

[*20] been below a “B”, which indicates that it could have obtained loans on

substantially similar economic terms as the advances from Beekman.

               3.    Mr. Lucas

         Mr. Lucas is a financial analyst with 20 years of business valuation

experience. He analyzed the debt capacity of Kolter Communities and Kolter

Capital using three models: a credit metric analysis, comparing the Kolter entities

to peer entities; a KMV-Merton analysis, analyzing the likelihood of default; and a

cashflow stress test, analyzing the ability to refinance. He chose those specific

models at the request of counsel to the Commissioner. On the basis of his models,

he concluded that Kolter Communities and Kolter Capital could not have

borrowed the amounts of the advances from third-party lenders on comparable

terms.

         During the second week of trial when Mr. Lucas was called to testify, he

submitted an “errata sheet” consisting of 26 pages. In his errata sheet, he admitted

to using incorrect information in his analysis. He also admitted, as Professor

Shaked illustrated in his rebuttal report, that he understated the revenue

forecasting by approximately $575 million in his cashflow analysis and overstated

capital expenditures.
                                        - 21 -

[*21] Mr. Lucas was forced to adjust his model. He found that his original model

went “haywire” when he ran it with the corrected information and adjusted his

formulas to correct for the erroneous results.

      When Mr. Lucas ran his new model using more accurate data, he concluded

that Kolter Communities had a 75% chance of refinancing at yearend 2005 and

that Kolter Capital had a 75% chance of refinancing at yearend 2006 and 2007.

Yet in his report and testimony, Mr. Lucas determined that in November 2006

Kolter Communities would not have been able to refinance.

      At trial Mr. Lucas explained how the KMV-Merton model operated in

determining the probability of default. The KMV-Merton model increases the

probability of default over time. The Court questioned Mr. Lucas on the nature of

this assumption in his report. The Court asked Mr. Lucas whether over a 10-year

period, where each year the company had a 2% chance of default, the company

would have a 20% chance of default. Mr. Lucas said that it would. Yet when the

Court asked Mr. Lucas: “If I were to flip a coin twice, do I have a 100 percent

chance of getting heads in one of those two flips?”, Mr. Lucas replied “No” and

then added that “I may have misresponded to the additive nature of the probability

of default”. Mr. Lucas’ original report was riddled with errors, and his testimony

indicated a lack of familiarity with probabilities, the very subject about which he
                                       - 22 -

[*22] testified. After corrections for errors, Mr. Lucas’ report largely supported

petitioners’ position that Dynamo would have been able to borrow from a third-

party lender.

V.    Asset Transfers

      In addition to providing advances to Dynamo, Beekman transferred property

to Dynamo. Beekman transferred the Domani property, the Grande at Mirasol

property, the Mainstreet properties, the Verano property, the Jag of Palm Beach

property, the Bear’s Club property, the Grande Sarasotan property, and the

Heathrow Oaks property during the years in issue. Beekman also transferred the

Dynamo Fund and its interest in TOUSA/Kolter, LLC. At the time of the transfers

Beekman and Dynamo did not obtain independent appraisals of the property

because the members of the management team believed that, as experts in property

valuation and real estate development, they had accurately priced the properties.

      A.        The Domani Property

      The Domani property was seven acres of real property in North Palm Beach,

Florida. In 2004 Beekman purchased the property for $23,500,000 through a

subsidiary, Domani Development, LLC. Beekman spent an additional $1,056,414

to develop the property.
                                        - 23 -

[*23] In 2005 Dynamo purchased Domani Development, LLC, from Beekman.

As payment for the Domani property Dynamo increased the outstanding balance of

its debt to Beekman by $12,261,301. Dynamo’s plan in March 2006 was to

develop the Domani property with luxury condominium units, two-story mansions,

guest suites, and boat dockage. After Dynamo purchased the property, it received

a loan from Bank of America for $17 million through Domani Development, LLC.

      At trial petitioners called Michael Slade to value the Domani property. Mr.

Slade is a senior residential appraiser with over 40 years of experience. He holds

professional designations in real estate valuation.

      In valuing the Domani property retrospectively, Mr. Slade determined that

its highest and best use was to be developed into multifamily or mixed-use

projects. He used the sales comparison approach, in which the property being

valued is compared to similar properties sold in the same timeframe and

geographic area.7 On the basis of this approach, he determined that the fair market

value of the Domani property was $23,500,000.

      The Commissioner did not call a witness to value the Domani property at

trial. The Commissioner believes that the value of the Domani property is


      7
       See Butler v. Commissioner, T.C. Memo. 2012-72, 

, 1368 (2012).
                                       - 24 -

[*24] $25,882,872, which the parties agree was Beekman’s total investment in the

Domani property.

      B.    The Grande at Mirasol Property

      The Grande at Mirasol property was approximately 42 acres of real property

in Palm Beach Gardens, Florida. In 2001 Beekman purchased the Grande at

Mirasol property from Taylor Woodrow through a subsidiary, the Grande at

Mirasol, Inc. The property consisted of 475 low-rise residential rental units. The

purchase agreement contained a provision that could arguably prohibit

condominium conversion.

      In 2004 Beekman began aggressively pursuing conversion of the complex

into condominiums. Beekman attempted to convert the complex quickly because

the market for condominiums was brisk. Beekman sent the State of Florida,

Bureau of Condominiums a notice of its intent to convert.

      In September 2005 Taylor Woodrow and the Grande at Mirasol, Inc.,

entered into an agreement that amended the restriction on condominium

conversion. Under the agreement the Grande at Mirasol, LLC, a Dynamo entity,

could convert the Grande at Mirasol property to condominiums on or before

December 1, 2006. Upon conversion the Grande at Mirasol, LLC, would pay
                                       - 25 -

[*25] Taylor Woodrow a base compensation of $4,848,618 and bonus

compensation when the gross sale proceeds exceeded approximately $136 million.

      While still pursuing a conversion, Beekman transferred the Grande at

Mirasol property to the Grande at Mirasol, LLC, by merging the Grande at

Mirasol, Inc., into the Grande at Mirasol, LLC. Beekman increased the

outstanding balance due from Dynamo by $2,684,094 and Dynamo assumed a $38

million liability of Beekman’s on November 17, 2005. The following month the

Grande at Mirasol, LLC, sent letters to the tenants informing them of the transition

to residential condominiums. On January 6, 2006, the Grande at Mirasol, LLC,

received approval from the State of Florida to convert to condominiums. By that

time, 40% of the tenants had moved, but the condominium market was on the

decline.

      At trial the Commissioner called Jack Friedman to value the Grande at

Mirasol property. Dr. Friedman received his Ph.D. in business administration with

a major in real estate and land economics. He is a real estate economist and holds

professional designations in real estate valuation, including designations for being

an appraiser who has met high standards and contributed to the appraisal industry.

      Dr. Friedman prepared a retrospective appraisal of the Grande at Mirasol

property to determine its fair market value on November 17, 2005. Dr. Friedman
                                       - 26 -

[*26] determined that its highest and best use was to be converted to

condominiums. He determined the fair market value of the Grande at Mirasol

property using the sales comparison method. He compared the Grande at Mirasol

property to four apartment complexes that were acquired for condominium

conversion. Dr. Friedman determined that the fair market value of the property

was $121,400,000. He did not account for the cost to convert of $4,848,618.

      At trial petitioners called Mr. Slade to value the Grande at Mirasol property.

Mr. Slade prepared a retrospective appraisal to determine its fair market value on

December 1, 2005. He determined that its highest and best use was to be

maintained as a rental apartment complex. Mr. Slade considered condominium

conversion but determined that it was restricted. However, he had not seen the

agreement between Beekman and the previous land owner under which Dynamo

could convert the property to condominiums if it paid compensation. During trial

he agreed that if there was no restriction in place on condominium conversions, he

would have considered properties that were converted to condominiums in his

analysis. On the basis of a sales comparison approach and an income approach, he

determined that the fair market value of the Grande at Mirasol property was $56

million.
                                         - 27 -

[*27] C.     The Mainstreet Properties

      Between November 2005 and April 2006, Reserve Home Ltd., LP (Reserve

Home), transferred a group of properties in Port St. Lucie, Florida, to Mainstreet

Village II, LLC, Mainstreet Village III, LLC, and Verano Development II, LLC,

all of which are Dynamo entities. As payment for the Mainstreet properties

Beekman and Dynamo recorded a $9,850,000 increase in the outstanding balance

due to Beekman from Dynamo.

             1.    The Mainstreet Commercial Property

      The Mainstreet commercial property consisted of two lots, C and A, and a

tract, R. Reserve Home purchased the Mainstreet commercial property as

undeveloped land in 1998 and transferred it to Mainstreet Village II on November

29, 2005.

      At trial the Commissioner called Barry Diskin to value the Mainstreet

commercial property. Dr. Diskin has a Ph.D. in land economics and real estate

and holds professional designations in real estate valuation. He has held his

designations for over 20 years.

      Dr. Diskin prepared a retrospective appraisal of the Mainstreet commercial

property to determine its fair market value on November 29, 2005. He determined

that lot C’s highest and best use was retail, lot A’s highest and best use was
                                       - 28 -

[*28] commercial offices, and tract R’s highest and best use was a right-of-way.

Using the sales comparison method, Dr. Diskin determined that lot C’s fair market

value was $3,900,000, lot A’s fair market value was $203,000, and tract R did not

have value.

      On brief, petitioners do not dispute the Commissioner’s valuations.

              2.     The Mainstreet Office Building

      The Mainstreet Office Building property consists of 2.35 acres of land and a

.85-acre drainage easement. This property was developed as a single-tenant, one-

story office building. Reserve Home transferred the Mainsteet Office Building

property to Mainstreet Village III on April 6, 2006.

      At trial petitioners called Mr. Slade to value the Mainstreet Office Building

property. Mr. Slade prepared a retrospective appraisal to determine its fair market

value on April 6, 2006. He determined that the Mainstreet Office Building

property’s highest and best use was as an office building. On the basis of a sales

comparison approach and an income approach, he determined that the fair market

value of the Mainstreet Office Building property was $850,000.

      The Commissioner did not offer an expert to value the Mainstreet Office

Building property.
                                          - 29 -

[*29]         3.     The Mainstreet Vacant Property

        The Mainstreet vacant property consists of 2.39 vacant acres. Reserve

Home transferred it to Mainstreet Village III on November 29, 2005.

        At trial the Commissioner called Dr. Diskin to value the Mainstreet vacant

property. Dr. Diskin prepared a retrospective appraisal to determine its fair market

value on November 29, 2005. He determined that its highest and best use was as a

park or public facility or a donation to the city. Using the sales comparison

method, Dr. Diskin determined that the fair market value of the Mainstreet vacant

property was $120,000.

        Petitioners did not call an expert to value this property.

              4.     The G.O. Team Property

        The G.O. Team property consists of a total of 62.23 acres that encompass

two separate portions: an industrial portion and the remaining portion. The

industrial portion is four lots that total 6.68 acres and a 3.40-acre easement. The

remaining portion consists of 13 lots on 27.17 acres and a 24.98-acre property that

contains a lake.
                                          - 30 -

[*30]                a.      The Industrial Portion

        The industrial portion consists of four vacant lots on 6.68 acres and a 3.40-

acre easement. On April 6, 2006, Reserve Home transferred the industrial portion

to Mainstreet Village III.

        At trial the Commissioner called Dr. Diskin to value the industrial portion.

Dr. Diskin prepared a retrospective appraisal to determine its fair market value on

April 6, 2006. He determined that the industrial portion’s highest and best use for

the four vacant lots was as small industrial lots and for the easement was as a

drainage and utility easement. Dr. Diskin valued the property using the sales

comparison approach. He selected four comparable properties in St. Lucie County

with prices between $4.92 and $10.17 per square foot. Dr. Diskin determined that

the fair market value of the industrial portion was $5 per square foot for a total

value of $1,455,000.

        At trial petitioners called Mr. Slade to value the industrial portion. Mr.

Slade prepared a retrospective appraisal to determine its fair market value on April

6, 2006. He determined that the industrial portion’s highest and best use was

industrial. Mr. Slade valued the lots using the discount sellout analysis. In doing

so, he selected 10 comparable properties in St. Lucie County and Martin County

with prices between $2 and $5.19 per square foot. He excluded properties with
                                        - 31 -

[*31] higher values from his comparison because he believed that those properties

had superior locations. The average per-square-foot price of the remaining

comparable properties was $3.85, and the most recent sale was at $3.01 per square

foot. He concluded that the estimated price per square foot ranged from $2 to

$2.25. He then discounted the total by 16% to account for sales commissions,

general administrative costs, developer’s profit, real estate taxes, and

miscellaneous costs, for a net value of $530,000 for the four lots. He determined

that the easement had no value.

                    b.    The Remaining Portion

      The remaining portion consisted of 13 lots and a parcel totaling 24.98 acres.

The 24.98-acre parcel had a lake in the middle, leaving only 8.5 acres available to

be developed. The zoning classification for the property was industrial. On

February 14, 2005, the city council of Port St. Lucie passed Ordinance 04-107,

amending the future land use map of these parcels from industrial to low-density

residential. On April 6, 2006, Reserve Home transferred the remaining property to

Verano Development II, LLC.

      At trial each party called an expert to value the remaining portion. The

Commissioner called Dr. Diskin. Petitioners called Mr. Slade.
                                        - 32 -

[*32] Dr. Diskin prepared a retrospective appraisal of the remaining portion to

determine its fair market value on April 6, 2006. He determined that the

remaining portion’s highest and best use would be to combine the lots into a low-

density residential property with 271 dwelling units clustered on to the buildable

portion of the property.

      Dr. Diskin valued the property using the sales comparison approach. He

selected three comparable properties with adjusted prices per acre of $132,260 to

$178,625. Dr. Diskin determined that the value per acre was $140,000 for a total

fair market value of $7,900,000.

      Mr. Slade calculated the fair market value of the remaining portion in two

phases, valuing the 13 remaining lots separately from the 24.98-acre plot with a

lake. Mr. Slade treated the 13 smaller lots exactly the same as the industrial

portion, using the discount sellout analysis to determine value at the time of the

transfer. Mr. Slade determined that the fair market value of the industrial portion

ranged from $2 to $2.25 per square foot. He also discounted the value by 16% for

sales commissions, general administrative costs, developer’s profit, real estate

taxes, and miscellaneous costs, for a total value of $1,890,000. At trial, he did not

remember seeing the ordinance changing the land to residential, and he did not
                                        - 33 -

[*33] take it into account in his valuation. He believed that if the future land use

had changed, he would need to consider the future land use in his valuation.

      Mr. Slade treated the 24.98 acres with the lake differently. He again

determined that the highest and best use was industrial. Mr. Slade determined the

fair market value of the 24.98 acres with the lake with the sales comparison

approach. He selected five comparable properties with prices per square foot

ranging from $2.66 to $4.04 and determined a fair market value of $3 per square

foot, for a total of $1,100,000.

      D.     The Verano Property

      The Verano property was 3,030 acres of real property in Port St. Lucie,

Florida. Beekman purchased all of the Verano property by the summer of 2003.

The Verano property was largely vacant land. Beekman held the Verano property

indirectly through its ownership of Reserve Home. As of February 2006,

Beekman’s total cost for the Verano property was approximately $49,477,298.

      On February 28, 2006, Reserve Home transferred the Verano property to

Verano Development, LLC, and a small tract of the Verano property to PSL

Commercial Holdings II, LLC, both of which were indirect wholly owned

subsidiaries of Dynamo. Verano Development, LLC, paid $49,477,298 for the

Verano property. Dynamo planned to build 6,300 residential units on the
                                       - 34 -

[*34] property, including a nine-hole golf course. Shortly after purchasing the

land, Verano Development, LLC, was approved for a $90 million loan from

Suntrust, with the option to increase the loan to $150 million, secured by the

Verano property.

      At trial the Commissioner called Jack Friedman to value the Verano

property. Dr. Friedman prepared a retrospective appraisal to determine its fair

market value on February 28, 2006. Dr. Friedman determined that its highest and

best use was to develop it into a master-planned community. He determined the

fair market value of the Verano property using the sales comparison method. He

compared the Verano property to three properties, either slated for residential

development or developed, located in Port St. Lucie and sold under the same

market conditions.

      One property included in the comparison, the Centex property, was within

one mile of the Verano property and was a large master-planned community

consisting of 2,067 acres. The Centex property sold for $110,000,000. At the

time of the sale, like the Verano property, the Centex property had not been

developed. In determining the fair market value of the Verano property, Dr.

Friedman gave the Centex property 50% weight and determined that the Verano

property’s value was $140,000,000.
                                       - 35 -

[*35] Petitioners called Mr. Slade to value the Verano property. Mr. Slade

prepared a retrospective appraisal to determine its fair market value on February

28, 2006. He determined that the Verano property’s highest and best use was as a

future mixed use development. Mr. Slade also used the sales comparison

approach and included the Centex property; however, he believed the value of the

Verano property should be less than that of the Centex property because the

Centex property had superior road access. Mr. Slade determined that the fair

market value was $101,500,000.

      E.    Other Transfers

      In January 2005 Beekman made a $17,500,000 partnership contribution to

TOUSA/Kolter, LLC, and received a 50% interest. A portion of that contribution,

$3 million, was subsequently credited back to Beekman thereby reducing its

contribution to $14,500,000. In 2005 TOUSA/Kolter, LLC, purchased the

Monterra property. Beekman transferred its TOUSA/Kolter, LLC, interest to

Dynamo in early 2005. Dynamo reported a $14,500,000 increase to the

outstanding balance due to Beekman.

      On December 31, 2005, Beekman held the Dynamo Fund, with a fair market

value of $228,234,808. During the first half of 2006 Beekman transferred all of

the assets in the Dynamo Fund to Dynamo. Between January 1 and June 29, 2006,
                                         - 36 -

[*36] Dynamo paid a total of $198,025,037 for the Dynamo Fund assets. The

payments were recorded as increases in the outstanding balance due to Beekman.

       During the years in issue Beekman also sold to Dynamo the Jag of Palm

Beach property, the Bear’s Club property, the Grande Sarasotan property, and the

Heathrow Oaks property for $2,444,252, $1,500,000, $14,941,911, and

$12,762,189, respectively. Neither party offered any valuation evidence as to

these properties at trial.

VI.    U.S. Real Property Holding Corporation

       At trial petitioners called Richard Preston to calculate Beekman’s

percentage of U.S. real property interests as a share of its total real property

interest both inside and outside the United States and other assets which are used

or held for use in a trade or business for purposes of determining whether

Beekman is a U.S. real property holding corporation as defined by section

897(c)(2).8 Mr. Preston has 46 years of experience as a public accountant.

       Mr. Preston analyzed the book value of Beekman’s U.S. real property and

the book value of its total real property and business assets. He excluded from his

real property calculation any U.S. real property that was held primarily for sale in

       8
       All section references are to the Internal Revenue Code (Code) in effect for
the years in issue, and all Rule references are to the Tax Court Rules of Practice
and Procedure, unless otherwise indicated.
                                        - 37 -

[*37] the ordinary course of business. He determined that from June 30, 2001 to

2007, Beekman’s share of U.S. real property as a percentage of its total real

property and business assets never exceeded 11.65%.

      The Commissioner did not call an expert. Instead, the Commissioner

calculated the fair market value of Beekman’s U.S. real property holding interests

and the fair market value of Beekman’s business assets, including real estate,

using information provided on Beekman Vista’s Forms 1120, U.S. Corporation

Income Tax Return. The Commissioner took the book value reported on the

return and added back the estimated amount of income Beekman earned from

disposal of the properties in later years. The Commissioner determined that

Beekman’s percentage of U.S. real property as a share of its total real property and

business assets never fell below 78%.

      The Commissioner also prepared the calculation using the same book values

as Mr. Preston; however, the Commissioner did not exclude U.S. real property

held primarily for sale in the ordinary course of business. Using the alternative

book values, the Commissioner determined that the share of U.S. real property

never fell below 42.74%.
                                       - 38 -

[*38] VII.   Reporting and Examinations

      Beekman Vista and Dynamo Holdings file different returns and have

different tax year ending dates. For each of the years in issue Beekman Vista filed

Form 1120 and had a fiscal tax year ending June 30. Beekman Vista also filed

Form 1042, Annual Withholding Tax Return for U.S. Source Income of Foreign

Persons, to report tax withheld on payments to foreign persons. Dynamo Holdings

filed for each year Form 1065, U.S. Return of Partnership Income, and had a

calendar tax year. The management team did not research how to record the

transfers or seek advice on how to report the transfers for tax purposes.

      A.     Beekman Vista

      Beekman Vista filed a Form 1120 for each of its tax years ending June 30,

2006 through 2008. KPMG LLP, based in Canada, prepared and signed the

returns. Each year Beekman Vista filed as an accrual method taxpayer.

      On its 2005 Form 1120 Beekman Vista reported current assets of

$521,452,519 due from advances and no interest income from its advances to

affiliates. On its 2006 Form 1120 Beekman Vista reported current assets of

$518,293,045 due from advances and interest income of $25,607,340 received

from its advances to affiliates. On its 2007 Form 1120 Beekman Vista reported

current assets of $445,102,107 due from advances and interest income of
                                       - 39 -

[*39] $17,220,492 from its advances to affiliates. Beekman Vista did not file

Form 1042 for 2005 or 2006 or make any deposits with respect to withholding

taxes before 2009.

      During 2007 through 2009 the Commissioner examined Beekman Vista’s

Forms 1120 for the tax years ending June 30, 2004 through 2008. During that

examination the revenue agent determined that Beekman Vista owed withholding

taxes for 2005 and 2006 on transfers unrelated to the issues in these cases. In

2009 the revenue agent prepared Forms 1042 for Beekman Vista for 2005 and

2006. Beekman Vista signed and filed the Form 1042 for 2005 on February 17,

2009, and the Form 1042 for 2006 on September 30, 2009. Beekman paid the

amounts shown on those returns. After the returns were filed, the revenue agent

concluded that no penalties would be proposed because the Beekman Vista

representatives provided a statement of reasonable cause.

      B.     Dynamo Holdings

      Dynamo Holdings filed Forms 1065 for 2005, 2006, and 2007. Ernst &

Young LLP prepared and signed the Dynamo Holdings Forms 1065. Dynamo

Holdings reported that it was an accrual basis taxpayer.
                                        - 40 -

[*40] Dynamo Holdings filed its short-year 2005 Form 1065 reporting liabilities

of $257,949,054 for intercompany advances and no interest expense paid to

Beekman.

      Dynamo Holdings filed 2006 Form 1065 and reported advances as a liability

and interest expenses. It reported yearend other liabilities of $635,337,482 for

intercompany advances, interest expenses not reported elsewhere of $18,192,267,

and investment interest expenses of $19,656,535. It also reported that it had no

nonrecourse liabilities. Dynamo Holdings included a Schedule K-1, Partner’s

Share of Income, Deductions, Credits, etc., for Dynamo GP, reporting

$878,187,986 of recourse liabilities, and Schedules K-1 for the Christine Dynasty

Trust and Julien Dynasty Trust reporting no recourse liabilities.

      On its filed Form 1065 for 2007 Dynamo Holdings did not report advances

as a liability but did report interest expenses. It reported interest expenses not

reported elsewhere of $17,309,252 and no nonrecourse liabilities. Dynamo

Holdings included a Schedule K-1 for Dynamo GP, reporting $477,313,741 of

recourse liabilities and Schedules K-1 for the Christine Dynasty Trust and Julien

Dynasty Trust reporting no recourse liabilities.
                                        - 41 -

[*41] VIII. FPAA and Notice of Deficiency

      In June 2008 the Commissioner began an examination of Dynamo

Holdings’ returns. After the examinations of Beekman Vista’s and Dynamo

Holdings’ returns, the Commissioner issued a notice of final partnership

administrative adjustment (FPAA) with respect to Dynamo Holdings and a notice

of deficiency to Beekman Vista.

      On December 28, 2010, the Commissioner timely issued an FPAA with

respect to Dynamo Holdings for 2005, 2006, and 2007. The Commissioner made

several adjustments in the FPAA, including adjusting interest expenses by

$25,607,340 and $16,921,256 for 2006 and 2007, respectively. The

Commissioner also adjusted forgiveness of indebtedness income and distributions

to partners. The Commissioner determined a section 6662(a) accuracy-related

penalty for each year.

      On February 1, 2012, the Commissioner issued Beekman Vista a timely

notice of deficiency for calendar years 2005 and 2006. The Commissioner

determined that Beekman Vista made U.S. source distributions to a Canadian

corporation subject to withholding tax of $561 million and $506 million and was

liable for a section 6651(a)(1) addition to tax and a section 6656(a) penalty for

each year. The Commissioner made the following determinations:
                                        - 42 -

[*42]                                   Addition to tax       Penalty
                Year      Deficiency    sec. 6651(a)(1)     sec. 6656(a)
                2005     $56,109,757     $14,027,439        $5,610,976
                2006      50,623,698      12,655,924         5,062,370


IX.     Tax Court Proceedings

        Dynamo GP, the tax matters partner of Dynamo Holdings, and Beekman

Vista timely petitioned this Court for review on February 1, 2011, and April 4,

2012, respectively. At the time the petitions were filed, Dynamo Holdings’ and

Beekman Vista’s principal place of business was in Florida. The Court

consolidated these cases.

        Both parties conducted extensive pretrial discovery. The parties first

engaged in informal discovery. The Commissioner requested all documents

relating to transfers of value between Dynamo and Beekman. Two years later, the

parties involved the Court in their pursuit of formal discovery. We issued

Dynamo Holdings Ltd. P’ship v. Commissioner,9 which allowed Dynamo to

respond to the Commissioner’s request using predictive coding. The parties’

discovery battles continued. Dynamo submitted 10 requests for admissions and a

motion to compel production of documents. Shortly thereafter, the Commissioner


        9
            

 (2014).
                                        - 43 -

[*43] filed two motions to compel production of documents and six motions to

compel the taking of depositions.10

      Six months before trial the Commissioner filed a motion to amend his

answer to Beekman Vista’s petition to increase the deficiencies, additions to tax,

and penalties. The Commissioner included a list of 52 initial transfers included in

the calculations in the notice of deficiency and a revised list of 146 transfers that

increased the deficiencies. The Commissioner increased the amounts of the

transfers from the amounts recorded on the books for the following properties: the

Grande at Mirasol property, the Mainstreet properties, the Jag of Palm Beach

property, the Bear’s Club property, the Domani property, the Grande Sarasotan

property, and the Heathrow Oaks property. The Commissioner also increased the

amounts of the transfers from the amounts recorded on the books with respect to

the TOUSA/Kolter, LLC interest and the Dynamo Fund. We granted the motion.

The Commissioner’s amended determinations are as follows:

                                        Addition to tax        Penalty
            Year       Deficiency       sec. 6651(a)(1)      sec. 6656(a)
            2005      $57,906,514        $14,476,628         $5,790,651
            2006        75,944,517         18,986,129          7,594,452


      10
        We note that the Commissioner did not file a motion to compel the taking
of a deposition of Mrs. Moog.
                                        - 44 -

[*44] The parties have resolved or conceded various items.

                                      OPINION

      The principal issues in these cases are 1) whether transfers from Beekman to

Dynamo were gifts or loans and 2) whether there were transfers of property from

Beekman to Dynamo at less than fair market value. To the extent the

Commissioner prevails, his prevailing would give rise to constructive distributions

up the Beekman chain of entities, and those distributions could be subject to

withholding taxes. As to the first issue, we must first determine whether the

advances were bona fide debt. As to the second issue, we must determine whether

property was transferred at fair market value. If we find that the transfers were not

bona fide debt or that property was transferred at less than fair market value, then

we must determine whether there were constructive distributions. If there were,

then we must determine whether Beekman was required to withhold taxes.

I.    Burden of Proof

      In general, the Commissioner’s determinations in a notice of deficiency and

an FPAA are presumed correct, and taxpayers bear the burden of proving

otherwise.11




      11
           Rule 142(a); Welch v. Helvering, 

, 115 (1933).
                                        - 45 -

[*45] The Commissioner bears the burden of proof, however, on any new matter,

increases in deficiency, or affirmative defenses pleaded in his answer.12 The

Commissioner filed an amendment to answer asserting increased deficiencies as

well as penalties and additions to tax against Beekman. The Commissioner has

the burden on these increases.13

      The Commissioner contends, however, that he bears the burden only on the

amounts of the deficiencies increased over what was included in the FPAA and the

notice of deficiency. He argues that, after his concessions for 2005, Beekman’s

total deficiency for that year is less than the amount determined in the notice of

deficiency so that he does not bear any burden with respect to 2005. We disagree.

      A new theory or reason that is presented to sustain a deficiency is treated as

a new matter when it increases the amount of the deficiency or requires the

presentation of different evidence.14 The issues raised in the amendment to answer

require the presentation of different evidence. The Commissioner issued a notice

of deficiency that determined that Beekman made distributions to a Canadian



      12
           Rule 142(a); Shea v. Commissioner, 

, 190-191 n.10 (1999).
      13
           Rule 142(a); Shea v. Commissioner, 112 T.C. at 191.
      14
      See Shea v. Commissioner, 112 T.C. at 191-192; Wayne Bolt & Nut Co.,
v. Commissioner, 

, 507-508 (1989).
                                         - 46 -

[*46] corporation and was liable for withholding taxes on those distributions.

Beekman bears the burden of proving that the Commissioner’s determinations in

the notice of deficiency were incorrect.15 However, the Commissioner then filed

an amendment to answer in which he increased the amounts of the distributions to

the Canadian corporation by increasing the values of the properties transferred

from Beekman to Dynamo. This requires the presentation of different evidence,

including reports of valuation experts. Accordingly, we find that the

Commissioner bears the burden of proof on the increased values of property that

were asserted in the amendment to answer.

      In the amendment to answer the Commissioner also increased the additions

to tax under section 6651(a)(1) and the penalties under section 6656(a). The

Commissioner bears the burden of proof on any increase in the amounts of

penalties over what was originally determined in the notice of deficiency.16 For

penalties under section 6656(a) the burden of proof includes written supervisory

approval as required by section 6751(b).17


      15
           See Rule 142(a); Welch v. Helvering, 290 U.S. at 115.
      16
       Rader v. Commissioner, 

, 389 (2014), aff’d in part, 616 F.
App’x 391 (10th Cir. 2015).
      17
           Graev v. Commissioner, 

__, __ (slip op. at 14) (Dec. 20, 2017),
                                                                        (continued...)
                                           - 47 -

[*47] In limited situations the burden may shift to the Commissioner under

section 7491(a). Petitioners do not argue that the burden should shift, and we find

that the facts do not suggest that it should. Accordingly, the burden does not shift

under section 7491(a) on the remaining items.

II.     Debt vs. Gift

        The Commissioner argues that the advances were not loans from Beekman

to Dynamo but were gifts from Mrs. Moog to the Dynamo trusts in a 60/40 split.

The question of whether a taxpayer has entered into a bona fide creditor-debtor

relationship pervades Federal tax litigation.18 The parties must have actually

intended to establish a debtor-creditor relationship for a transaction to be a bona

fide loan.19 To find a bona fide creditor-debtor relationship, we must determine

that at the time the advances were made there was “an unconditional obligation on




        17
       (...continued)
supplementing 

 (2016).
        18
       See, e.g., Ellinger v. United States, 470 F.3d 1325,1333-1334 (11th Cir.
2006); Calloway v. Commissioner, 

, 36-37 (2010), aff’d, 

 (11th Cir. 2012).
        19
             Calloway v. Commissioner, 135 T.C. at 37; see also Ellinger, 470 F.3d. at
1333.
                                        - 48 -

[*48] the part of the transferee to repay the money, and an unconditional intention

on the part of the transferor to secure repayment.”20

      We apply special scrutiny to intrafamily transfers and transactions between

entities in the same corporate family or with shared ownership.21 Transfers

between family members are presumed to be gifts.22 This presumption can be

rebutted by “an affirmative showing that there existed a real expectation of

repayment and intent to enforce the collection of the indebtedness.”23 When

analyzing transfers between related parties, it is useful to compare the transactions

at issue to arm’s-length transactions and normal business practices.24 However,




      20
       Haag v. Commissioner, 

, 616 (1987), aff’d without published
opinion, 

 (8th Cir. 1988).
      21
       Kean v. Commissioner, 

 (1988); Malone & Hyde, Inc. v.
Commissioner, 

, 578 (1968); Vinikoor v. Commissioner, T.C. Memo.
1998-152, 

 (1998).
      22
        Perry v. Commissioner, 

, 481 (1989), aff’d without published
opinion, 

 (5th Cir. 1990); Barr v. Commissioner, T.C. Memo. 1999-
40, 

, 1372 (1999); Vinikoor v. Commissioner, 75 T.C.M.
(CCH) at 2187.
      23
           Vinikoor v. Commissioner, 75 T.C.M. at 2187.
      24
        Estate of Mixon v. United States, 

, 403 (5th Cir. 1972); Dixie
Dairies Corp. v. Commissioner, 

, 494 (1980).
                                            - 49 -

[*49] we must also be mindful of the business realities of related parties.25 For

example, we have held that security and other creditor protections are less

important in a related-party context.26

        The Court of Appeals for the Eleventh Circuit, to which these consolidated

cases could be appealed, has developed a 13-part test to determine whether an

advance is debt or equity.27 While this is similar to our bona fide debt analysis,

there are some inconsistencies. The Court of Appeals’ 13-factor debt-versus-

equity test asks the Court to look to the totality of all the facts and circumstances

and specifically directs the Court to consider the following:

        (1)      the names given to certificates evidencing the indebtedness;
        (2)      the presence or absence of a fixed maturity date;
        (3)      the source of payments;
        (4)      the right to enforce payment of principal and interest;
        (5)      participation in management flowing as a result;
        (6)      the status of the contribution in relation to regular corporate
                 creditors;
        (7)      the intent of the parties;
        (8)      “thin” or adequate capitalization;


        25
       Litton Bus. Sys., Inc. v. Commissioner, 

, 377-378 (1973); NA
Gen. P’ship & Subs. v. Commissioner, T.C. Memo. 2012-172, 

, 1920 (2012); see also Malone & Hyde, Inc. v. Commissioner, 49 T.C. at
578.
        26
             NA Gen. P’ship & Subs. v. Commissioner, 103 T.C.M. (CCH) at 1920-
1921.
        27
             Ellinger, 470 F.3d at 1333-1334.
                                         - 50 -

[*50] (9) identity of interest between creditor and stockholder;
      (10) source of interest payments;
      (11) the ability of the corporation to obtain loans from outside
           lending institutions;
      (12) the extent to which the advance was used to acquire capital
           assets; and
      (13) the failure of the debtor to repay on the due date or to seek a
           postponement.[28]

But this is not a debt-versus-equity case. The Commissioner argues that the

transfers were gifts, not equity. As a result, our inquiry is not focused on weighing

debt versus equity, but rather on considering whether there is a bona fide debt.

While the debt-versus-equity test adopted by the Court of Appeals offers some

guidance, it is not directly on point.

      In Jones v. Commissioner, we used a long-standing nine-factor facts and

circumstances test to determine whether two parties entered into a valid debtor-

creditor relationship.29 We evaluated all the pertinent facts and circumstances of

the case, including whether:

      (1) There was a promissory note or other evidence of indebtedness,
      (2) interest was charged, (3) there was security or collateral, (4) there
      was a fixed maturity date, (5) a demand for repayment was made, (6)
      any actual repayment was made, (7) the transferee had the ability to
      repay, (8) any records maintained by the transferor and/or the


      28
           Ellinger, 470 F.3d at 1333-1334.
      

. Commissioner, T.C. Memo. 1997-400, 

,
482 (1997), aff’d without published opinion, 

 (11th Cir. 1999).
                                        - 51 -

[*51] transferee reflected the transaction as a loan, and (9) the manner in
      which the transaction was reported for Federal tax is consistent with a
      loan. * * *

Our opinion in Jones was affirmed without a published opinion. Because the

Court of Appeals has adopted only a debt-versus-equity test rather than a bona fide

debt test like the one employed in Jones, and because the Court of Appeals

affirmed our holding in Jones and has not adopted a contravening ruling, we

continue to rely on our nine-factor analysis.30

      In applying this multifactor test we do not merely count the factors, and not

all factors are equal; instead, we analyze the pertinent facts to determine whether a

bona fide debtor-creditor relationship was established.31 These factors fall roughly

into two categories: formal indicia of debt and economic indicia of debt.

      Petitioners allege that Dynamo and Beekman had the intent to repay and be

repaid as demonstrated by their subjective declarations of their intent. Conversely,

the Commissioner argues that we should draw an adverse inference from Mrs.

Moog’s failure to testify at trial and infer that Dynamo and Beekman did not

intend to repay and be repaid. We disagree with both parties.


      30
        Golsen v. Commissioner, 

 (1970), aff’d, 

 (10th
Cir. 1971).
      31
        See Ellinger, 470 F.3d at 1334; Dixie Dairies Corp. v. Commissioner, 74
T.C. at 493-494.
                                      - 52 -

[*52] We apply a special scrutiny to transactions between companies with shared

ownership and intrafamily transfers, and we presume that transfers between family

members are gifts.32 Here, transfers between Beekman and Dynamo were transfers

between companies with both shared ownership and intrafamily transfers.

      Beekman and Dynamo had shared ownership and control. Both Dynamo

and Beekman were owned in part by trusts for which Christine, Mr. Julien and

their families were beneficiaries. Transfers between the two structures were

transfers between companies with shared ownership.

      Transfers between Beekman and Dynamo were ultimately intrafamily

transfers. When Beekman made transfers to Dynamo, value was being transferred

from one family of companies, the majority of which were held by trusts for which

Delia Moog is a beneficiary, Delia Moog Family Trust and Delia Moog Family

Trust #2, to another family of companies, the majority of which were held by

trusts for which her daughter and nephew and their families were beneficiaries.

While Christine and Mr. Julien were also beneficiaries of some of the trusts which

owned Beekman, the transfers from Beekman to Dynamo reduced Delia Moog’s




      32
       Perry v. Commissioner, 92 T.C. at 481; Kean v. Commissioner, 91 T.C. at
595; Vinikoor v. Commissioner, 75 T.C.M. (CCH) at 2187.
                                         - 53 -

[*53] beneficial interest in the underlying properties in favor of her daughter, her

nephew, and their families.

      Given the nature of these transfers, we treat them with special scrutiny and

determine whether the advances are gifts or loans for Federal tax purposes on the

basis of the totality of the circumstances.33 On that basis we find that the advances

were loans.

      A.       Formal Indicia of Debt

      Dynamo and Beekman satisfied some but not all of the formal indicia of

debt. We agree with the Commissioner that at the time the advances were made

there was no contemporaneous promissory note identifying all the terms of the

agreement, there was no collateral set aside to ensure repayment, there was no

invoice or demand made by Beekman, and there was no fixed maturity date or

intent to force Dynamo into bankruptcy if required to ensure repayment.

However, there are many meaningful indicia of debt. Dynamo and Beekman

maintained records that reflected advances as debt in their general ledgers, and

they executed promissory notes.




      33
           See Estate of Mixon, 464 F.2d at 402.
                                        - 54 -

[*54]         1.    General Ledgers

        We find that Dynamo’s and Beekman’s general ledgers consistently

reflected the advances as debt. They had a well-established practice of recording

and repaying advances. The advances to Dynamo and its subsidiaries were

booked as amounts due to Beekman. Likewise, advances from Beekman were

recorded as amounts due from Dynamo. Although Dynamo made occasional

errors in reporting, those incorrect entries could not be erased and were required to

be corrected through reversing entries. These corrections were reflected in the

records and give credibility to their reporting.

        Moreover, Mr. Moses, the only forensic expert in these cases, detailed each

entry and calculated the amounts of advances and repayments. We may accept or

reject expert testimony when in our best judgment, on the basis of the record, it is

appropriate to do so.34 On the basis of the record, it is appropriate to accept Mr.

Moses’ testimony because we find his process of determining the amount of

advances and repayments credible.

        In his posttrial brief the Commissioner challenges Mr. Moses’ report and

posits that Beekman simply offset ledger entries rather than have Dynamo pay its

        34
        Fed. R. Evid. 702; Parker v. Commissioner, 

, 561 (1986); see
also Sherrer v. Commissioner, T.C. Memo. 1999-122, 

,
1800-1801 (1999), aff’d, 5 F. App’x 719 (9th Cir. 2001).
                                        - 55 -

[*55] debts. We find, however, that Dynamo repaid its debts to Beekman in part

by providing management services to Beekman. Beekman paid for those

management services by reducing the amounts due from Dynamo. Those

reductions had the economic effect of payments and should be respected.

      The Commissioner argues for the first time on brief that we should impose

an adverse inference because petitioners did not produce all of Beekman’s and

Dynamo’s partners’ records. We may draw an adverse inference when a party

alleges a fact but fails to introduce evidence within his possession which, if true,

would be favorable to him.35 However, we will not speculate on what such

documents would show when the party requesting the inference could have used

discovery tools but did not.36 The Commissioner never requested the documents

from Dynamo’s partners. Accordingly, we will not draw an adverse inference.

      Moreover, we will not draw an adverse inference against Dynamo and

Beekman for not producing a portion of Beekman’s general ledgers. Mr. Moses

testified that he reviewed the general ledgers for Beekman to confirm his findings



      35
       Callahan v. Schultz, 

, 1545 (11th Cir. 1986); Wichita
Terminal Elevator Co. v. Commissioner, 

, 1165 (1946), aff’d, 

 (10th Cir. 1947).
      36
       Stevenson v. Commissioner, T.C. Memo. 1986-207, 51 T.C.M (CCH)
1050, 1060 n.13 (1986).
                                       - 56 -

[*56] and that he had confirmed specific transactions with Beekman’s general

ledger. On the basis of Dynamo’s and Beekman’s books and records, he

determined that advances were repaid. Moreover, during discovery the

Commissioner found that he did not have Beekman’s general ledgers. He did not

file a motion to compel for Beekman’s general ledgers then; he cannot request an

adverse inference now.37

            2.     Demand Note

      We find that Beekman and Dynamo executed a promissory note as part of

the restructuring transactions. This note was executed no later than February

2008. The note had the customary loan terms, including the amount of the loan,

interest rate accrual, and demand terms. Although the promissory notes were not

executed contemporaneously with all of the advances, we have previously found

that after-the-fact consolidation of advances and execution of promissory notes

can indicate that the advances were debt.38




      37
        See Eriksen v. Commissioner, T.C. Memo. 2012-194, 

, 53 n.13 (2012) (denying an adverse inference when the requesting party failed
to include trial subpoenas and did not specify the scope of the documents
requested).
      38
       Swain v. Commissioner, T.C. Memo 1981-716, 

,
129 (1981).
                                         - 57 -

[*57] Moreover, we are persuaded by the fact that the notes were created as a part

of the restructuring transactions wherein multiple documents identifying the

advances as loans were created. The Commissioner asks us to follow the line of

reasoning in cases where courts have held that a promissory note created after the

commencement of an examination should count against a finding of debt.39 We

find that an examination did not cause the execution of the notes in these cases.

Moreover, the notes were created before Dynamo’s 2007 Form 1065 was due. We

find that the notes were created as part of a greater restructuring effort.

      The Commissioner argues that the notes are unenforceable and that the

unenforceability shows that Dynamo’s and Beekman’s objective intent was not to

enforce repayment or make payment. The Commissioner argues that the notes are

unenforceable because Dynamo and Beekman failed to pay stamp tax, and under

Florida statutes, failure to pay stamp tax renders the note unenforceable.40

However, the weight of the evidence shows that the parties executed the notes to



      39
      See Williams v. Commissioner, 

, 1035 (1980), aff’g T.C.
Memo. 1978-306; Baird v. Commissioner, 

, 394-395 (1955); Georgiou
v. Commissioner, T.C. Memo. 1995-546, 

, 1351 (1995).
      40
         Fla. Stat. sec. 201.08(1)(b) (2006) (“The * * * instrument shall not be
enforceable in any court of this state as to any such advance unless and until the
tax due thereon upon each advance that may have been made thereunder has been
paid.”).
                                         - 58 -

[*58] memorialize the restructuring transactions, and in doing so, they also

memorialized their longstanding practice of advancing and repaying loans.

      The demand notes, as is customary with demand notes, did not have a fixed

maturity date. While the Court of Appeals for the Eleventh Circuit has found a

lack of fixed maturity date “highly significant” in a debt versus equity analysis,

here Beekman and Dynamo simply memorialized their longstanding practice of

advancing and repaying loans.41 In cases where that Court of Appeals has found a

lack of fixed maturity date troubling, the parties also failed to repay the debt or

pay interest on the notes and the “creditors” failed to show that they truly intended

to have the debt repaid.42 Here, the parties intended to repay the principal as well

as interest on the loans and in fact did so. Consequently, the lack of fixed maturity

dates does not create the same concern.

      We have previously stated that notes in a “closeknit family of corporate

cousins are not as necessary to insure repayment as may be the case between

unrelated entities.”43 Dynamo and Beekman have notes even though the loans are


      41
           Ellinger, 470 F.3d at 1334.
      42
     See, e.g., Ellinger, 470 F.3d at 1334; Stinnett’s Pontiac Service, Inc. v.
Commissioner, 

, 638 (11th Cir. 1984), aff’g T.C. Memo 1982-314.
      43
           Litton Bus. Sys., Inc. v. Commissioner, 61 T.C. at 377-378 (quoting Am.
                                                                        (continued...)
                                          - 59 -

[*59] between related parties. We find that on the basis of these facts, this factor

is either neutral or weighs in favor of debt.

       However, related-party demand notes are afforded little weight.44 Thus,

although we find the demand notes may weigh in favor of debt, we give the notes

little weight.

       We are not troubled by any shortcomings in Dynamo’s and Beekman’s

formal indicia of debt. They must be taken into account in the context of the

business realities of the transaction. We would be surprised if Mr. Julien wrote

himself an invoice, demanded repayment, or required a credit check or audited

financial statements before making an advance. The management of these

companies was the same, and they had full knowledge of and access to all

financial information. Moreover, we have consistently held that these formal

indicia of debt are little more than declarations of intent without accompanying

objective economic indicia of debt.45


       43
        (...continued)
Processing & Sales Co. v. United States, 

, 857 (Ct. Cl. 1967)); see
also Estate of Mixon, 464 F.2d at 403.
       

. Commissioner, T.C. Memo. 1978-306, 

, 1277-1278 (1978).
       45
            Alterman Foods, Inc. v. United States, 

, 879 (5th Cir. 1974);
                                                                         (continued...)
                                          - 60 -

[*60] B.       Economic Indicia of Debt

      In ascertaining the economic realities of the transaction, it is helpful to

measure the transfer against the economic realities of the marketplace to determine

whether a third party lender would have extended the loan.46 Dynamo and

Beekman satisfy all the objective economic indicia of debt. Beekman charged and

Dynamo accrued interest on the advances in 2006 and 2007. Beekman reported

and paid tax on that interest income. Dynamo reported and deducted that interest

expense. Dynamo repaid some of the advances before any examination began. At

all times, Dynamo had the ability to repay the loans. Importantly, Dynamo could

have received loans on substantially similar terms. And Dynamo did receive

sizable loans from third parties.

               1.    Interest and Tax Reporting

      We find that Dynamo accrued interest with respect to the advances, and

Dynamo Holdings and Beekman Vista reported the interest on their Forms 1065

and 1120. Tax reporting can be a formal indicia of debt or an economic indicia of



      45
       (...continued)
Fin Hay Realty Co. v. United States, 

, 697 (3d Cir. 1968); Sensenig
v. Commissioner, T.C. Memo. 2017-1, at *24-*26, aff’d, __ F. App’x __, 

 (3d Cir. Jan. 23, 2018).
      46
           Sensenig v. Commissioner, at *26-*27.
                                        - 61 -

[*61] debt. Where tax reporting has no economic consequences, it is a purely

formal indicia of debt. Where tax reporting has economic consequences, as where

reporting interest income gives rise to taxable income, we consider it to be an

economic indicia of debt.

        Dynamo accrued interest on the advances to Beekman of $25,607,340 and

$17,220,493 in 2006 and 2007, respectively. These interest expenses were

indicated by one book entry at the end of each year. Interest accrued and was

added to the outstanding balance and was paid as the outstanding balance was

repaid. Although the interest rate was not provided, it is clear that interest was

applied. Moreover, we are not troubled by the lack of 2005 interest accruals. The

advances were booked at the end of 2005, so interest would not have accrued for

2005.

        Beekman Vista reported interest income and Dynamo Holdings reported

interest expense. Beekman Vista reported $25,607,340 and $17,220,493 on its

2006 Form 1120 and 2007 Form 1120, respectively. Dynamo Holdings reported

interest expenses of $18,192,267 and $19,656,353 on its 2006 Form 1065 and

$17,309,252 on its 2007 Form 1065. Both the fact that Dynamo accrued and paid

interest on its advances from Beekman and the fact that both Beekman Vista and
                                      - 62 -

[*62] Dynamo Holdings reported the interest payments for tax purposes point

toward debt.

                 2.   Repayments

       We find that Dynamo made repayments to reduce the outstanding balance

each year without regard to any examination. Repayments, especially repayments

before the Commissioner has begun an examination, indicate debt.47 Dynamo

repaid Beekman with funds from capital contributions from the trusts, and with

wire transfers. Dynamo also reduced the outstanding balance due by providing

management services and by making payments on debts that Beekman owed to

third parties.

       In Dynamo’s first year of operations, Dynamo decreased the outstanding

balance by $137,531,626. In its second year of operations, Dynamo decreased the

outstanding balance by $986,943,581. Although the outstanding balance

increased in 2006, Dynamo’s 2006 payments completely repaid the balance from

2005. During the year ending December 31, 2007, Dynamo decreased the

outstanding balance by $513,734,767. This amount left the outstanding balance at

       47
         Miele v. Commissioner, 

, 568 n.5 (1971), aff’d without
published opinion, 

 (3d Cir. 1973); Epps v. Commissioner, T.C.
Memo. 1995-297, 

, 4-5 (1995) (“Repayment before a tax audit
is, of course, more persuasive evidence of an intention to create a debt than
repayment after such an audit has commenced.”).
                                         - 63 -

[*63] $176,194,052, approximately $325 million less than the outstanding balance

at the end of 2006. The continuous repayments that resulted in substantial net

reductions coupled with interest payments are significant evidence of debt.48 Mr.

Moses determined that the advances were entirely repaid with interest in 2011.

We find this credible.

               3.     Ability To Repay

      Finally, we find that Dynamo had the ability to repay. Inadequate

capitalization indicates that the taxpayer cannot repay the debt.49 Both sides called

experts to testify about Dynamo’s ability to repay the advances it received from

Beekman. Petitioners called two experts, Professor Shaked and Dr. Chambers,

and the Commissioner called one expert, Mr. Lucas.




      48
           See Litton Bus. Sys., Inc. v. Commissioner, 61 T.C. at 381.
      49
        Dixie Dairies Corp. v. Commissioner, 74 T.C. at 496 (explaining, in a
debt-equity case, that “[o]f principal importance are: the ‘thinness’ of the capital
structures in relation to debt; the risk involved in making the advances; and the
availability of outside sources of funds”); Rutter v. Commissioner, T.C. Memo.
2017-174, at *25 (explaining, in a debt-equity case, that “[a] company’s
capitalization is relevant to determining the level of risk associated with
repayment”); NA Gen. P’ship & Subs. v. Commissioner, 

.
                                        - 64 -

[*64] It is within the sound discretion of our Court to admit or exclude expert

testimony.50 “We may embrace or reject expert testimony, whichever, in our best

judgment, is appropriate.”51 “Thus we have rejected expert testimony where the

witness’ opinion of value was so exaggerated that his testimony was incredible.”52

We are not bound by the opinion of an expert witness when that opinion

contradicts our own sound judgment.53 We have broad discretion to evaluate “the

overall cogency of each expert’s analysis.”54 Moreover, an expert who is merely

an advocate of a party’s position does not assist the Court to understand the

evidence or to determine a fact in issue.55

      We will start with Mr. Lucas. After reviewing Mr. Lucas’ report, his 26

pages of errata, and his testimony, we are not persuaded that his opinion is helpful


      50
        Salem v. United States Lines Co., 

, 35 (1962); Estate of
Crossmore v. Commissioner, T.C. Memo. 1988-494, 

, 486
(1988).
      51
           Parker v. Commissioner, 86 T.C. at 561.
      52
           Parker v. Commissioner, 86 T.C. at 561.
      53
           Parker v. Commissioner, 86 T.C. at 561.
      54
       Estate of Davis v. Commissioner, 

, 538 (1998) (quoting
Sammons v. Commissioner, 

, 333 (9th Cir. 1988), aff’g T.C. Memo.
1986-318).
      55
       Snap-Drape, Inc. v. Commissioner, 

, 19-20 (1995), aff’d, 

 (5th Cir. 1996).
                                        - 65 -

[*65] to the Court in understanding the evidence or determining the facts in issue.

Mr. Lucas’ report was plagued with errors. He admitted to using incorrect

information in conducting his analysis, such as understating the revenue

forecasting by approximately $575 million in his cashflow analysis and

overstating capital expenditures. He admitted that his model was flawed and that

when he tried to account for the volatility, it failed. He also admitted that he

deferred to the Commissioner when choosing the model on which to base his

analysis. Moreover, his testimony indicated a lack of familiarity with

probabilities, the very subject about which he testified. Because we find that Mr.

Lucas was not credible and his opinion was not helpful to deciding these cases, we

disregard his report, his errata report, and his testimony. If we were to credit his

report and testimony, after accounting for errors, it largely supported petitioners’

claim that Dynamo would have been able to refinance its debts.

      Turning to Professor Shaked and Dr. Chambers, we find their opinions

credible and helpful in deciding these cases. Professor Shaked determined that

Dynamo had the ability to repay. Both Professor Shaked and Dr. Chambers

determined that Dynamo’s position would have been viewed favorably by third

parties, and Dr. Chambers determined that Dynamo would have been able to

receive loans on similar terms from third parties.
                                        - 66 -

[*66] Professor Shaked determined that Beekman reasonably expected Dynamo to

repay its debts as they became due. He determined that Dynamo was able to repay

both its short-term and long-term debts. In his short-term analysis, Professor

Shaked determined that Dynamo had the ability to pay interest in each year

because of its highly liquid asset profile. In his long-term analysis, Professor

Shaked determined that Dynamo had the earning capacity to pay interest expenses

and repay principal in 15 years. He determined that Dynamo’s break-even rate,

the lowest rate of return on assets at which Dynamo could still make interest

payments on its debt, was 2.3%-4.4%, which was significantly lower than the

projected rate of return of 15% on assets. We find Professor Shaked’s

assumptions reasonable, his analysis credible, and his findings persuasive.

Accordingly, we adopt his opinion and find that Dynamo had the ability to repay.

      Petitioners’ experts also looked to how third parties would view Dynamo’s

ability to pay, and they determined that third parties would view Dynamo’s

position favorably. Professor Shaked determined that Dynamo’s equity cushion

was between $124 million and $292 million. An “equity cushion” is the amount

by which the business’ assets exceeds the business’ debt. We have previously

explained that a large equity cushion is important to creditors because it affords
                                        - 67 -

[*67] them protection if the borrower encounters financial stress.56 He determined

that this large equity cushion would constitute acceptable credit risk and lenders

would have a greater degree of assurance of repayment.

      Petitioners’ experts determined that Dynamo was adequately capitalized on

a “net debt” basis. A company’s capitalization is relevant to determining the level

of risk associated with repayment.57 They explained that when companies have

high levels of cash, it is more appropriate to analyze debt-to-equity ratios on a “net

debt” basis. To reach this calculation they subtracted the cash and marketable

securities from debt and the business enterprise value. In other words, they

subtracted the value of the Dynamo Fund, the hedge fund portfolio, from their

evaluation. Professor Shaked determined a debt-to-equity ratio ranging from .05x

to 1.7x from 2005 to 2007. This figure was slightly higher than for comparable

companies but still within a reasonable range. Likewise, Dr. Chambers

determined that Dynamo had adequate capital on a net debt basis. Petitioners’

experts determined that Dynamo would have been viewed favorably by third-party

lenders. Dr. Chambers determined that on the basis of this capital adequacy,

Dynamo could have obtained loans on substantially similar economic terms.


      56
           Rutter v. Commissioner, at *26-*27.
      57
           Rutter v. Commissioner, at *25-*27.
                                        - 68 -

[*68] The Commissioner alleges that we should find that Dynamo was not

adequately capitalized because the Dynamo Fund held marketable securities that

had “lock-up” dates. However, Dr. Chambers credibly testified that he reviewed

the lock-up periods for the Dynamo Fund and determined that all but one expired

before January 1, 2006, the date Beekman transferred the Dynamo Fund to

Dynamo. Professor Shaked credibly testified that there was a market for

purchasing these hedge funds. We find the testimony of both credible and hold

that Dynamo was adequately capitalized during the years in issue.

      The experts’ findings that Dynamo had the ability to repay coupled with the

fact that Dynamo actually obtained substantial third-party loans, such as the $90

million loan on the Verano property, demonstrate that Dynamo would have been

able to receive loans on substantially similar terms.

      C.     Conclusion

      After analyzing the facts, we hold that Dynamo and Beekman entered into a

bona fide creditor-debtor relationship. At the time the advances were made,

Dynamo had an unconditional obligation to repay the loans, and Beekman had an

unconditional intent to be repaid. A bona fide loan precludes a constructive
                                       - 69 -

[*69] distribution.58 Because we found that the advances were bona fide debt, the

advances are not constructive distributions. Likewise, Dynamo is entitled to

deduct the interest expenses.

III.   Property Transactions

       The Commissioner alleges Beekman made constructive distributions to its

shareholders to the extent that property was transferred from Beekman to Dynamo

for less than fair market value. Fair market value has been defined as “the price at

which the property would change hands between a willing buyer and a willing

seller, neither being under any compulsion to buy or to sell and both having

reasonable knowledge of relevant facts.”59 The fair market value of property is

based on the “highest and best use” of the property as of its relevant valuation

date.60 In determining highest and best use, we must examine the suitability of the

property’s current use under existing zoning and marketing conditions, together




       58
       Schnallinger v. Commissioner, T.C. Memo. 1987-9, 

, 1314 (1987).
       59
        United States v. Cartwright, 

, 551 (1973) (quoting sec.
20.2031-1(b), Estate Tax Regs.); Marine v. Commissioner, 

, 982
(1989), aff’d, 

 (9th Cir. 1991).
       60
       Stanley Works & Subs. v. Commissioner, 

, 400 (1986); see
Hilborn v. Commissioner, 

, 689 (1985).
                                            - 70 -

[*70] with any realistic alternative uses.61 The determination of the fair market

value of property is a question of fact that must be resolved after consideration of

all of the evidence in the record.62

          Petitioners allege that we should find that the amounts that Dynamo and

Beekman paid to transfer the properties were the fair market values because they

are experts in the property development industry. We disagree. Transfers between

family members or entities controlled by family members are subject to special

scrutiny.63 Accordingly, independent experts provide a better analysis of the price

at which property would change hands between a willing buyer and a willing

seller.

          As is common in valuation cases, the parties called experts to show the fair

market values of the properties transferred. The Commissioner called two experts,

Mr. Friedman and Dr. Diskin. Petitioners called one expert, Mr. Slade.




          61
               Hilborn v. Commissioner, 85 T.C. at 689.
          62
        Jarre v. Commissioner, 

, 188 (1975); Kaplan v. Commissioner,

, 665 (1965).
          63
     Perry v. Commissioner, 92 T.C. at 481; Estate of Lockett v.
Commissioner, T.C. Memo. 2012-123, 

, 1676 (2012).
                                         - 71 -

[*71] Expert opinion sometimes aids the Court in determining value; other times,

it does not.64 As with the lending experts, we are not bound by the opinions or

formulas of valuation experts when those opinions contravene our judgment.

Instead, we may reach a determination based on our own examination of the

record.65 We may be selective in the use of any portions of their opinions.66 The

persuasiveness of an expert’s opinion depends largely upon the disclosed facts on

which it is based.67 Consequently, we take into account expert opinion testimony

only to the extent that it aids us in arriving at the fair market values of the

properties.

      A.       The Domani Property

      The Domani property was seven acres of real property that Dynamo

intended to develop into a high-rise tower in 2005. Beekman sold the property to

Dynamo by increasing the outstanding balance due from Dynamo by $12,261,301.

      Only petitioners called an expert to value the property retrospectively.

Petitioners called Mr. Slade. Mr. Slade determined that the highest and best use of


      64
           See Laureys v. Commissioner, 

, 129 (1989).
      65
           Estate of Davis v. Commissioner, 110 T.C. at 538.
      66
           Parker v. Commissioner, 86 T.C. at 562.
      67
           Estate of Davis v. Commissioner, 110 T.C. at 538.
                                       - 72 -

[*72] the property would be as a multifamily or mixed-use project. He valued the

property at $23,500,000. The Commissioner did not call an expert to value the

property. The Commissioner alleges that the fair market value of the property was

the accumulated cost incurred by Beekman, or $25,882,872.

      We find that the fair market value of the property was $23,500,000.

Although the Commissioner alleges that the fair market value is the accumulated

cost, the fair market value is “the price at which the property would change hands

between a willing buyer and a willing seller, neither being under any compulsion

to buy or to sell and both having reasonable knowledge of relevant facts.”68 This

definition does not include the seller’s cost. Mr. Slade determined that the fair

market value of the property was $23,500,000. His testimony is unrebutted, and

we find no reason to question his credibility. Accordingly, we find the fair market

value was $23,500,000.

      Petitioners argue that Dynamo assumed $17 million of debt from Beekman.

We disagree. The record establishes that, after Dynamo purchased the property,

Dynamo received a loan from Bank of America for $17 million; the record does

not establish that this was the assumption of a Beekman debt. Accordingly,


      68
       Cartwright, 411 U.S. at 551 (quoting sec. 20.2031-1(b), Estate Tax Regs.);
Marine v. Commissioner, 92 T.C. at 982.
                                       - 73 -

[*73] Beekman transferred the Domani property to Dynamo at $11,238,699 below

fair market value. Because the amount of the transfer reflected in the amendment

to answer was greater than that determined in the notice of deficiency, the

Commissioner bears the burden with respect to the increase. The Commissioner

has met his burden.

      B.     The Grande at Mirasol Property

      The Grande at Mirasol property was approximately 42 acres of real property

that was developed into 475 low-rise units that operated as an apartment complex.

Beekman was aggressively pursuing a conversion of the complex into

condominiums. On November 17, 2005, Beekman sold the property to Dynamo

for $40,684,094. As payment for the property Dynamo increased the outstanding

balance due to Beekman by $2,684,094 and assumed a $38 million liability.

      Both parties’ experts valued the property retrospectively. The principal

difference between the parties’ experts is whether the highest and best use of the

property would be a condominium conversion. The Commissioner’s expert, Dr.

Friedman, determined the highest and best use of the property was as a

condominium conversion project and determined that the fair market value of the

Grande at Mirasol property was $121,400,000. Petitioners’ expert, Mr. Slade,

determined that the highest and best use of the property was to maintain the
                                      - 74 -

[*74] property as an apartment complex and that the fair market value of the

Grande at Mirasol property was $56 million. Accordingly, we must determine

whether the highest and best use of the property was as a condominium conversion

or as an apartment complex.

      We find that the highest and best use of the Grande at Mirasol property was

as a condominium conversion. Before Beekman sold the property to Dynamo,

Beekman was actively pursuing a condominium conversion. Beekman sent the

State of Florida, Bureau of Condominiums a notice of their intent to convert. In

September 2005 Beekman and the previous land owner entered into an agreement

by which Dynamo could convert the property to a condominium if it paid base

compensation of $4,848,618 and bonus compensation if the gross sale proceeds

exceeded approximately $136 million. After Dynamo purchased the property,

Dynamo continued to pursue a condominium conversion. Dynamo sent letters to

the tenants informing them of the conversion. Dynamo subsequently received

approval from the Bureau of Condominiums to convert. Nothing in the record

suggests that Dynamo and Beekman were precluded from converting the

apartments.

      Mr. Slade considered condominium conversion, but erroneously determined

that it was restricted. He had not seen the agreement between Beekman and the
                                        - 75 -

[*75] previous owner allowing Dynamo to convert the property to condominiums

if Dynamo paid compensation. At trial he agreed that if there were no restrictions,

he would have used properties that were converted to condominiums in his

comparables analysis.

      Because we find that the highest and best use of the Grande at Mirasol

property was as a condominium conversion, we adopt Dr. Friedman’s valuation.

However, Dr. Friedman did not account for the $4,848,618 that Dynamo would

pay to the previous property owner to convert. Accordingly, the fair market value

of the property was $116,551,382, or Dr. Friedman’s value of $121,400,000 less

the $4,848,618 that would have been required to be paid to convert the property.

Beekman transferred the Grande at Mirasol property to Dynamo for $75,867,288

below fair market value. Because the amount of the transfer reflected in the

amendment to answer was greater than that determined in the notice of deficiency,

the Commissioner bears the burden with respect to the increase. The

Commissioner has met his burden to the extent described above.

      C.    The Mainstreet Properties

      The Mainstreet properties are a group of properties that Beekman

transferred to Dynamo for $9,850,000.
                                        - 76 -

[*76]           1.    The Mainstreet Commercial Property

        The Mainstreet commercial property consists of two lots, A and C, and a

tract, R. Lot A, lot C, and tract R were .933 acres, 21.05 acres, and 1.004 acres,

respectively.

        The Commissioner called Dr. Diskin to value the Mainstreet commercial

property retrospectively. He determined the highest and best use of lot A, lot C,

and tract R was as commercial offices, retail, and a right of way, respectively. He

concluded that the fair market value of the Mainstreet commercial property was

$4,103,000. On brief, petitioners did not contest this value. We find no reason to

question Dr. Diskin’s credibility on this valuation. We find that the fair market

value for the Mainstreet commercial property is $4,103,000.

                2.    The Mainstreet Office Building

        The Mainstreet Office Building property, which consists of 2.35 acres of

land that was developed as an office building and a .85-acre drainage easement,

sold on April 6, 2006.

        Petitioners called Mr. Slade to value the Mainstreet Office Building

property retrospectively. Mr. Slade determined that its highest and best use was to

remain an office building, and he valued it at $850,000. The Commissioner did

not call an expert.
                                         - 77 -

[*77] We find that the fair market value of the Mainstreet Office Building

property was $850,000. Mr. Slade’s testimony is unrebutted, and we find no

reason to question his credibility on this valuation.

             3.      The Mainstreet Vacant Property

      The Mainstreet vacant property consists of 2.39 vacant acres that Beekman

sold to Dynamo on November 29, 2005.

      The Commissioner called Dr. Diskin to value the Mainstreet vacant

property. Dr. Diskin prepared a retrospective appraisal. He determined that its

highest and best use was as a park or public facility or for donation to the city.

Using the sales comparison method, Dr. Diskin determined that the fair market

value of the Mainstreet vacant property was $120,000. Petitioners did not submit

rebuttal evidence.

      We find that the fair market value of the Mainstreet vacant property was

$120,000. Dr. Diskin’s testimony was unrebutted, and we find no reason to

question its credibility on this valuation.

             4.      The G.O. Team Property

      The G.O. Team property consists of 17 lots on 33.85 acres, a 24.98-acre

parcel of land that is encumbered by a lake, and a 3.40-acre easement. The
                                        - 78 -

[*78] easement and four of the lots were industrial property during the years in

issue. The remaining portion consisted of 13 lots and the parcel that included the

lake.

                    a.     The Industrial Portion

        Beekman transferred the industrial portion to Dynamo on April 6, 2006. It

consists of four vacant lots totaling 6.68 acres and a 3.40-acre easement.

        Both parties’ experts valued the industrial portion retrospectively. Both

experts determined the highest and best use was industrial. The principal

differences between the parties’ expert valuations are the price per square foot and

the method used to value the property. The Commissioner’s expert, Dr. Diskin,

relied on comparable properties, which had prices per square foot that ranged from

$4.92 to $10.17. He determined that the industrial portion’s price per square foot

was $5 and the total fair market value was $1,455,000. Similarly, petitioners’

expert, Mr. Slade, relied on comparable properties; however, his comparable

properties ranged in price from $2 to $5.19 per square foot. He found other higher

priced properties that he excluded because he determined that their road access

was superior. He determined that the industrial portion’s price per square foot was

between $2 and $2.25, the lowest of all the comparable properties. He then

discounted the price per square foot by 16% for sales commissions, general
                                        - 79 -

[*79] administrative costs, developer’s profit, real estate taxes, and miscellaneous

expenses, and arrived at a fair market value of $530,000.

      We find that the fair market value of the industrial portion was $1,455,000.

Mr. Slade’s valuation is unreasonably low. He chose the lower end of the

comparable properties and then discounted that value using a discounted sales

approach. Dr. Diskin’s valuation was reasonable. Accordingly, we adopt his

valuation.

                   b.     The Remaining Portion

      Beekman sold the remaining portion to Dynamo on April 6, 2006. The

remaining portion consisted of 13 industrial lots and a 24.98-acre parcel

encumbered by a lake. The lake left only 8.5 acres of the 24.98-acre lot available

to be developed.

      Both parties’ experts retrospectively valued the remaining portion. The

principal difference between the experts’ values was whether the highest and best

use of this land should be industrial, based on current zoning, or residential, based

on a future land use change. The Commissioner’s expert, Dr. Diskin, determined

that the highest and best use of the property was residential. He clustered 271

dwellings on the land, relying on an ordinance amending the future land use map.

Using his sales comparison approach, he determined that the fair market value was
                                        - 80 -

[*80] $7,900,000. Petitioners’ expert, Mr. Slade, determined that the remaining

portion was industrial and that the total value of the remaining portion was

$2,990,000.

      We agree with Dr. Diskin that the highest and best use was residential. In

determining highest and best use, we must examine the suitability of the property’s

current use under existing zoning and market conditions, together with any

realistic alternative uses.69 A potential highest and best use for property can be

considered even though zoning laws prohibit the potential use on the date of the

contribution.70 However, the projected highest and best use cannot be remote,

speculative, or conjectural.71 The fair market value of the property must be

adjusted for any restriction on its marketability.72 The city council of Port St.

Lucie passed Ordinance 04-107, amending the future land use map from industrial




      69
        Hilborn v. Commissioner, 85 T.C. at 689; Crowley v. Commissioner, T.C.
Memo. 1990-636, 

, 1449 (1990), aff’d, 

 (1st
Cir. 1992).
      70
     Olson v. United States, 

, 257 (1934); Crowley v.
Commissioner, 60 T.C.M. (CCH) at 1449.
      71
           Olson, 292 U.S. at 257.
      72
        Cooley v. Commissioner, 

, 225 (1959), aff’d, 

 (2d
Cir. 1960); see also Olson, 292 U.S. at 257.
                                        - 81 -

[*81] to low-density residential. Real estate buyers often purchase property

because of its anticipated future benefits, which can differ from its present use.73

      Mr. Slade did not address or make any adjustments for the change in land

use in his valuation. Accordingly, we do not find his report credible on this point.

Dr. Diskin, on the other hand, determined that between residential and industrial,

residential was the highest and best use. We find that the highest and best use was

residential. It was reasonably probable that the land would be developed into

residential properties, which would increase its value.

      However, we find Dr. Diskin’s valuation flawed. The lake on the property

reduces the area that can be developed and as a result the overall value of the

property. Dr. Diskin did not adjust the valuation to account for the lake in the

middle of the 24.98-acre parcel. Accordingly, we do not find his approach

reasonable. While it is reasonable to conclude that density could be increased on

the land that could be developed, Dr. Diskin did not address the extent to which

density could be increased or the effect of increased density on the value of

residential property. We reduce his valuation by 20%, to account for the increased

density resulting from the undevelopable portion of the land, and find the value to

be $6,320,000.

      73
           Frazee v. Commissioner, 

, 578 (1992).
                                        - 82 -

[*82]         5.    Conclusion on the Mainstreet Properties

        In conclusion, Beekman sold the Mainstreet properties to Dynamo for

$9,850,000. The fair market values of the Mainstreet commercial, office building,

vacant, industrial, and remaining properties were $4,103,000, $850,000, $120,000,

$1,455,000, and $6,320,000, respectively, and in total, $12,848,000. Accordingly,

Beekman transferred the Mainstreet properties to Dynamo for $2,998,000 less than

their total fair market value. Because the amount of the transfer reflected in the

amendment to answer was greater than that included in the notice of deficiency,

the Commissioner bears the burden with respect to the increase. The

Commissioner has met his burden to the extent described above.

        D.    The Verano Property

        The Verano property was 3,030 acres of real property planned for

development into 6,300 residential units. On February 28, 2006, Beekman sold

the property to Dynamo for $49,477,298.

        Both parties’ experts valued the Verano property retrospectively. The

principal difference between the valuations is the amount of weight given to the

Centex property. The Commissioner’s expert, Dr. Friedman, determined that the

highest and best use of the property was as a master-planned community and that

the fair market value of the Verano property was $140 million. Petitioners’ expert,
                                         - 83 -

[*83] Mr. Slade, determined that the highest and best use of the property was as a

mixed-use development with a fair market value of $101.5 million. A $38.5

million discrepancy resulted.

         We find that Dr. Friedman’s approach was reasonable and Mr. Slade’s was

not. Both Dr. Friedman and Mr. Slade found the Centex property to be

comparable to the Verano property. Petitioners and their expert, Mr. Slade, argue

that the Centex property had better road access than the Verano property and that

the proper valuation should reflect that. We disagree. On the basis of all the

evidence presented, including the development plan, we conclude that the Verano

property would have road access similar to that of the Centex property.

Accordingly we adopt Dr. Friedman’s valuation.

         We find Dr. Friedman’s approach to be reasonable and find that the fair

market value of the Verano property was $140 million. Accordingly, Beekman

transferred the Verano property to Dynamo at $90,522,702 below fair market

value.
                                       - 84 -

[*84] E.       Other Transfers

               1.    TOUSA/Kolter, LLC

      In January 2005 Beekman made a $17,500,000 partnership contribution to

TOUSA/Kolter, LLC, and received a 50% interest in it. Beekman’s contribution

was subsequently reduced by $3 million. In 2005 TOUSA/Kolter, LLC, purchased

the Monterra property. Beekman transferred its TOUSA/Kolter, LLC interest to

Dynamo in early 2005 for $14,500,000 by increasing the outstanding balance due

from Dynamo.

      The Commissioner alleges that the fair market value of the partnership

interest is either $17,500,000 or some higher value based on the value of the

property that TOUSA/Kolter, LLC, purchased. Because the valuation of the 50%

share of TOUSA/Kolter, LLC, was not addressed in the notice of deficiency, the

Commissioner bears the burden of proof on this issue.74 The Commissioner did

not present any evidence of the fair market value of the property, and petitioners

explained that the capital contribution was subsequently reduced by $3 million.

Accordingly, we find that the Commissioner failed to meet his burden to show that

Beekman transferred the TOUSA/Kolter, LLC interest to Dynamo at less than fair

market value.

      74
           See Wayne Bolt & Nut Co. v. Commissioner, 93 T.C. at 507.
                                         - 85 -

[*85]            2.    The Dynamo Fund

        During the first half of 2006 Beekman transferred the assets in the Dynamo

Fund to Dynamo for $198,025,037. Payment for the Dynamo Fund was recorded

as an increase to the outstanding balance due from Dynamo. The parties agree that

the value of the Dynamo Fund was $228,234,808 on December 31, 2005.

Accordingly, Beekman transferred the Dynamo Fund to Dynamo for $30,209,771

less than fair market value.

                 3.    Other Transfers

        Beekman transferred various other properties to Dynamo during the years in

issue. These include the Jag of Palm Beach property, the Bear’s Club property,

the Grande Sarasotan property, and the Heathrow Oaks property. The

Commissioner bears the burden of proof as to each of these items because none

was raised in the notice of deficiency.75 The Commissioner has not presented any

evidence that these properties were transferred at less than fair market value.

Accordingly, we find that the amounts reported on the general ledgers were the

fair market values of the properties.




        75
             See Wayne Bolt & Nut Co. v. Commissioner, 93 T.C. at 507.
                                        - 86 -

[*86] F.     Conclusion

      We find that Beekman transferred properties to Dynamo for less than fair

market value. Beekman transferred the Domani property, the Grande at Mirasol

property, the Mainstreet properties, the Verano property, and the Dynamo Fund to

Dynamo for $11,238,699, $75,867,288, $2,998,000, $90,522,702, and

$30,209,771, respectively, less than the fair market values. Accordingly,

Beekman transferred $210,836,460 of additional value to Dynamo. We must

determine whether this amount was a constructive distribution.

IV.   Constructive Distribution

      It is well settled that a transfer of property from one entity to another for

less than adequate consideration may constitute a constructive distribution to an

individual who has ownership interests in both entities.76 A bargain sale,

including a bargain sale based on competing property valuations, between related

parties, however, does not automatically result in a constructive distribution.77



      76
        Stinnett’s Pontiac Serv., Inc. v. Commissioner, 730 F.2d at 640; Cox
Enters., Inc., & Subs. v. Commissioner, T.C. Memo. 2009-134, 

, 1774 (2009).
      77
        Davis v. Commissioner, T.C. Memo. 1995-283, 

,
3007 (1995); see also Joseph Lupowitz Sons, Inc. v. Commissioner, 

,
868 (3d Cir. 1974), aff’g in part, rev’g in part T.C. Memo. 1972-238; Cox Enters.,
Inc., & Subs. v. Commissioner, 97 T.C.M. (CCH) at 1775.
                                         - 87 -

[*87] Courts have outlined a two-prong analysis to determine whether a transfer

resulted in a constructive distribution. The first prong, the objective test, asks

whether the transfer caused “funds or other property to leave the control of the

transferor corporation and * * * [whether] it allow[ed] the stockholder to exercise

control over such funds or property either directly or indirectly through some

instrumentality other than the transferor corporation.”78 The second prong, the

subjective test, a “crucial inquiry” in the constructive distribution determination,

asks whether the transfer occurred primarily for the common shareholder’s

personal benefit rather than for a valid business purpose.79 Both prongs must be

satisfied for a court to find a constructive distribution.80

      A.     Objective Prong

      Because the common shareholder does not directly receive funds or

property in a transfer between entities, such a transfer is a distribution if: (1) the

transferred funds leave the control of the transferring entity and (2) the owner


      78
         See Stinnett’s Pontiac Serv., Inc. v. Commissioner, 730 F.2d at 641
(quoting Sammons v. Commissioner, 

, 451 (5th Cir. 1972), aff’g in
part, rev’g in part T.C. Memo. 1971-145.
      79
       Wilkof v. Commissioner, T.C. Memo. 1978-496, 37 T.C.M. (CCH) 1851-
31, 1851-38 (1978), aff’d, 

 (6th Cir. 1981).
      80
     Sammons v. Commissioner, 472 F.2d at 451; Cox Enters., Inc., & Subs. v.
Commissioner, 97 T.C.M. (CCH) at 1774.
                                        - 88 -

[*88] controls the funds, directly or indirectly, through some means other than the

transferor.81 Considering the control Mrs. Moog exercised over Beekman and

Dynamo through 2020072 Ontario, Ltd., we conclude the first prong of the two-

prong analysis for a constructive distribution is satisfied. Mrs. Moog had the

ability to divert the value of the property to her chosen recipient because of her

control.

      B.     Subjective Prong

      The subjective prong asks the Court to consider whether the transfer

occurred primarily for the benefit of the common shareholder, rather than for a

valid business purpose. In applying the subjective prong “the search for this

underlying purpose usually involves the objective criterion of actual primary

economic benefit to the shareholders as well”.82 The Court of Appeals for the

Eleventh Circuit states the point as follows: “In determining whether the primary

purpose test has been met, we must determine not only whether a subjective intent




      81
       Sammons v. Commissioner, 472 F.2d at 453; Davis v. Commissioner, 69
T.C.M. (CCH) at 3007.
      82
        Cox Enters., Inc., & Subs. v. Commissioner, 97 T.C.M. (CCH) at 1774
(quoting Kuper v. Commissioner, 

, 160 (5th Cir. 1976)); see also
Stinnett’s Pontiac Serv., Inc. v. Commissioner, 730 F.2d at 641.
                                          - 89 -

[*89] to primarily benefit the shareholders exists, but also whether an actual

primary economic benefit exists for the shareholders.”83

      If the primary purpose is a valid business purpose, then the primary purpose

is not for the shareholder benefit.84 The benefit to the shareholder must be

“direct”, a term broadly construed.85 For example, courts have found a benefit to

the shareholder when the primary purpose of the transfer is to or for the benefit of

a member of the shareholder’s family.86




      83
           Stinnett’s Pontiac Serv., Inc. v. Commissioner, 730 F.2d at 641.
      84
       Stinnett’s Pontiac Serv., Inc. v. Commissioner, 730 F.2d at 641; Sammons
v. Commissioner, 472 F.2d at 452; Cox Enters., Inc., & Subs. v. Commissioner, 97
T.C.M. (CCH) at 1774.
      85
        Gilbert v. Commissioner, 

, 64 (1980); Wilkof v. Commissioner,
37 T.C.M (CCH) at 1851-38; see also Rushing v. Commissioner, 

, 894
(1969) (“[W]hatever personal benefit, if any, Rushing [the sole shareholder of the
transferor and transferee corporations] received was derivative in nature. Since no
direct benefit was received, we cannot properly hold he received a constructive
dividend.”), aff’d, 

 (5th Cir. 1971).
      86
          Green v. United States, 

, 419-421 (5th Cir. 1972); Byers v.
Commissioner, 

, 275 (8th Cir. 1952), aff’g a Memorandum Opinion
of this Court; Epstein v. Commissioner, 

, 474-475 (1969) (explaining
that it is firmly established that when a corporation makes a transfer of property
for no or insufficient consideration “to a member of the stockholder’s family,
whether it be directly or in trust, the stockholder has enjoyed the use of such
property no less than if it had been distributed to him directly”).
                                        - 90 -

[*90] Petitioners raise various arguments that Beekman had a business purpose

for making the bargain sales. Petitioners argue that Dynamo and Beekman had a

specific business purpose, namely, that the transfers enabled Dynamo to revitalize

the West Palm Beach neighborhood surrounding Beekman’s projects and bolster

the Kolter brand name, which would financially benefit Beekman. In making this

argument, petitioners rely on Rushing v. Commissioner.87

      In Rushing, a sole shareholder of two corporations was held not to have

received a constructive distribution when one corporation advanced funds to a

sister corporation.88 We held that any benefit to the sole shareholder was indirect

because the advancing corporation, a corporation developing a shopping center,

had a significant interest in the success of the sister corporation, a corporation

developing a nearby residential development.89 We explained that the success of

the development of home sites on the land adjacent to the shopping center would

inevitably lead to increased use of the shopping center.90 Petitioners’ reliance is

misplaced. There is no reason that Beekman was required to transfer the


      87
           Rushing v. Commissioner, 

.
      88
           Rushing v. Commissioner, 52 T.C. at 894.
      89
           Rushing v. Commissioner, 52 T.C. at 894.
      90
           Rushing v. Commissioner, 52 T.C. at 894.
                                          - 91 -

[*91] properties to Dynamo to revitalize West Palm Beach. Beekman, or one of

Beekman’s subsidairies, could have undertaken the project. This same logic

applies to strengthening the Kolter brand name. Beekman could have just as

easily developed the properties using the Kolter brand name.

        Petitioners argue that Beekman’s directors held fiduciary duties to the

beneficiaries of the Canadian trusts not to deplete the value of Beekman and

therefore Beekman could not have underpriced the property. Petitioners rely on

Cox Enters.,91 where we held that there was not a constructive distribution. In Cox

Enters., one corporation contributed an asset to a partnership in exchange for a

partnership interest the value of which was lower than the value of the contributed

asset, effectively transferring value to the other partners.92 The other partners were

two family partnerships.93 We found that the primary purpose was not to benefit

the other partners, in part because the corporation’s majority shareholder and

directors would have had to breach their fiduciary duties.94 This would have



        91
             Cox Enters., Inc. & Subs. v. Commissioner, 

.
        92
             Cox Enters., Inc. & Subs. v. Commissioner, 97 T.C.M. (CCH) at 1770-
1771.
        93
             Cox Enters., Inc. & Subs. v. Commissioner, 97 T.C.M. (CCH) at 1768.
        94
             Cox Enters., Inc. & Subs. v. Commissioner, 97 T.C.M. (CCH) at 1776-
                                          - 92 -

[*92] resulted in a financial detriment to the minority shareholders who did not

own any interest in the partnerships.95

        Petitioners ask that we follow this line of reasoning because the

beneficiaries of the Canadian trusts are not identical to the beneficiaries of the

U.S. trusts. Petitioners argue that the directors, officers, and controlling

shareholders did not breach any duties to the Canadian trusts by depleting value

from Beekman. We disagree. Cox Enters. involved a single instance of

undervaluing an interest. In these cases, we have found five bargain sales

exceeding $200 million. Unlike Cox Enters., we find that the directors, officers,

and controlling shareholder acted for the benefit of the U.S. trusts and to the

detriment of the Canadian trusts.

        We agree with the Commissioner that the primary intent and benefit was for

Dynamo and by extension, the dynasty trusts. The bargain sale properties went to

Dynamo, enhancing its value. The properties put more equity in Dynamo and

freed up its liquid assets. This allowed Dynamo to develop its Florida business

and increased Dynamo’s borrowing capability. All of this directly benefited the



        94
             (...continued)
1777.
        95
             Cox Enters., Inc. & Subs. v. Commissioner, 97 T.C.M. (CCH) at 1777.
                                          - 93 -

[*93] dynasty trusts for the benefit of Christine and Mr. Julien and furthered Mrs.

Moog’s estate planning. Accordingly, Beekman made deemed distributions.

V.    Withholding Taxes

      Having found that constructive distributions occurred, we must determine

their tax treatment and Beekman’s withholding obligation.

      A.       Distributions in General

      A distribution of property made by a corporation to a shareholder with

respect to its stock is treated as prescribed by section 301(c).96 Section 301(c)(1)

provides that a shareholder must include in gross income the portion of the

distribution that is a dividend.97 Section 316(a) defines a dividend as any

distribution of property made by a corporation to its shareholders (1) out of its

accumulated earnings and profits or (2) out of its earnings and profits for the

taxable year. If all or part of the distribution is not a dividend, that amount is a

nontaxable return of capital to the extent of the shareholder’s adjusted basis in the




      96
           Sec. 301(a).
      97
        Sec. 316(a); Welle v. Commissioner, 

, 422 (2013); see also
sec. 61(a)(7).
                                       - 94 -

[*94] stock and any amount in excess of the shareholder’s adjusted basis is taxable

capital gain.98

       Beekman’s estimated earnings and profits were $34,504,980 and

$141,115,279 on June 30, 2005 and 2006, respectively. Accordingly, Beekman’s

constructive distribution of $210,836,460 exceeded its earnings and profits.

Petitioners allege that the earnings and profits should be increased by the amount

of the underpricing on the bargain sale properties under section 312(b)(1). The

Commissioner concedes that Beekman is entitled to an increase in earnings and

profits in the amount of the deemed distributions.99




       98
            Sec. 301(c)(2) and (3).
       99
       We expect the parties to resolve the extent to which any distribution may
or may not have been made out of earnings and profits through computations
under Rule 155.
                                        - 95 -

[*95] B.     Withholding Taxes

      Distributions under section 301(c) are potentially subject to withholding

taxes, and the parties dispute whether Beekman had a duty to withhold. In

general, section 1442 imposes a withholding tax on dividends to foreign

corporations, and section 1445(e)(3) imposes a withholding tax on distributions

not out of earnings and profits where the distributing corporation is a U.S. real

property holding corporation.

             1.    Withholding Taxes on Dividends

      Section 1442(a) generally requires the payor of a U.S. source dividend to a

foreign corporation to deduct and withhold tax at the source. Section 881(a)

imposes a tax of 30% on various kinds of income including dividends received

from U.S. sources by a foreign corporation to the extent the dividend received is

not effectively connected with the conduct of a trade or business within the United

States.100 Generally, a dividend is from a U.S. source when the dividend is from a




      100
        A “foreign corporation” is a corporation that is not a domestic
corporation, and a “domestic corporation” is a corporation created or organized in
the United States or under the law of the United States or of any State. Sec.
7701(a)(4) and (5). Canada Square is a foreign corporation because it was
organized under the laws of Canada, and Beekman is domestic corporation
because it was organized under the laws of Delaware.
                                        - 96 -

[*96] domestic corporation.101 The rate of tax imposed on the dividend is reduced

to 5% by the U.S.-Canada tax treaty for shareholders owning at least 10% of the

source company.102

      Beekman, a domestic corporation, made a constructive distribution to

Canada Square, a foreign corporation. Beekman was required to withhold a tax

equal to 5% of the portion of the distribution that was a dividend, that is, that

portion that was from Beekman’s earnings and profit. Beekman failed to withhold

a tax equal to 5% of the dividends distributed to Canada Square in 2005 and 2006.

Accordingly, we find that Beekman was required to withhold 5% on the portion of

the distribution that was a dividend.

      Petitioners ask us to limit our finding to distributions from Beekman Vista’s

earnings and profits. Constructive distributions often arise in situations where the

corporation has excess earnings and profits and is trying to move profits out of the




      101
            Sec. 861(a)(2).
      102
          Third Protocol Amending the Convention With Respect to Taxes on
Income and Capital, art. 10, Can.-U.S., Sept. 26, 1980, T.I.A.S. No. 11087, as in
effect from 2004-2006.
                                        - 97 -

[*97] corporation.103 However, we have explained that corporations can make

constructive distributions in excess of earnings and profit.104

      Petitioners also ask that if we find a constructive distribution, we should

reduce the amount of the distribution by the amount Beekman owes to Canada

Square as repayment of a loan. Taxpayers are bound by the form of their

transactions and may not argue that the substance of their transaction differs from

the consequences.105 Beekman did not reduce the amount due to Canada Square

for the amount of the constructive distribution. Accordingly, Beekman cannot

recast the transaction as a loan repayment.

             2.     Withholding Taxes on Nondividend Distributions

      A domestic corporation that is or has been a U.S. real property holding

corporation at any time during the five-year period ending on the date of



      103
      See, e.g., Welle v. Commissioner, 140 T.C. at 426; Davis v.
Commissioner, 

.
      104
         Le v. Commissioner, T.C. Memo. 2003-219, 

, 121
(2003) (“Under section 301(c), a constructive distribution is taxable to the
shareholder as a dividend only to the extent of the corporation’s earnings and
profits. Any excess is a nontaxable return of capital to the extent of the
shareholder’s basis in the corporation. Any remaining amount is taxable to the
shareholder as capital gain.”).
      105
        Ellinger, 470 F.3d at 1333; Estate of Durkin v. Commissioner, 

, 571 (1992).
                                          - 98 -

[*98] distribution must withhold taxes when it distributes property to a foreign

person in a nondividend section 301 distribution.106 Subject to exceptions not

applicable here,107 section 1445(e)(3) requires payors to withhold “10 percent of

the amount realized by the foreign shareholder.”

      The Commissioner argues that Beekman should be required to withhold

under section 1442 on the dividends out of earnings and profits and under section

1445 on the distributions in excess of earnings and profits. This is consistent with

the treatment under the applicable regulations.108 Section 897(c)(2) defines the

term “United States real property holding corporation” as follows:

      The term “United States real property holding corporation” means
      any corporation if (A) the fair market value of its United States real
      property interests equals or exceeds 50 percent of (B) the fair market
      value of -- (i) its United States real property interests, (ii) its interests
      in real property located outside the United States, plus (iii) any other
      of its assets which are used or held for use in a trade or business.

Section 897(c)(1) defines “United States real property interest” to mean

      (i) an interest in real property * * * located in the United States or the
      Virgin Islands, and (ii) any interest (other than an interest solely as a
      creditor) in any domestic corporation unless the taxpayer establishes
      (at such time and in such manner as the Secretary by regulations


      106
            Sec. 1445(e)(3).
      107
            Sec. 1445(e)(3); sec. 1.1445-5(e)(3)(i), Income Tax Regs.
      108
            Sec. 1.1441-3(c)(4)(i)(B), Income Tax Regs.
                                          - 99 -

[*99] prescribes) that such corporation was at no time a United States real
      property holding corporation during the shorter of -- (I) the period
      after June 18, 1980, during which the taxpayer held such interest, or
      (II) the 5-year period ending on the date of the disposition of such
      interest.

      Section 1.897-2(b)(2), Income Tax Regs., provides an alternative test where

the fair market value of the corporation’s U.S. real property interest is “presumed”

to be less than 50% of the fair market value of the aggregate of its assets “if on an

applicable determination date the total book value of the U.S. real property

interests held by the corporation is 25 percent or less of the book value of the

aggregate of the corporation’s assets”.

      The Commissioner determined that Beekman was a U.S. real property

holding corporation during the years in issue. Petitioners rely on the alternative

test to show that Beekman was not a U.S. real property holding corporation.

However, the alternative test is only a “presumption”.109 The Commissioner

determined that Beekman was a U.S. real property holding corporation under

section 897(c)(2). Indeed, the record indicates that most of Beekman’s assets were

U.S. real property interests. The principal difference between the Commissioner’s

calculation and the calculation put forth by Beekman and Dynamo’s expert is the

inclusion of property held for sale in the ordinary course of business in total U.S.

      109
            Sec. 1.897-2(b)(2), Income Tax Regs.
                                        - 100 -

[*100] real property holdings. Beekman and Dynamo have not offered any

compelling argument as to why the property should be excluded from the

calculation and did not meet their burden to establish that Beekman was not a U.S.

real property holding corporation. Beekman’s distributions in excess of earnings

and profits are subject to 10% withholding.

VI.   Dynamo Determinations

      The tax treatment of any partnership item must be determined at the

partnership level.110 Partnership items include any item required to be taken into

account for the partnership’s taxable year under subtitle A to the extent that the

Secretary has determined by regulation that the item is more appropriately

determined at the partnership level.111 This includes items of income, gain, loss,

deduction, or credit, as well as contributions and distributions.112 The FPAA made

several adjustments; however, the parties have resolved most of them. We address

the remaining issues.




      110
            Sec. 6221.
      111
            Sec. 6231(a)(3); sec. 301.6231(a)(3)-1(a), Proced. & Admin. Regs.
      112
            Sec. 301.6231(a)(3)-1(a), Proced. & Admin. Regs.
                                        - 101 -

[*101] A.    Dynamo GP

      The Commissioner argues that Dynamo’s general partner, Dynamo GP,

received a deemed distribution of cash in a 2007 restructuring transaction in an

amount equal to the assumption of the advances to the Christine Dynasty Trust

and the Julien Dynasty Trust. Dynamo reported all of the advances between

Beekman and Dynamo as recourse debts to Dynamo GP in 2006 and 2007.

Petitioners allege that the advances were nonrecourse. We disagree.

      Ordinarily, a taxpayer is bound by the form of a transaction and cannot

argue that the substance justifies a different result.113 Petitioners’ expert, Mr.

Moses, determined that the advances were nonrecourse “from a tax return

preparer’s perspective,” but Mr. Moses acknowledged that the returns reported

otherwise and that he “recharacterized” the debt as nonrecourse. Petitioners have

offered no other evidence as to why Dynamo should be relieved of its tax

reporting position. We find no basis for the advances to be recharacterized as

nonrecourse. Accordingly, we find the advances were recourse liabilities to

Dynamo GP.


      113
       Selfe v. United States, 

, 773 (11th Cir. 1985); Framatome
Connectors USA, Inc. v. Commissioner, 

, 47 (2002), aff’d, 108 F.
App’x 683 (2d Cir. 2004); Howell v. Commissioner, T.C. Memo. 2012-303, at
*13.
                                        - 102 -

[*102] Section 752(b) provides that “[a]ny decrease in a partner’s share of the

liabilities of a partnership * * * shall be considered as a distribution of money to

the partner by the partnership.”114 Dynamo GP’s share of the advances was

reduced by the amount of the assumption by the Christine Dynasty Trust, $220

million, and the Julien Dynasty Trust, $146 million. Accordingly, Dynamo GP is

deemed to have received a cash distribution of $366 million.

      Petitioners raise the taxability of the distribution to Dynamo GP in their

brief. However, in partnership proceedings such as this one, a partner’s tax on a

distribution is beyond the scope of the proceedings.115

      B.        Christine Dynasty Trust and Julien Dynasty Trust

      Partnership items include not only items of immediate tax effect, such as

items of income, loss, deduction, or credit, but also determinations as to items

such as contributions and distributions.116 We turn now to various partnership

items of Dynamo.




      114
            Sec. 1.752-1(c), Income Tax Regs.
      115
            Sec. 6230(a)(2).
      116
            Sec. 301.6231(a)(3)-1(a)(4), Proced. & Admin. Regs.
                                         - 103 -

[*103]          1.    Contribution of the Bargain Sale

      We previously found that Beekman made a deemed distribution to Mrs.

Moog.117 Accordingly, Mrs. Moog is deemed to have made a gift to the U.S. trusts

in a 60/40 split, where she gave 60% of the value to the Christine Dynasty Trust

and 40% to the Julien Dynasty Trust.118 The dynasty trusts are deemed to have

made a section 721 contribution to Dynamo.

                2.    Restructuring Transaction

                      a.    Deemed Contribution

      The Christine Dynasty Trust and the Julien Dynasty Trust made

contributions in the amounts of the debt assumptions from the restructuring

transaction. The dynasty trusts assumed Dynamo’s liabilities. Section 752(a)

provides that “[a]ny increase in a partner’s share of the liabilities of a partnership,

or any increase in a partner’s individual liabilities by reason of the assumption by

such partner of partnership liabilities, shall be considered as a contribution of

money by such partner to the partnership.” The Christine Dynasty Trust and the

Julien Dynasty Trust are deemed to have contributed money to the partnership in

the amounts of the debt assumptions; that is, the Christine Dynasty Trust and the


      117
            See Stinnett’s Pontiac Serv., Inc. v. Commissioner, 730 F.2d at 641.
      118
            See Epstein v. Commissioner, 53 T.C. at 474-475.
                                         - 104 -

[*104] Julien Dynasty Trust are deemed to have contributed $220 million and

$146 million, respectively.

                   b.     Distribution

      Dynamo also distributed assets to the dynasty trusts in amounts nearly equal

to their debt assumptions. Dynamo distributed $220 million of marketable

securities to the Christine Dynasty Trust and $146,666,667, which consisted of

$70 million cash and a $76,666,666 note, to the Julien Dynasty Trust.

      Section 731(b) provides that “[n]o gain or loss shall be recognized to a

partnership on a distribution to a partner of property, including money.” Section

731(c)(1) provides that, for purposes of section 731(a)(1), the term “money”

includes “marketable securities”, which are to be taken into account at fair market

value as of the distribution date.119 Section 731(c)(2)(A) defines the term

“marketable securities” to mean “financial instruments * * * which are, as of the

date of the distribution, actively traded (within the meaning of section

1092(d)(1)).” Section 731(c)(2)(B)(ii) and (C) includes in the meaning of the term

“marketable securities” “any financial instrument which, pursuant to its terms or

any other arrangement, is readily convertible into, or exchangeable for, money or


      119
       Countryside Ltd. P’ship v. Commissioner, T.C. Memo. 2008-3, 95 T.C.M.
(CCH) 1006, 1009 (2008).
                                        - 105 -

[*105] marketable securities,” which includes “stocks and other equity interests,

evidences of indebtedness, options, forward or futures contracts, notional principal

contracts, and derivatives.” Accordingly, Dynamo distributed marketable

securities to the Christine Dynasty Trust and cash and marketable securities to the

Julien Dynasty Trust.

      C.        Interest Expenses

      Because we found that the advances were bona fide debt, Dynamo can

deduct interest on that debt.120

      D.        Cancellation of Indebtedness Income

      The FPAA asserts as an alternative position that, if amounts transferred

from Beekman to Dynamo were bona fide debt, then Dynamo must recognize

discharge of indebtedness income at the end of 2007. The Commissioner did not

address this issue at trial or on brief, other than to note that he did not advance the

argument beyond challenging whether petitioners met their burden. We have

already found that Dynamo repaid Beekman by direct repayment, by satisfying

Beekman’s obligations to third parties, and by providing management services to

Beekman. Petitioners met their burden.




      120
            See sec. 163(a).
                                        - 106 -

[*106] E.       Additional Adjustments in the FPAA

      Petitioners have stated that they and the Commissioner have resolved

several adjustments. To the extent not agreed by the parties or conceded by a

party, petitioners have not presented any evidence with respect to the remaining

adjustments.121 Accordingly, petitioners have not met their burden regarding the

remaining adjustments.

VII. Additions to Tax and Penalties

      The Commissioner determined section 6651(a)(1) additions to tax and

section 6656(a) penalties against Beekman. The Commissioner asserted a section

6662(a) accuracy-related penalty against Dynamo. We have separately concluded

that the Commissioner does not bear the burden of production as to the penalties at

issue in these proceedings.122 He does, however, bear the burden of proof as to

those penalties raised in his amendment to answer for Beekman.

      A.        Section 6651(a)(1) and Section 6656

      Section 6651(a)(1) imposes an addition to tax for failing to timely file a tax

return unless the taxpayer shows that the failure is due to reasonable cause and not



      121
            See Rule 142(a); Welch v. Helvering, 290 U.S. at 115.
      122
            Dynamo Holdings Ltd. P’ship v. Commissioner, 150 T.C. ___ (May 7,
2018).
                                        - 107 -

[*107] due to willful neglect. This penalty applies to returns required under

section 6011, among others. Forms 1042 fall under section 6011.123

      Section 6656(a) imposes a penalty for failure to deposit any amount of tax

with a Government depository. For failures to deposit for more than 15 days, the

penalty is equal to 10% of the underpayment.124 As is true with respect to the

addition to tax under section 6651(a)(1), a taxpayer may avoid a penalty under

section 6656(a) if the taxpayer’s failure to make a required deposit was due to

reasonable cause and not willful neglect.125

      Except as to the portion of the section 6656 penalty raised in the

Commissioner’s amendment to answer, Beekman is liable for additions to tax for

failure to timely file and failure to timely deposit. Beekman’s Forms 1042 for the

years ending December 31, 2005 and 2006, were due on March 15, 2006 and

2007, respectively.126 Likewise, Beekman’s payments of withholding tax for the

years ended December 31, 2005 and 2006, were due by March 15, 2006 and 2007,


      123
            See secs. 1.6011-1(c), 1.1461-1(b)(1), Income Tax Regs.
      124
            Sec. 6656(b)(1)(A)(iii).
      125
         Rogers v. Commissioner, T.C. Memo. 2016-152, at *11-*12 (explaining
that because section 6651(a)(1) and section 6656(a) are identical, they may be
addressed together).
      126
            See sec. 1.1461-1(b), Income Tax Regs.
                                          - 108 -

[*108] respectively.127 Beekman did not file Forms 1042 or pay deposits before

2009.

        The Commissioner bears the burden of proof with respect to any increase in

penalties and additions to tax asserted in the amendment to answer above those

determined in the notice of deficiency.128 In the case of penalties under section

6656(a), that burden includes written supervisory approval of penalties under

section 6751(b)(1). The Commissioner has not offered any evidence of

supervisory approval for the increase in penalties under section 6656(a) asserted in

the amendment to answer. The Commissioner has not met his burden.

        In contrast, additions to tax under section 6651(a)(1) are not subject to

supervisory approval under section 6751(b)(1); consequently, the lack of

supervisory approval is not fatal for the amounts of the increases in additions to

tax under section 6651(a)(1).129 The record shows that Beekman did not timely

file its returns for 2005 and 2006 and has not shown that the failure to file was due

to reasonable cause and not willful neglect. Consequently, it is liable for the

additions to tax asserted in the amendment to answer.


        127
              Sec. 6151(a).
        128
              Rader v. Commissioner, 143 T.C. at 389.
        129
              Sec. 6751(b)(2)(A).
                                        - 109 -

[*109] Petitioners argue that the Commissioner is precluded from asserting a

section 6651(a)(1) addition to tax or a section 6656(a) penalty because the revenue

agent initially found reasonable cause during Beekman’s examination. Petitioners

rely on Estate of Charania v. Shulman.130 In Estate of Charania, the Court of

Appeals for the First Circuit reversed our decision and held that the addition to tax

should have been abated because a portion of the penalty was abated during

examination.131 We do not believe that the holding in Estate of Charania is

analogous to Beekman’s situation. In these cases, there was no abatement.

Moreover, we follow our jurisprudence when the court to which an appeal would

lie has not ruled on the issue.132

      Petitioners’ argument that the Commissioner cannot change his mind about

whether to determine additions to tax or penalties in a notice of deficiency has no

merit. Petitioners have neither established, nor attempted to establish, the

existence of a closing agreement or any other binding agreement that would

preclude the Commissioner from subsequently determining an addition to tax or a



      130
         Estate of Charania v. Shulman, 

 (1st Cir. 2010), aff’g in part,
rev’g in part 

 (2009).
      131
            Estate of Charania v. Shulman, 608 F.3d at 76-77.
      132
            Lardas v. Commissioner, 

, 493-495 (1992).
                                        - 110 -

[*110] penalty.133 We will not normally look behind the notice of deficiency to

examine the administrative actions, motives, or policies of the Commissioner.134

Thus, we will not look into the revenue agent’s alleged initial decision to not

impose any section 6651(a)(1) addition to tax or section 6656(a) penalty.

Accordingly, we conclude that respondent did not exceed his statutory authority

when determining additions to tax under section 6651(a)(1) and penalties under

section 6656(a).

      The parties dispute whether Dynamo and Beekman had reasonable cause for

failure to timely file and timely deposit because they did not believe any

distribution had occurred. The record is clear, however, that they did not have

reasonable cause for their failure to timely file or deposit. Reasonable cause

requires that a taxpayer exercise ordinary business care and prudence.135 We have

previously explained that “[a] good-faith belief that one is not required to file a

return does not constitute reasonable cause under section 6651(a)(1), unless

bolstered by advice from competent tax counsel who has been informed of all the



      133
            Estate of Wilbanks v. Commissioner, 

, 315 (1990).
      134
            Greenberg’s Express, Inc. v. Commissioner, 

, 327 (1974).
      135
        United States v. Boyle, 

, 246 (1985); sec. 301.6651-1(c)(1),
Proced. & Admin. Regs.
                                         - 111 -

[*111] relevant facts.”136 The management team did not request advice on how to

report the property transfers. We do not find that Dynamo and Beekman acted

with reasonable cause and not willful neglect.

      B.        Section 6662(a)

      The tax treatment of any partnership item, including the applicability of any

penalty and addition to tax that relates to an adjustment to a “partnership item”, is

determined at the partnership level. We have jurisdiction to determine the

applicability of an accuracy-related penalty that relates to an adjustment to a

partnership item.137

      Section 6662(a) and (b)(1) and (2) imposes a 20% accuracy-related penalty

on any portion of an underpayment of tax that is due to negligence or disregard of

rules or regulations or a substantial understatement of income tax. The term

“negligence” includes any failure to make a reasonable attempt to comply with the

provisions of the Code, and the term “disregard” includes any careless, reckless, or

intentional disregard.138 A return position that has a reasonable basis is not



      136
        Vinz v. Commissioner, T.C. Memo. 1984-84, 

,
1129 (1984).
      137
            Sec. 6226(f); United States v. Woods, 

, 41 (2013).
      138
            Sec. 6662(c); Higbee v. Commissioner, 

, 448 (2001).
                                          - 112 -

[*112] attributable to negligence.139 Disregard of rules or regulations is careless if

the taxpayer does not exercise reasonable diligence to determine the correctness of

a return position that is contrary to the rule or regulation.140 An understatement of

income tax is “substantial” when it exceeds the greater of 10% of the tax required

to be shown on the return or $5,000 or, in the case of a corporation other than an S

corporation, if the amount exceeds the lesser of 10% of the tax required to be

shown on the return (or, if greater, $10,000) or $10,000,000.141

      Dynamo Holdings was negligent in failing to report the deemed distribution

to Dynamo GP. We have found the advances were recourse as to Dynamo GP and

Dynamo GP received a deemed distribution as a result of the assumption of the

liabilities by the dynasty trusts. Dynamo did not report the distribution on its

return. Accordingly, Dynamo was careless when it did not ascertain the

correctness of excluding the distribution from its return.

      With respect to the remaining adjustments, Dynamo Holdings failed to

introduce evidence that it had a reasonable basis for its reporting of the items that

were agreed during Dynamo’s examination. Petitioners allege that adjustments


      139
            Sec. 1.6662-3(b)(1), Income Tax Regs.
      140
            Sec. 1.6662-3(b)(2), Income Tax Regs.
      141
            Sec. 6662(d)(1)(A) and (B).
                                       - 113 -

[*113] resulting from the parties’ agreements were isolated computational

adjustments. They allege that because the amount of one of the adjustments was

only 5% of the overall deficiency, we should find it was a computational error.

The size of the adjustment alone is not evidence of a reasonable basis. Thus, the

negligence penalty is sustained as to those items, as well.

       The substantial understatement penalty may be applicable if an

understatement of tax that is attributable to an adjustment to a partnership item

meets the threshold.142 Accordingly, we provisionally sustain the Commissioner’s

section 6662(b)(2) accuracy-related penalty as to Dynamo holdings on any portion

of an underpayment of tax that is due to a substantial understatement of income

tax.

       The accuracy-related penalty will not apply to any portion of an

underpayment where the taxpayers establish that they had reasonable cause and

acted in good faith.143




       142
       Sec. 6221; VisionMonitor Software, LLC v. Commissioner, T.C. Memo.
2014-182, at *16.
       143
        Sec. 6664(c)(1); Higbee v. Commissioner, 116 T.C. at 448; Neonatology
Assocs., P.A. v. Commissioner, 

, 98 (2000), aff’d, 

 (3d
Cir. 2002).
                                       - 114 -

[*114] Petitioners allege that Dynamo Holdings had reasonable cause and acted in

good faith. But the defense centers on Mr. Julien’s knowledge. In particular,

petitioners note that Mr. Julien was “undeniably Canadian-born and raised” and

“would be expected to be unfamiliar with esoteric IRS constructs”. This defense

is personal to Mr. Julien, and a reasonable cause defense that is personal to a

partner may not be asserted in a partnership-level proceeding.144 Petitioners, a

U.S. corporation and the tax matters partner of a U.S. partnership, were not

Canadian born and raised and petitioners’ argument does not establish reasonable

cause at the entity level for either Dynamo Holdings or Beekman Vista.

VIII. Other Arguments

      Petitioners raise additional arguments that do not survive scrutiny.

Petitioners argue that Dynamo Holdings’ and Beekman Vista’s due process rights

were violated because they were denied an administrative appeal. However, we

have previously held that the Commissioner’s decision to not provide an Appeals

Office conference does not invalidate a notice of deficiency or an FPAA.145




      144
         RERI Holdings I, LLC v. Commissioner, 

__, __ (slip op. at 31)
(July 3, 2017); sec. 301.6221-1(d), Proced. & Admin. Regs.
      145
         Cupp v. Commissioner, 

, 83 (1975), aff’d without published
opinion, 

 (3d Cir. 1977).
                                       - 115 -

[*115] Petitioners also allege that the notice of deficiency and the FPAA are

invalid under the Administrative Procedure Act because the Commissioner did not

provide a “reasoned explanation for * * * [his] actions.” The Administrative

Procedure Act does not apply to these notices.146

IX.   Conclusion

      Beekman and Dynamo entered into a bona fide debtor-creditor relationship.

However, Beekman transferred property to Dynamo at less than fair market value.

Because of that underpricing, Beekman made a constructive distribution to Mrs.

Moog. Beekman was required to but failed to withhold taxes. Mrs. Moog is

deemed to have given the constructive distribution to the dynasty trusts and the

dynasty trusts are deemed to have contributed that amount to Dynamo. Dynamo

engaged in a restructuring transaction in which each partner received a

distribution. Dynamo GP’s distribution occurred because the dynasty trusts

assumed its liability, and the dynasty trusts’ contribution occurred because they

assumed the liability. Beekman Vista is liable for additions to tax for failure to

timely file, and except as to the amount asserted in the Commissioner’s

amendment to answer, Beekman Vista is also liable for penalties for failure to


      146
       Commissioner v. Neal, 

, 1275 (11th Cir. 2009), aff’g T.C.
Memo. 2005-201; Porter v. Commissioner, 

, 117-118 (2008).
                                     - 116 -

[*116] deposit. Beekman Vista did not establish a defense against the additions to

tax or penalties. The Commissioner established an accuracy-related penalty under

section 6662(a) for negligence with respect to the portion of each underpayment

arising from the distribution from Dynamo Holdings, and Dynamo Holdings did

not establish a defense.


                                            Decisions will be entered

                                      under Rule 155.