Internal Revenue Service
Revenue Ruling

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 Rev. Rul. 75-43

1975-1 C.B. 383

Sec. 7701

IRS Headnote

Classification; cattle fattening agreement. A corporate feed lot operator and an individual cattle owner enter into a 5-year service agreement under which the cattle owner makes a cash commitment, supplies cattle for fattening, purchases feed from the feed lot operator, and independently markets the cattle. The feed lot operator furnishes insurance, labor, accommodations, equipment for the separate care and feeding of the cattle, and guarantees the owner a return of a certain percentage of his cash commitment. The feed lot operator receives a percentage of the owner's net profit in exchange for his services. The arrangement will not be classified as a partnership under section 7701(a)(2) of the Code.

Full Text

Rev. Rul. 75-43

Advice has been requested whether the arrangement described below will be classified as a partnership for Federal income tax purposes.

A, an individual, and X, a corporation that owns and operates cattle feeding facilities, entered into a service agreement under which feeder cattle owned by A are delivered to X and fattened for market. Under the service agreement X furnishes all labor, feeding accommodations, and equipment required for the care and feeding of A's cattle. All the feed consumed by the cattle is purchased by A from X. The unit price charged for the feed is the unit price charged by X to its other customers. X carries insurance providing coverage for the cattle against such risks as fire, storm, theft, drowning, and vandalism. A's cattle are kept separate from cattle not owned by him. The fattened cattle are marketed by A whenever he deems it appropriate.

A made a commitment to the cattle feeding operation of 50,000x dollars, which is to be used to purchase current feed needed and to pay other expenses of maintaining the cattle during the first year of operation. As fattened cattle are sold, A will purchase additional feeder cattle, and the expenses of fattening such herds will be met through the use of part of the proceeds of prior sales of fattened cattle.

The service agreement further provides that X is an independent contractor and that no partnership or joint venture is established between A and X. The service agreement is effective for a period of 5 years, but A may terminate his participation in part or in whole upon 30 days' written notice to X. The service agreement contains no provision for the sharing of losses.

A and X also entered into an agreement under which X guaranteed A a return of 90 percent of his original commitment of 50,000x dollars to the cattle feeding operation. In exchange for the guarantee X is entitled to 10 percent of A's cumulative net profits under the service agreement. Cumulative net profits means the amount by which the net proceeds of all cattle sales increased by the inventory of cattle then on hand exceeds the total amount of all expenses attributable to A's participation in the cattle operation. However, if A withdraws more than a specified amount annually during the 5-year term of the agreement, X has no obligation under the guarantee agreement and is entitled to receive 15 percent of the cumulative net profits.

Section 7701(a)(2) of the Internal Revenue Code of 1954 provides that the term "partnership" includes a syndicate, group, pool, joint venture, or other unincorporated organization, through or by means of which any business, financial operation, or venture is carried on, and which is not, within the meaning of this title, a trust or corporation.

Section 301.7701-3(a) of the Procedure and Administration Regulations provides, in part, that a joint undertaking merely to share expenses is not a partnership. Mere coownership of property that is maintained, kept in repair, and rented or leased does not constitute a partnership. Tenants in common, however, may be partners if they actively carry on a trade, business, financial operation, or venture and divide the profits thereof. For example, a partnership exists if coowners of an apartment building lease space and in addition provide services to the occupants either directly or through an agent.

In Hubert M. Luna, 42 T.C. 1067 (1964), the Tax Court of the United States said that the following factors are relevant in determining whether a partnership exists for Federal income tax purposes:

The agreement of the parties and their conduct in executing its terms; the contributions, if any, which each party has made to the venture; the parties' control over income and capital and the right of each to make withdrawals; whether each party was a principal and coproprietor, sharing a mutual proprietary interest in the net profits and having an obligation to share losses, or whether one party was the agent or employee of the other, receiving for his services contingent compensation in the form of a percentage of income; whether business was conducted in the joint names of the parties; whether the parties filed Federal partnership returns or otherwise represented to respondent or to persons with whom they dealt that they were joint venturers; whether separate books of account were maintained for the venture; and whether the parties exercised mutual control over and assumed mutual responsibilities for the enterprise.

In the instant case, A and X have not exhibited any intent to form or carry on a business in partnership form. Their agreements are denominated a service agreement and a guarantee agreement. A alone owns the cattle being fattened for market and has complete control over the termination of the arrangement. The amount to be received by X from A's commitment is in fact payment for X's services and the use of its facilities. Furthermore, while X will receive a percentage of net profits and is obligated to make good losses on the cattle feeding operation that exceed 10 percent of A's commitment, such profit and loss sharing arises under the guarantee agreement and not because X has a proprietor's interest in the net profits or a proprietor's obligation to share losses. See E. L. Connelly, 46 B.T.A. 222 (1942), acq., 1942-1 C.B. 4; and Samuel Eugene Bramer, 6 T.C. 1027 (1946), acq., 1946-2 C.B. 1, aff'd per curiam, 161 F. 2d 185 (3d Cir. 1947), cert. denied, 332 U.S. 771 (1947); Paddock v. United States, 58-1 U.S.T.C. 67,246 (S.D. Cal. 1957).

Accordingly, it is held that the arrangement between A and X will not be classified as a partnership under section 7701(a)(2) of the Code and the regulations thereunder.