## Facts

- A Montana physician with six minor children conveyed, by warranty deed, income-producing real estate (pharmacy space, an apartment, and his medical offices) to his children as a gift.
- The transfer was absolute, irrevocable, and unconditioned; the physician no longer held legal title to the property.
- A state probate court appointed the physician as guardian for the children, subject to court supervision.
- As guardian, he collected rents from third-party tenants and, without a written lease, paid the children (through the guardianship) reasonable rent for continued use of his medical offices.
- Rental proceeds were spent for the children’s needs, including insurance, health, education, private school tuition, lessons, an automobile for an older child, and travel for a child’s health.
- The IRS disallowed the physician’s claimed rent deductions under 26 U.S.C. § 162(a)(3) and asserted the rental income should be taxed to him because it was used to satisfy his parental support obligations.
- The district court awarded a refund to the taxpayers; the United States appealed.

## Issues

1. Whether the property transfer to the children conveyed a sufficient property interest such that rental income from the property was taxable to the children rather than to the donor-parent.
2. Whether rent paid by the physician for use of office space in the transferred property was deductible as “rentals” under 26 U.S.C. § 162(a)(3).
3. Whether rental income applied to the children’s expenses was taxable to the physician on the theory that it discharged his legal duty to support his minor children.

## Decision

- The Ninth Circuit affirmed the refund judgment for the taxpayers.
- The deeded transfer was respected as an absolute, irrevocable conveyance that shifted ownership and rental income to the children for tax purposes.
- The office rent payments were deductible under § 162(a)(3) because continued use of the premises required payment of reasonable rent after the transfer.
- The rental income was not reattributed to the physician as constructive income from satisfying a support obligation on these facts and under applicable state law.

## Legal Principles

- In family gift-and-leaseback arrangements, tax consequences turn on whether the donor transferred a sufficient, genuine property interest to the donees.
- Factors relevant to whether a transfer will be respected include: (1) duration of the transfer, (2) control retained by the donor, (3) use of the property for the donor’s benefit, and (4) independence of the fiduciary administering the property.
- Where the donor no longer owns the property and must pay rent to continue using it in a trade or business, rent may be deductible under 26 U.S.C. § 162(a)(3) if it is a real payment required for continued possession or use.
- Income from transferred property is not automatically taxed to a parent merely because it benefits minor children; attribution depends on whether the payments function as satisfaction of the parent’s legal support duty under governing law and the specific expenditures made.

## Conclusion

The Ninth Circuit held that an outright deed of income-producing property to minor children, administered through a court-supervised guardianship, could shift rental income to the children and permit the donor-parent to deduct reasonable rent for continued business use of office space, where the arrangement reflected real ownership change and the children’s expenditures were not treated as mere substitutes for the parent’s minimum legal support duty.


Brooke v. United States, 468 F.2d 1155 (9th Cir. 1972)