Timeshare rental activity was trade or business activity giving rise to ordinary loss on foreclosure.

In a memorandum decision, the Tax Court held that a taxpayer's rental of timeshares rose to the level of a trade or business and, therefore, a loss on foreclosure was an ordinary loss (Murtaugh, TC Memo 1997-319).

After considerable investigation into the location of timeshares, Murtaugh purchased two units in a resort location that provided a good opportunity to make a profit. The seller of the units was retained to manage the rental activity, which was on a short-term basis.

The rental income was minimal during the years of operation. After the first two years, the taxpayer met with the management company in an effort to boost rental income. During the entire period, the taxpayer made annual visits to the units (usually for two nights), but did so during the off season and did not use the facilities except to sleep and eat.

In 1992, the lender foreclosed on the timeshares. The taxpayer incurred a loss on foreclosure, which he claimed as an ordinary loss. The Tax Court focused on the taxpayer's intent, the manner in which the venture was approached, the fact that the units were not located in an area of personal preference and the fact that the property was used sparingly. More importantly, the court attributed the activity of the management company to the taxpayer, stating that the management company was engaged in a trade or business with respect to renting the timeshares.

The case was distinguished from Grier, 218 F2d 603 (2d Cir. 1955), aff'g per curiam 120 F Supp 395 (DC Conn. 1954), in which the court found that regular and continuous activity of management was not present when property was rented to a single tenant for a number of years. The taxpayer relied on Gilford, 201 F2d 735 (2d Cir. 1953), in which the Court of Appeals found that the taxpayer was acting through its managing agent and, therefore, his activity had risen to the level of a trade or business.

Although Gilford was in the Second Circuit, it can be important for taxpayers engaged in a rental activity that involves frequent turnover (i.e., resort-type rentals) or the provision of significant services, and who use a management company.