MEMORANDUM FINDINGS OF FACT AND OPINION

IRWIN, Judge: Respondent determined a deficiency of $1,395.43 in the income tax of petitioners for the taxable year 1970. The sole issue for our determination is whether $5,985.88 of the amount petitioners reported as rental income is to be treated as a reimbursement for expenditures incurred by them on behalf of their lessee for improvements to the leasehold property and thus excludable1975 Tax Ct. Memo LEXIS 170">*171 from gross income.

FINDINGS OF FACT

Some of the facts have been stipulated and these stipulations are adopted as a part of our findings. The pertinent facts are summarized below.

Petitioners, ¹ David G. and Delores H. Satterfield, are husband and wife and resided in Clayton, N.C., during the year in issue and at the time of the filing of their petition with this Court. For the taxable year 1970 their joint Federal income tax return was timely filed with the Southeast Service Center, Chamblee, Ga. Petitioners employ the cash receipts and disbursements method of accounting.

During the taxable year 1970 David G. Satterfield was engaged as a dealer of petroleum products. In addition to the petroleum dealership, petitioners owned and leased to commercial tenants certain warehouses located in Clayton, N.C.

The above-mentioned warehouse property was purchased by petitioners in February 1968 from Central Oil and Milling Company of Clayton, N.C. At the date of purchase the property was subject to two leases which were assigned to petitioners. The lessee in both leases was Norwich Mills, 1975 Tax Ct. Memo LEXIS 170">*172 Inc. (Norwich), of Norwich, N.Y. One lease, dated September 1, 1965, covered warehouse number eight; the other, dated December 28, 1967, covered warehouse number one. There was also a third lease between petitioners and Norwich covering additional warehouse space.

On March 14, 1969, Champion Products, Inc. (Champion) acquired Norwich through a merger and Norwich became a wholly-owned subsidiary. Norwich later was liquidated and became an operating division of Champion.

In the early fall of 1969 Wayne K. Bright (Bright), Vice President of Finance of Champion, visited and inspected the warehouse facilities. He subsequently instructed William C. Dillon, Sr. (Dillon), Comptroller of Norwich, to negotiate a consolidation of the leases. In addition Dillon was directed to cause petitioners to reduce the fire hazard in warehouse number one resulting from its wooden flooring and to construct a cyclone fence around the loading ramps for additional safety. Aside from the fire hazard, Bright was also of the opinion that the flooring was in need of general repair.

Dillon then conferred with petitioner and George Kloster, the plant manager of a manufacturing plant owned by Norwich in Clayton. 1975 Tax Ct. Memo LEXIS 170">*173 As a result of this conference, petitioner agreed to consolidate the leases into one lease to commence on January 1, 1970. Petitioner also agreed to install a concrete floor in warehouse number one and to construct a cyclone fence around the loading ramps. The new lease and supplemental agreement, set forth in the margin, ² were drawn up by petitioners' attorneys.

1975 Tax Ct. Memo LEXIS 170">*174 On November 24, 1969, petitioner borrowed $6,000 from the Southern National Bank of North Carolina to pay for the improvements. The promissory note required petitioners to make 12 monthly payments of $533.10 beginning January 8, 1970, for a total of $6,397.20. In December 1969 petitioners installed the concrete floor in warehouse number one at a cost of $5,183 and constructed the cyclone fence at a cost of $802.88 for a total cost of $5,985.88.

Norwich agreed to reimburse petitioners for the cost of the improvements through increased rental payments. To accommodate the repayment of petitioners' loan, Norwich further agreed to pay a higher rent during the first year of the lease rather than spreading the increase over the three-year term of the lease. For the first year the rental payments were to be $1,935 per month; for the last two years they were to be $1,400 per month. (See lease, footnote 2, supra.)

During 1970 Norwich paid petitioners $23,220, all of which petitioners reported as rental income. ³ Petitioners, on their 1970 return, took depreciation deductions for the concrete floor and cyclone fence.

1975 Tax Ct. Memo LEXIS 170">*175 ULTIMATE FINDING OF FACT

The $5,985.88 reimbursement for the improvements made by petitioners is additional rental income includable in petitioners' gross income for 1970.

OPINION

Section 61(a)(5)⁴ provides that gross income includes any rental payments received or accrued during the taxable year. In our judgment the additional rental payments herein must be included in petitioners' gross income. Section 1.61-8, Income Tax Regs.⁵ See and compare FrankT. B. Martin,11 B.T.A. 850">11 B.T.A. 850 (1928), with Beecham, Inc. v. United States, an unreported case ( E.D. Tenn. 1973, 32 AFTR 2d 73-5916, 73-2U.S.T.C. par. 9719).

1975 Tax Ct. Memo LEXIS 170">*176 Petitioners submit that the $5,985.88 expended for improvements should be excludable from their gross income by reason of section 109⁶ and M. E. Blatt Co. v. United States,305 U.S. 267">305 U.S. 267 (1938). This argument hinges upon their contention that the improvements were in fact lessee improvements. We cannot agree. It is our opinion that the facts clearly reflect that the improvements were those of petitioners (the lessor) and not those of their lessee. The fact that the lessee agreed to reimburse petitioners for the cost of the improvements through higher rental payments does not render the improvements lessee improvements.

Furthermore, petitioners' reliance on clause 3(c) of the lease (see footnote 2, supra) is misplaced. That provision of the lease refers only to alterations1975 Tax Ct. Memo LEXIS 170">*177 and does not provide that the lessee is to make all improvements. It is our opinion that the installation of the cement floor and the construction of the cyclone fence were permanent improvements not encompassed by the term "alterations" as that term is used in the lease. We believe that the term "alterations" as used therein refers only to changes made to accommodate the particular needs of the lessee and does not include changes that are improvements of a permanent and general nature. Our view is buttressed by the fact that the lease further requires that any alterations shall be made at the expense of the lessee and shall also be restored at his expense at the termination of the lease except upon the written consent of the owner. We do not believe the cement floor and cyclone fence were intended to be "restored" in the sense used in the lease. Even assuming arguendo that the improvements were covered by clause 3(c), it still does not follow that improvements made at the expense of the lessee are the same as improvements made by the lessee. In short, petitioners have failed to overcome their burden of proving that in substance the improvements were lessee improvements, not lessor1975 Tax Ct. Memo LEXIS 170">*178 improvements.

Because of the above finding, section 109, by its very terms, is not in point. See also section 1.109-1(a), Income Tax Regs.⁷

Similarly, 305 U.S. 267">M. E. Blatt Co. v. United States,supra, is not in point as that case also involves lessee improvements, not lessor improvements. The other cases relied upon by petitioner ⁸ are also clearly distinguishable from the instant situation.

1975 Tax Ct. Memo LEXIS 170">*179 As it is our finding that the improvements were lessor improvements, not lessee improvements, even though the lessor was reimbursed, respondent must be sustained on the issue.

To reflect other adjustments,

Decision will be entered under Rule 155.