The petitioner operated a real estate investment partnership. As part of the partnership's business it acquired a leasehold interest in a property with the intent to develop an apartment complex and retail space. The lease originally ran for 20 years, but was extended for another 34 years. The leasehold was transferred to another entity for development and management purposes. The property generated only rental income and no substantial effort to sell the property was made for the first 13 years, when an offer to buy was received. The property was sold for $14.5 million plus a share of the profits from the homes that would ultimately be developed on the property. The partnership reported $628,222 of capital gain, but IRS took the position that the transaction triggered $7.5 million or ordinary income. The court agreed with the IRS. The court determined that the property was initially acquired for developmental purposes, and efforts to obtain financing and continue that development were made; the sale was to an unrelated party with the plan for the petitioner to develop the property; and efforts continued to develop the property up until the purchase date. While there were some factors that favored the petitioner (only minor improvements made; no prior sales; no advertising or marketing performed), the court held that the factors weighed in the favor of the IRS and the sale was in the ordinary course of business under I.R.C. Sec. 1221(a)(1). Fargo v. Comr., T.C. Memo. 2015-96.
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