When the plane was ready for its intended use, basis had grown to $1.6 million which translated into annual depreciation deductions over $80,000.  It turned out that taking up passengers who could fantasize about dropping bombs on the Tirpitz or Japanese submarines was not feasible.  So Captain Eddie took to the air shows, where the plane did quite well, but to live in fame did not bring in enough revenue to cover expenses.  Losses mounted up.

The Factors

For the years under audit 2007-2009, losses were about $120,000 per year.

Judge Holmes went through the full nine-factor drill of the Section 183 regulations.

(1) Manner in which the taxpayer carries on the activity.

(2) The expertise of the taxpayer or his advisors

(3) The time and effort expended by the taxpayer in carrying on the activity.

(4) Expectation that assets used in activity may appreciate in value.

(5) The success of the taxpayer in carrying on other similar or dissimilar activities

(6) The taxpayer’s history of income or losses with respect to the activity

(7) The amount of occasional profits,

(8) The financial status of the taxpayer

(9) Elements of personal pleasure or recreation.

With the Commissioner winning on seven factors, Captain Eddie on just one (expectation of appreciation) and a draw (time and effort), the case might not seem that instructive for planning purposes, but there are some important points.

What’s In A Name?

A very simple matter that is mentioned numerous times is that the returns listed the business as being “Airplane leasing”.  The plane was not leased even once and Captain Eddie was not trying to lease it.  When it comes to the business description on Schedule C, my experience is that not much thought goes into answering the question on the initial return.  After that, there is no thought at all as the answer is routinely copied from one year to the next.

But it is not rare for the Tax Court to focus on things on the return that preparers and taxpayers might not have thought were important.  They called it leasing and it wasn’t leasing.  Who cares? Judge Holmes that’s who.

Separate Accounts

Something that will make your life easier is having a separate account that isolates the transactions related to the business.  That will also win you points in the “manner in which the business is conducted” category.  Captain Eddie did not maintain separate accounts.  Whether that would have overcome him not having a coherent business plan is questionable, but it certainly would have helped.

The Tangled Web

The other thing that hurt on the business piece was a filing to exempt the plane from local property tax that claimed it was not being used commercially or held for sale.

Light At The End

The factor that Captain Eddie won on was expectation of appreciation.  He had appraisals on the plane ranging from $3.5 million to $8 million.  This might have been enough to save him.  One weakness is that he didn’t get an appraisal until 2014.

Ultimately he did not convince Judge Holmes that he was really thinking about selling, which was the only way that he could realize a profit.

Even having concluded that Kurdziel expected the Firefly to appreciate, what ultimately matters is whether he had a good-faith plan to realize a profit from its sale. We aren’t convinced that he did. The regulations tell us that no one factor is more important than another. The expectation that the Firefly will appreciate in value is important here because a sale is the only true way Kurdziel could turn a profit. But this doesn’t make the other factors less weighty, since together they signal whether he ever intended in good faith to make a profit. (References omitted)

Bringing It All Together

Kurdziel’s argument that he intended to hold the Firefly for investment all along is contrary to much of the evidence. His business plan was unclear from the start: Was he leasing the airplane, selling rides on it, or entering it in airshows to promote it? Even more troubling is that Kurdziel chose to list his Firefly activities as “airplane leasing” when he never once leased the Firefly out, and was aware that he couldn’t legally sell rides on it. This knowledge also colors our view of his early business plans. We therefore do not find his updated plans to hold the Firefly for an investment to be credible. What’s more, we find it hard to believe that Kurdziel intended to sell the Firefly all along when he didn’t have a formal appraisal–if we can call it that–done before 2014, and admitted on his California property tax documents that he was not holding it for sale or for profit.

I don’t know what the likely outcome would be, but I would really like to see this case appealed.  Even though the factor count seems overwhelming with a few tweaks, it might have been a win.  If Captain Eddie had looked at selling once a year and made a documented decision to continue to hold, that might have been enough.

Other Coverage

Andrew Keshner has something on Market Watch – IRS says pilot can’t claim his prized WWII plane as a business tax deduction.

Ed Zollars had Tax Court Finds Pilot Did Not Have a Profit Motive in Aircraft Business.

The Tax Court noted that Reg. §1.183-2(a) provides a nine-factor test that is used to determine if an activity is carried on with the required profit motive. This test has been subject to criticism, with the Seventh Circuit Court of Appeals referring to the test as “goofy” when it rejected the test and used a more general approach.

But the Tax Court notes that this case is appealable to the Ninth Circuit Court of Appeals which has not indicated that it would reject the “goofy” standard. So, the opinion notes that the nine tests still would be used to analyze Mr. Kurdziel’s motive in this case.

David Hansen had Pilot Loses IRS Dogfight Over Deductions For WWII Plane behind the Law360 paywall.

Bryan Camp had Lesson From The Tax Court: Nothing Personal in which he covers a different case but promises to get to Captian Eddie next week.

Lew Taishoff mentions the case briefly just to note the lovely language of Judge Holmes.

I’m really sorry just to give a passing nod to Edward G. Kurdziel, Jr., 2019 T. C. Memo. 20, filed 3/21/19. It’s just another indocumentado too-much-fun Section 183 hobby loss case. But how can you resist a Judge Holmes opinion that begins thus? “Edward G. Kurdziel is the only man in America licensed to fly a Fairey Firefly. He is also the only man in America who has a Firefly to fly.”

Talk To Me About Hobby Losses

Hobby loss cases are among my favorites mainly because they tend to have such neat stories behind them.  After all these years of writing about them, I have a chance to talk about them.  I will be doing a seminar for Lucien Gauthier’s Boston Tax Institute on June 5 covering the issues raised by Section 183.

More On The Firefly

Here is the plane being revved up.

And here it is in flight