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https://www.courtlistener.com/api/rest/v3/opinions/4619713/	William A. Frease v. Commissioner.Frease v. CommissionerDocket Nos. 1936, 2573.United States Tax Court1944 Tax Ct. Memo LEXIS 177; 3 T.C.M. (CCH) 708; T.C.M. (RIA) 44235; July 19, 1944177 Albert B. Arbaugh, Esq., 1200 Harter Bank Bldg., Canton, O., for the petitioner. Cecil A. Haas, Esq., for the respondent. LEECHMemorandum Findings of Fact and Opinion LEECH, Judge: Respondent has determined deficiencies in income tax of $1,100.32, $920.21 and $778.87 for the calendar years 1937, 1938 and 1939, respectively, and penalties for 1937 and 1938 of $275.08 and $230.05, respectively. The deficiencies result from respondent's action in including in petitioner's income for those years all of the income realized in such years by a trust created by petitioner, of which he and the members of his family were beneficiaries. The penalties were imposed for failure of petitioner to file returns for 1937 and 1938. Certain of the facts were stipulated and we so find them. Additional facts hereinafter set out and not appearing in the stipulation are found upon evidence presented at the hearing. Findings of Fact During the years here involved petitioner was, and is now, a resident of Canton, Ohio, in the eighteenth collection district of Ohio. At the time of the hearing petitioner was temporarily located at Skyland, North Carolina. By the will of his father, George B. Frease, who died178 March 5, 1928, petitioner became entitled to a substantial portion of the latter's estate. On March 14, 1928 he transferred by trust indenture to the George D. Harter Bank of Canton, now the Harter Bank and Trust Company, as trustee, all of the personal property distributable to him in the administration of that estate. The value of the property so transferred in trust was in excess of $400,000. The indenture of trust executed by petitioner provided for the appointment of two co-trustees and designated Harry R. Jones and R. Verne Mitchell to perform these duties. In the case of the death or resignation of a co-trustee, provision was made for the appointment of a successor by the trustee and the remaining co-trustee, such appointment to be subject to approval by petitioner. The two co-trustees designated by the indenture of trust were acquaintances of petitioner and officers of an investment business with which petitioner had at one time been connected. The George D. Harter Bank, as trustee, was given broad powers to manage and conserve the trust estate, sales and reinvestments of trust assets to be made only upon approval by the co-trustees. Petitioner reserved the right to vote, 179 if he so desired, any stocks held as part of the trust corpus and the trustee was authorized not to file a personal property return or pay personal property taxes on the assets comprising the trust corpus, petitioner assuming such liability and responsibility himself. By the trust instrument the trustee was directed to first realize upon the transferred assets sufficient funds and pay certain specified existing debts owed by petitioner and make a cash payment of $5,000 to petitioner and, in addition, certain cash payments to designated relatives. After making the specified cash payments from the corpus of the trust estate the net yearly income from the balance of such corpus was to be distributed by the trustee to named beneficiaries. Two aunts of petitioner were to receive $500 per year each for life, together with the payment each year of one-third of the taxes on their home. Petitioner's wife was to receive $1,000 per month and each of petitioner's three children $200 per month, the balance of the yearly income to be paid to petitioner. Provision was made for the setting aside, upon the death of petitioner, of so much of the trust corpus as was necessary to produce $1,000 per 180 month income payable to petitioner's wife and the balance of the trust corpus was provided to be held in equal shares in trust for petitioner's three children, they to receive the income therefrom and the principal to be distributable to them by payments made when they arrived at the ages of 25, 30 and 35 years, the amounts so held in trust for them to be increased upon the death of their mother by that portion of the corpus set aside for her benefit. Petitioner's children were further given the right to dispose by will of their interests in the trust estate. The indenture of trust further provided, inter alia: "During the period that said Trustee is paying the net income derived from the Trust estate as above provided to my wife and to my children and to myself, the Trustee shall have power and authority, with the approval in writing of the Co-Trustees to alter and change the apportionment and division of the net income to be paid hereunder to my wife, my children and myself according to the several needs, requirements and habits of life of such beneficiaries, and said Trustee with the approval in writing of said Co-Trustees shall have authority to use from time to time portions181 of the principal of said Trust estate for the maintenance of myself and my wife, Pauline Rider Frease, and of our children and for their education should our condition and income from this Trust estate and other sources reasonably require such use of portions of the principal of the Trust estate. "The above provision shall, however, not be construed to authorize the Trustee to withhold the distribution monthly of the entire net income of the Trust estate. "The Trustee shall have power and authority subject to the approval in writing of the Co-Trustees to pay over to me from time to time portions of the principal in order to enable me to engage in business, provided that the proposed business shall seem to the Trustee and to the Co-Trustees a reasonably prudent enterprise and myself competent and fit to engage therein. * * * "This agreement and settlement is made without any right of revocation or recall unto myself, but I do reserve the right, during my life, or so long as I am competent to act, in case it should be found that this instrument is uncertain or incomplete in any respect, from time to time, to modify the terms of this settlement, but only for the purpose of defining182 or enlarging the powers of the Trustee and of the Co-Trustees for the purpose of facilitating the proper administration of the Trust estate. "Any such modification shall be by written instrument signed by me, approved in writing by the Co-Trustees and delivered to the Trustee." Coincident with the delivery of the indenture of trust by petitioner there was executed and delivered by him a modification of that indenture directing that the payments provided of $200 per month to his three children would be made by the trustee to their mother until they arrived at the age of 25 years, these funds to be used by her, in her discretion, for their support, maintenance and education, any balance not so used to be invested by her for the benefit of the respective child and paid over to it upon reaching the age of 25. At the time of the creation of the aforementioned trust, petitioner was living with his wife, Pauline Rider Frease. Of their marriage three children had been born: George B. Frease, III. April 27, 1915; Jessie R. Frease, September 11, 1917; and William A. Frease, Jr., November 8, 1921. At the time of the creation of the trust there was no marital discord in petitioner's family183 and no contemplation of divorce in connection with its creation. On October 25, 1933, differences having arisen between petitioner and his wife, Pauline Rider Frease, the latter filed suit for absolute divorce in the Court of Common Pleas of Stark County, Ohio, and on the 14th day of December 1933, was given a decree of absolute divorce by that court. In this decree, in determining the rights of plaintiff to alimony from the defendant, the court recited the provisions of the trust agreement for payment of $1,000 per month to Pauline Rider Frease and $200 per month to each of petitioner's children. It then continued with the following: "It appearing to the court that said Trust Agreement and the provisions thereof for plaintiff and said children are fair and proper, the court hereby adopts said provisions as a part of this decree and approves the same in lieu of any other finding or order of alimony payments for plaintiff or support payments for said children and orders and adjudges that plaintiff shall have said provisions so made in said Trust Agreement as and for alimony for herself and support for said children." Subsequent to the divorce of petitioner by his wife, Pauline Rider184 Frease, he remarried and during the calendar years 1937, 1938 and 1939 was living with such second wife, Dorothy Driver Frease. Of this marriage one son, Belden A. Frease, was born on October 24, 1938. In December 1936, Harry R. Jones, who was named in the trust agreement as one of the co-trustees, died and Paul B. Belden was appointed as successor co-trustee with the written approval of petitioner. On October 7, 1938, the two co-trustees, R. Verne Mitchell and Paul B. Belden, with the approval of the trustee, exercised formally in writing their power and authority under the trust agreement to change the apportionment of income among the beneficiaries and to invade the corpus for the purpose of making the payments the new apportionment provided. By the action so taken the monthly payment to petitioner's former wife, Pauline Rider Frease, was decreased from $1,000 to $500 per month and the payments of $200 per month to each of petitioner's three children were reduced to $100 per month, and the payment of $600 per month was provided to be made to petitioner. Following this, payments were made by the trustee of the monthly amounts thus provided up until July 31, 1942, the co-trustees, 185 with the approval of the trustee, having on July 28, 1942 taken action formally in writing to change the allocation of income from the trust payable to George B. Frease, III, and to Jessie Frease Benare, two of the children of petitioner and his former wife, to increase these payments to each from $100 per month, then being received, to $200 per month. This change and reallocation of income was made by the trustee and co-trustees upon the suggestion of petitioner, these two children being then married and in need of additional income due to the fact that the husband in each of the two families entered the military wervece. In the case of both of thes reallocations of income by the trustee and the co-trustees it was provided that payments specified should be made out of corpus if the yearly income was insufficient to meet them. Following the action of the trustee and co-trustees in reallocating income payable out of the trust by reducing that paid to petitioner's former wife and his three children to one-half of the amount originally specified, the income from the trust estate was insufficient for some years to meet the full payment of $600 per month to petitioner provided for and186 the corpus of the trust was invaded by the trustee to make up the insufficiency. The return by the George D. Harter Bank, as trustee, for the year 1937 discloses no payment of income from the trust to the petitioner, the return for 1938, a payment of $1,483.69 of trust income to him, and the return for 1939, payment of trust income to him of $6,049.91. For the years 1937 and 1938 the petitioner filed no returns. In each of those years his income received from all sources, including income of the trust distributed to him, amounted to less than his exemptions of $2,500. In each of the years here involved the income of the trust distributed by the trustee to petitioner's wife and three children was returned by them for taxation. At several times since petitioner's divorce from his former wife, Pauline Rider Frease, the trustee and co-trustees have made distributions of principal of the trust to petitioner or for his support. On one occasion in 1937 $1,000 was paid from corpus to the guardian of petitioner who was for a period under guardianship. On May 31, 1940, there was a payment of $1,100 by the trustee from corpus to petitioner and on July 11 of that year $12,000 of corpus was 187 used to purchase a home for petitioner at SkylandNorth Carolina, and $2,100 expended from corpus in the reconditioning of this property, At the time of the hearing the value of the trust corpus in the hands of the trustee was between $400,000 and $500,000. Petitioner executed and filed with respondent a consent extending the time for the collection of the taxes due for 1939 to a date subsequent to that upon which the deficiency was determined by respondent and petitioner duly notified. Petitioner concedes the issue raised of the statute of limitations as to the year 1939. Opinion In determining the disputed deficiencies respondent treated the trust income as taxable to petitioner under sections 22 (a) and 166 of the Revenue Acts of 1936 and 1938. Upon the hearing and on brief he advances the further contention that such income is also taxable to petitioner under section 167 of those Acts. Petitioner argues that regardless of the effect of the trust as originally created, the decree of the court in the divorce proceeding vested then in petitioner's children and divorced wife the right to $1,000 per month to the wife and $200 per month for each of the children from the income of188 the trust in full settlement for their maintenance and support. We disagree. In that decree the court either adopted all the provisions of the trust as a part of its decree or it adopted none of them and merely awarded as charges against the petitioner and payable to the divorced wife, and children, those amounts named therein "* * * in lieu of alimony". In neither event did the court by that decree attempt or intend to change any of the provisions of the trust. In fact the parties have never so construed the decree. Certainly, at least in the present situation, that is important. Estate of John Howard Helfrich et al. v. Commissioner, 143 Fed. (2d) 43, (C.C.A., 7th Cir., June 2, 1944). Subsequent to the date of the divorce decree, the trustees have not only at times distributed portions of the corpus of the trust estate to the petitioner but they have reduced by one-half the allocation to petitioner's former wife and children as contained in the original trust, and the record does not reveal any effort by the beneficiaries to oppose or prevent these actions. Passing the question of the applicability of section 22 (a), was the contested income 189 of the trust taxable to petitioner under sections 166 and 167? Neither the trustee nor either the co-trustees were holders of an adverse interest in the trust. Reinecke v. Smith, 289 U.S. 172">289 U.S. 172; Sterling Morton, 38 B.T.A. 1283">38 B.T.A. 1283; affd., 109 Fed. (2d) 47. Under the trust indenture they were given the power, within their discretion, to reallocate the amounts of income to be paid to the several beneficiaries, even, as we understand it, to the extent of paying all of the income to petitioner if requested as necessary in their judgment for his support and maintenance. They have a similar power to return corpus to him in any amount "reasonably" necessary for his maintenance and support when the income is insufficient. As to the corpus, their power goes even further. They are authorized to pay over to him an unlimited amount of the corpus to enable him "to engage in business" provided only "that the proposed business shall seem to the Trustee and to the Co-Trustees a reasonably prudent enterprise and * * [petitioner] competent and fit to engage therein". Moreover, there is no provision that the proceeds190 of such business operated by the petitioner with the funds thus returned to him by the trustee shall be for the benefit of the trust. It is significant further that the trustees as mentioned before have reallocated the income of the trust by greatly increasing the amount payable to petitioner and similarly reducing that to other beneficiaries. They have distributed portions of the corpus to the petitioner. In addition to payments from corpus for his support, the trustee distributed $1,100 of corpus to petitioner in May 1940. In July of that year, he bought and reconditioned a home for himself with $14,100 of such corpus thus obtained. The trustee recites that its purpose is "to make provision for my [petitioner's] wife, my children and myself". But petitioner, in explaining on the witness stand his purpose in creating it, made clear what we think its purpose was. He testified that "I simply wanted to safeguard my estate; protect it and have it properly managed", and there are provisions in the trust which support this testimony. Thus, one clause provides: This agreement and settlement is made without any right of revocation or recall unto myself, but I do reserve the right, during191 my life, or so long as I am competent to act, in case it should be found that this instrument is uncertain or incomplete in any respect, from time to time, to modify the terms of this settlement, but only for the purpose of defining or enlarging the powers of the Trustee and of the Co-Trustees for the purpose of facilitating the proper administration of the Trust estate. By another clause the trust expressly relieved the trustee from filing a personal property tax return or paying personal property taxes on the trust property. Petitioner assumed both these responsibilities himself. There are provisions in the trust indenture which, as is true of its purpose as stated therein, tend to support another view. But a consideration of the entire instrument, including the provisions specifically mentioned hereinabove, as well as what was actually done under the trust, leads us inevitably to the conclusion that there was no substantial limitation upon the exercise of the discretion of the trustees in paying any part or all of the income or corpus of this trust to the petitioner. It follows that such income, for the taxable years, was properly taxed to petitioner under sections 166 and 167. 192 Oleta E. Ewald, 2 T.C. 384">2 T.C. 384; Lewis Hunt Mills, 39 B.T.A. 798">39 B.T.A. 798; Commissioner v. Mary Boyd Evans, 126 Fed. (2d) 270; cert. den., 317 U.S. 638">317 U.S. 638; Sterling Morton v. Commissioner, supra; Commissioner v. Frances S. Willson, 132 Fed. (2d) 255. This holding renders moot the question of the applicability of section 22 (a). Petitioner raises as an alternative issue his right to a deduction for 1937, 1938 and 1939 of an allowance for dependency with respect to his son, William A. Frease, Jr., who became 18 years of age on November 8, 1939. He further seeks similar dependency allowances in respect to his son by his second marriage, Belden A. Frease, who was born October 24, 1938. 1With respect to the request for allowance on account of this younger son, respondent concedes that the allowance is proper for the proportionate part of 1938 and the year 1939. With respect to the allowance asked on account of his son, William A. Frease, Jr., a different condition exists. This son is not a member of petitioner's193 household. Since the divorce of petitioner from his first wife this son has been a member of her family. It is assumed that petitioner is requesting the allowance upon the theory that if the income of $100 per month, received by his former wife to be held in trust for his son, is to be treated as income of petitioner, then it must be conceded that this income is furnished by petitioner and constituted as much as 50 per cent of the cost of this son's support and maintenance. No proof, however, has been introduced as to the cost of support and maintenance of this son nor does it appear from whom he drew the major part of this cost in the taxable years. For all we are advised the greater part of the cost of his support may have been furnished by his mother who may have claimed a deduction upon that basis, to which she would have a right. We accordingly hold that the proof is insufficient to determine that the petitioner is entitled to that deduction. The only remaining question is that of the penalties proposed by respondent in 1937 and 1938, for which years petitioner filed no returns. 2 Unless the income of the trust here involved was taxable to petitioner in those years his taxable*194 income was less than the amount upon which he would have been required to file returns. The trust in question had been in existence for a number of years. The income which we now hold was taxable to him for 1937 and 1938 had been actually received and returned for tax by his wife and children. This condition had existed since the creation of the trust and such returns apparently had been accepted. We hold under these conditions that there was reasonable cause for petitioner's failure to file returns for those years. The imposition of the penalties is accordingly disapproved. Decision will be entered under Rule 50. Footnotes1. Rev. Act of 1938, sec. 25.↩2. Rev. Acts of 1936 and 1938, sec. 291.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619717/	CARL ELMER HENRY BADER, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentBader v. CommissionerDocket No. 3454-71United States Tax CourtT.C. Memo 1973-169; 1973 Tax Ct. Memo LEXIS 114; 32 T.C.M. (CCH) 813; T.C.M. (RIA) 73169; August 6, 1973, Filed Carl Elmer Henry Bader, pro se. Eugene H. Ciranni, for the respondent. HALL MEMORANDUM FINDINGS OF ACT AND OPINION HALL, Judge : Respondent determined a $175,458 deficiency in petitioner's 1966 Federal income tax. The115 issue for decision is whether Charles Weir, who transferred to petitioner approximately $290,783 in cash from various bank accounts held in joint tenancy with his wife, was mentally competent at the times of the transfers to make valid inter vivos gifts. If Charles was competent, the cash petitioner received from Charles 2 is excludible from petitioner's 1966 gross income as a gift under section 102(a). 1 On the other hand, if Charles was not competent to make a gift, the cash received is includible in petitioner's 1966 gross income under section 61(a). FINDINGS OF FACT Some of the facts have been stipulated and are so found. Petitioner resided in San Francisco, California when he filed his petition. He and his then wife, Armida S. Bader, filed a joint 1966 Federal income tax return with the district director of internal revenue at San Francisco. Petitioner was unemployed during most of 1966 and has remained unemployed since then. He has not filed either Federal or State income tax returns since 1966. Charles and Juliana Weir (hereinafter "Charles" and116 "Juliana"), husband and wife, were friends of petitioner, unrelated to him by either blood or marriage. In 1966 Charles was 74 years old and Juliana was 59 years old. In the latter part of 1966, Charles transferred to petitioner $290,783 in cash from various bank accounts which he held in joint tenancy with Juliana. Charles 3 and Juliana did not file a 1966 Federal gift tax return. Charles has had poor mental health for many years. In the summer of 1947 he had had an abrupt onset of loss of memory, and was unable to recall his name, address, home telephone number or his wife's name. In March 1948 he suffered a memory loss similar to that suffered in 1947. The doctor who treated Charles from September 1966 until April 1967 diagnosed his primary problem as arteriosclerotic cerebrovascular disease. That doctor reported that Charles could not be expected to become rational again and was incompetent to manage his own affairs. In April 1967 Charles was suffering from senile psychosis. He required 24 hour a day supervision, could not recognize his wife or his doctor, could not remember where he lived and was in a continual state of mental confusion. Charles was incompetent117 when he made the cash transfers to petitioner in 1966. Juliana was also mentally incompetent in 1966. Sometime in 1961 she ceased to be able to read or write. Her disabilities markedly increased in 1963. Sometime in 1966 she lost her power of speech. On October 7, 1966, she was suffering from a general mental deterioration and was unable to perform bodily functions or feed herself. The doctor who treated her from September 1966 to April 1967 diagnosed her condition as presenile sclerosis and considered her 4 incompetent to manage her affairs. Sometime in 1966, petitioner introduced Charles and Juliana to his attorney for the purpose of preparing their wills. On August 19, 1966, their wills were prepared and executed. Each will provided that upon the death of the testator, his or her estate was to be held in trust for the benefit of his or her spouse, and upon the death of the spouse (or if or she predeceased the testator), all remaining property was to pass to petitioner and his mother. Petitioner was named executor and his mother was named successor executrix. Juliana, who had once been literate, signed her will, not with her signature, but with an "X." On March 3, 1967, petitioner118 petitioned the San Francisco Superior Court to be appointed conservator of the person and estate of Charles, alleging that Charles was "unable to properly care for himself or for his property." In his petition, petitioner estimated the value of Charles' estate to be $281,421.05. On March 23, 1967, the court appointed petitioner conservator of Charles' person and estate. At approximately the same time, petitioner was also appointed conservator of Juliana's person and estate. On December 6, 1967, the court suspended petitioner's powers to act as conservator of Charles' and Juliana's persons and estates. The record does not indicate 5 the reason for such suspension. Thereafter, one of Juliana's relatives was appointed successor conservator to both estates. Charles died on February 12, 1968. Shortly thereafter, Juliana's relatives instituted four legal actions against petitioner. The first two were objections to the conservator's (petitioner's) second and final accountings and amendments thereto for Charles' and Juliana's estates. The third contested Charles' will and opposed petitioner's offer for probate of that purported will. The final legal action sought the return119 of all property transferred by Charles to petitioner during and after 1966. The complaint in this latter suit alleged that Charles and Juliana were "ill, infirm, imcompetent and incapable of managing" their affairs, and that petitioner obtained the assets by fraud, deceit, undue influence, breach of confidential relationship or false representations. Charles' physician filed a declaration in this action wherein he stated that in his opinion, Charles Weir from and after at least July 1966 was by reason of disease and weakness of mind and other causes unable, unassisted properly to take care of himself and his property and by reason thereof was likely to be deceived or imposed upon by artful or designing persons. All these matters were settled in 1969 pursuant to an Agreement whereby petitioner, among other things, agreed to return 6 all the assets which Charles had transferred to him which were located in the United States ($77,611) and was permitted to retain all such assets which were located in Mexico. In addition, petitioner and his mother assigned to Juliana's heirs their rights, interests and expectancies under the wills of Charles and Juliana.In his joint 1966 Federal120 income tax return, petitioner reported gross income of $5,082, consisting of $3,248 wages and $1,834 interest. In the notice of deficiency, respondent determined that during 1966 petitioner had received $290,783 in cash from Charles, and that such funds were includible in petitioner's 1966 gross income under section 61(a). OPINION Petitioner contends that Charles was mentally competent to make gifts in 1966 when Charles gave him approximately $290,783 in cash, and that such gifts are excludible from his 1966 gross income under section 102(a). Respondent, on the other hand, contends that Charles was not mentally competent to make gifts when he transferred the cash to petitioner, and that the cash acquired by petitioner is income within the meaning of section 61(a). We agree with respondent. Section 102(a) excludes from gross income "the value of property acquired by gift." One of the essential elements of a bona fide gift inter vivos is the donor's competency to make the gift. ; , affirmed (C.A. 5, 1936), certiorari denied .121 Petitioner, while contending that Charles was legally competent to make valid inter vivos gifts, nevertheless stipulated to documentary evidence which indicated that the time of the transfers Charles was mentally incompetent. Moreover, statements submitted by several of Charles' friends, although laymen and not medical experts, support the finding that Charles was senile and of unsound mind in 1966. One friend, who worked with Charles as a stockbroker from 1928 to 1963, estimated that Charles' mental aberration began in 1960, at which time he became confused and disoriented. Charles was asked to resign as a stockbroker in 1963 due to his general mental condition. In early 1967 petitioner had himself appointed conservator of Charles' person and estate. In his petition for such appointment, petitioner declared that Charles was "unable to properly care for himself or for his property." In accordance with petitioner's petition, the court appointed him conservator of Charles' person and estate on March 23, 1967. In addition to the stipulated documentary evidence, petitioner testified that Charles "was senile." 8 We conclude that at the time of the transfers of cash by122 Charles to petitioner, Charles was mentally incompetent and lacked the essential mental capacity to make valid inter vivos gifts. Consequently, the cash petitioner received from Charles in 1966 was not excludible from petitioner's 1966 gross income as "property acquired by gift" under section 102(a). On the contrary, the approximately $290,783 cash received by petitioner is includible in his 1966 gross income under section 61(a) because it was within his complete dominion and control at all times after the transfers. In 1969, pursuant to the legal actions instituted in 1968 against petitioner by Juliana's relatives, petitioner entered into an Agreement with Juliana's relatives whereby the parties agreed that petitioner would retain all of Charles' assets which he had transferred to Mexico and would transfer to Juliana's relatives all the assets which still remained in the United States, and petitioner would assign to Juliana's relatives all his rights, interests and expectancies under Charles' and Juliana's wills. The value of the assets returned in 1969 was $77,611. The fact that petitioner in 1969 had to give up part of the property which*123 he had received from Charles in 1966 does not preclude the inclusion in his 1966 gross income of the entire amount received in 1966 which continued in his unfettered 9 dominion and control during 1966. The money was originally received under a claim of right.The fact the claim eventually proved unfounded does not preclude taxability in the year of receipt. . 2Decision will be entered for respondent. Footnotes1. All section references are to the Internal Revenue Code of 1954, as in effect during the year in issue. ↩2. Petitioner may be entitled to a refund for 1969 under the provisions of section 1341(b) (1). ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619718/	VICTORIA BALSAMO, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentBalsamo v. CommissionerDocket No. 16491-84.United States Tax CourtT.C. Memo 1987-477; 1987 Tax Ct. Memo LEXIS 473; 54 T.C.M. (CCH) 608; T.C.M. (RIA) 87477; September 21, 1987. Louis Morowitz, for the petitioner. Robert L. Schneps, Catherine R. Chastanet, for the respondent. CLAPPMEMORANDUM FINDINGS OF FACT AND OPINION CLAPP, Judge: Respondent determined474 a deficiency of $ 8,041.35 and an addition to the tax in the amount of $ 402.07 pursuant to section 6653(a)(1)1 for the taxable year ending December 31, 1980. After concessions, the issues for our decision are: 1) the proper basis for computing the amount of gain or loss sustained on the sale of property acquired from a decedent's estate; 2) whether the gain or loss sustained was capital or ordinary and; 3) whether petitioner is subject to an addition to tax for negligence under section 6653(a)(1). 2FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts and exhibits attached thereto are incorporated by this reference. Victoria Blasamo ("petitioner") was a resident of Brooklyn, New York at the time of filing her petition. The subject matter475 and the primary focus of the issues in this case is a single family residence ("premises") located in Syosset, New York, purchased by petitioner's late husband, Louis Balsamo ("Balsamo") on or about August 27, 1965. Petitioner married Balsamo on August 1, 1976. It was his second marriage. Petitioner and Balsamo entered into a pre-nuptial agreement on July 8, 1976, pursuant to which petitioner waived all claims to and rights in any/all real and personal property acquired by Balsamo prior to July 31, 1976, and all rights with respect to the election to take against any share of the estate of Angela Balsamo, Balsamo's ex-wife. On January 27, 1977, five months after his marriage to petitioner, Balsamo died. In June of 1977, petitioner commenced litigation regarding the validity of the pre-nuptial agreement. Prior to the challenge by petitioner, but after the death of Balsamo, the premises was rented by Balsamo's estate to Andrew Economopoulos ("Economopoulos"), pursuant to a month-to-month oral agreement at $ 500 per month. Before then, the property had been used by Balsamo as his residence following his divorce. When he remarried, it was used by Balsamo and petitioner as a week-end476 retreat. Balsamo never rented the premises during his life time. On May 9, 1979, petitioner's action against the estate was settled by stipulation. Petitioner received the following in satisfaction of her right of election: 1. The premises, subject to an existing first mortgage held by Chase Manhattan Bank; 2. Escrow Account at Chase Manhattan Bank in the amount of $ 2,163.00 as of May 31, 1980; and 3. $ 30,000.00. On March 11, 1980, the executrix of Balsamo's estate "conveyed" the above to petitioner. The first mortgage held by Chase Manhattan Bank was in the principal amount of $ 17,979.61 as of April 2, 1980. The deed was recorded on April 23, 1980. Petitioner incurred legal fees of $ 33,780.00 in connection with the proceedings. Petitioner, soon after receiving the premises, entered into a formal contract of sale with Economopoulos and sold the premises on June 14, 1980. Pursuant to that contract, Economopoulos paid $ 65,000.00 cash and assumed the outstanding first mortgage in the principal amount of $ 17,000.00 for a gross sales price of $ 82,000.00. The fair market value of the premises on the date of Balsamo's death was $ 75,000.00. Petitioner was477 a securities salesperson and a secretary by occupation, and, other than the premises in question, was involved in real estate only to the extent that she cared for and maintained the home of her elderly parents. During her period of ownership petitioner visited the premises once. Economopoulos did not contact petitioner to make any repairs. Petitioner's personal residence was located 60 miles away, in Brooklyn. Petitioner paid taxes of $ 1,112.24 and interest of $ 207.86 in connection with the premises during 1980. Petitioner received gross rental income of $ 716.67 from the rental of the premises during 1980, $ 500 for the month of May and $ 216.67 for the June rental period before the sale of Economopoulos. 3In reporting the sale of her premises on her 1980 income tax return, petitioner claimed a cost basis in the property of $ 102,169.64 computed as follows: Date of death value assigned premises$ 75,000.00Legal fees related to acquiring title28,015.52$ 103,015.52Less: depreciation for 1980845.88Basis claimed by petitioner$ 102,169.64478 Petitioner allocated the legal fees to the items received pursuant to the Surrogate Court proceedings and settlement in the following manner: a) Cash$ 30,000.00Less: Mortgage on Premises17,678.00$ 12,321b) Escrow Funds3,111c) Premises75,000TOTAL$ 90,432TOTAL LEGAL FEES$ 33,780Legal fees allocated to Cash=(12,321 x 33,780) = $ 4,60290,432Escrow Funds=( 3,111 x 33,780) = $ 1,16290,432Premises=(75,000 x 33,780) = $ 28,01590,432Petitioner's depreciation deduction of $ 845.88 for tax year 1980 was calculated under the straight-line method of depreciation over 25 years. 4 Based on the foregoing and as a result of the 1980 sale of the premises for $ 82,000.00, petitioner reported an ordinary loss on her 1980 tax return of $ 20,169.64. ULTIMATE FINDINGS OF FACT Petitioner's cost basis in the land devised to her by Balsamo was $ 96,598.00, $ 75,000.00 under Section 1014479 and $ 21,598.00 in legal fees relating to the premises, and properly allocable thereto. Petitioner suffered a capital loss of $ 14,598 from the sale of investment property. Petitioner's allocation of the legal fees was not due to a negligent or intentional disregard of the rules and regulations under section 6653(a). OPINION 1. Petitioner's Basis on Sale of the Premises.Where a taxpayer acquires property from a decedent's estate, the basis of the property is generally the fair market value at the date of the decedent's death. Sec. 1014(a)(1). Petitioner and respondent have stipulated that the fair market value of the premises at the time of Balsamo's death was $ 75,000.00. Petitioner and respondent differ in their determination of whether one who receives encumbered property from a decedent's estate may properly include the amount of the encumbrance plus the date of death value of the property in one's basis for tax purposes. Petitioner asserts on brief that she is entitled to increase her basis by the outstanding amount of the first mortgage subject to which she took480 the premises. Respondent contends that petitioner may not increase her adjusted basis of the premises by the amount of the first mortgage, since that amount is already reflected in the agreed fair market value. This question has been awarded by the Supreme Court in Crane v. Commissioner,331 U.S. 1">331 U.S. 1 (1947). The Court in Crane determined that the basis of property received from a decedent's estate was the value of the property undiminished by the mortgage. In Vaira V. Commissioner,52 T.C. 986">52 T.C. 986, 996 (1969), revd. on other grounds, 444 F.2d 770">444 F.2d 770 (3d Cir. 1971), we noted that this conclusion accorded with the legislative purpose underlying section 1014 and its predecessor - "a purpose to prevent the imposition of an income tax on that part of the inheritance which represented appreciation in value while the property was in the hands of the decedent but to expose to income tax any increment in value represented by post-death appreciation." Petitioner's position combining the date of death value plus the amount of the mortgage would insulate some of the post death appreciation from taxation. We therefore agree with respondent and481 conclude that petitioner's basis as derived from Balsamo's estate was $ 75,000.00. We must next determine the portion of petitioner's legal fees allocable to the premises. In the present case, petitioner allocated the legal fees among the items received, i.e., the net cash and premises, and presented her position on brief as follows: The cash received by the petitioner consisted of $ 30,000.00 in addition to the funds in an escrow account at Chase Manhattan Bank in the amount of $ 3,110.85, and the petitioner was obligated to pay a debt of the decedent, Louis Balsamo, to Chase Manhattan Bank in the amount of $ 17,678.83 which debt was secured by a mortgage on the real property received by petitioner, for a net cash distribution of $ 15,432.02. Respondent asserts that petitioner failed to properly allocate the fees among the various items received. Specifically, he contends that the mortgage liability represented an encumbrance on the premises, is therefore related to the premises, and should reduce the net equity value of the premises, not the cash, for purposes of making the allocation. We agree with respondent. Respondent cites Spector v. Commissioner,71 T.C. 1017">71 T.C. 1017 (1979),482 revd. on other grounds 641 F.2d 376">641 F.2d 376 (5th Cir. 1981), as authority for the proper allocation of legal fees among assets received in a settlement. In Spector, the taxpayer incurred legal fees in connection with a divorce settlement and received stock, cash and real estate. We held that the legal fees should be "allocated pro rata among the properties and cash received, in accordance with their relative values." 71 T.C. at 1027. Petitioner contends that in determining "value" for allocation purposes, the Spector case was referring to value as defined by the Supreme Court in the case of Crane v. Commissioner, supra. In Crane, the Court rejected the definition of "value" and meaning "equity," and held that value for the purpose of determining basis of a property acquired from a decedent or a decedent's estate was the value of the property at the date of death, undiminished by the mortgage thereon. Therefore, petitioner argues, her discharge of the mortgage indebtedness did not result in any increase of basis in the premises but did result483 in a decrease in the amount of cash she received. Crane, however, dealt with a different issue, basis of property. For the purposes of allocating legal fees to the assets received in a settlement, the proper measure is the net value of the various assets received. In this case, the "value" of petitioner's premises is her "equity" in the property. Petitioner received the premises subject to the mortgage, and Economopoulos assumed the mortgage under the contract of sale. The encumbrance related to the premises for all relevant periods. Accordingly, we find that the proper allocation of legal fees is as follows: 5Cash$ 30,000.00Escrow Funds2,163.00Premises$ 75,000.00Less: Mortgage on Premises17,979.0057,021.00Total$ 89,184.00Total Legal Fees$ 33,780.00Legal fees allocated to Cash: (30,000/89,184 x 33,780) = $ 11,363 Legal fees allocated to Escrow Funds: (2,163/89,184 x 33,780) = $ 819 Legal484 fees allocated to Premises: (57,021/89,184 x 33,780) = $ 21,598 Petitioner's basis in the premises is therefore $ 96,598.00; $ 75,000.00 under section 1014, plus legal fees of $ 21,598.00 relating to the premises, and properly allocated thereto. Petitioner sold the premises for $ 82,000.00, including the amount of the mortgage liability assumed by Economopoulos, Crane v. Commissioner, supra. Her loss is $ 14,598.00 ($ 96,958 - $ 82,000). 2. Character of Petitioner's LossOn her 1980 tax return with respect to the premises, petitioner climbed an ordinary loss from the sale of real property used in a trade or business and held for more than one year. Section 1231(b)(1) provides, in part, that the term "property used in a trade or business" means real property used in a trade or business held for more than one year, other than four categories of property not applicable here. Both petitioner and respondent agree that she is deemed to have held the property for more than one year. 6485 Petitioner contends that the premises were property used in a trade or business following the historical position of this Court that the rental of even a single piece of improved real property constitutes a trade or business. Curphey v. Commissioner,73 T.C. 766">73 T.C. 766 (1980); Elek v. Commissioner,30 T.C. 731">30 T.C. 731 (1958); Lagreide v. Commissioner,23 T.C. 508">23 T.C. 508 (1954); Noble v. Commissioner,7 T.C. 960">7 T.C. 960 (1946); Hazard v. Commissioner,7 T.C. 372">7 T.C. 372 (1946). Respondent argues that the Second Circuit uses a facts and circumstances approach to determine this precise issue and that this Court in Curphey adopts a facts and circumstances test which changed our long-standing position. Neither petitioner nor respondent correctly states this Court's applicable legal standard. Our historical position that rental of one property constitutes a trade or business establishes a general not an absolute rule. See Fegan v. Commissioner,71 T.C. 791">71 T.C. 791, 814 (1979), affd. without published opinion (10th Cir. 1981), 486 wherein we referred to "our longstanding definition of 'trade or business' as including under appropriate circumstances the rental of one property" (emphasis added). Our opinion in Curphey v. Commissioner, supra, relied upon by respondent did not turn a general rule into an open-ended facts and circumstances test in every situation. Our discussion of matter-of-law standards therein specifically referred to section 280A. See 73 T.C. at 774. We did no more than suggest that there may be more flexibility in applying the general rule in the context of that section. In any case, this Court's position is not controlling for purposes of our decision today. We must decide this issue pursuant to the law as articulated by the Second Circuit. Golsen v. Commissioner,54 T.C. 742">54 T.C. 742 (1970), affd. 445 F.2d 985">445 F.2d 985 (10th Cir. 1971). The case of Grier v. United States,120 F. Supp. 395">120 F. Supp. 395 (D. Conn. 1954), affd. per curiam 218 F.2d 603">218 F.2d 603 (2d Cir. 1955), provides the basis for our conclusion. In Grier, the taxpayer rented a single family house received by inheritance to the same tenant for a period487 of 14 years, prior to selling the property. The tenant was renting the premises even before the taxpayer inherited the property. The taxpayer provided, either by himself or through an agent, the necessary repairs and maintenance to upkeep the premises. The court determined that the rental property was not property used in the taxpayer's trade or business, citing his minimal activities with respect to the house as compared to he length of his ownership, the lack of activity to rent or re-rent, and the absence of employees hired to regularly maintain or repair the premises. The court found a lack of a "regular and continuous activity of management" under a facts and circumstances analysis. 120 F. Supp. at 398. Therefore, it was held that the loss from the sale of the premises was a capital loss. The facts of this case are likewise not favorable to a finding that petitioner used the premises in a trade or business. Petitioner owned the premises for a very short period. Based on the incomplete and disjointed record before us, it appears that petitioner's principal activity with respect to the premises was to negotiate and carry out its sale. Petitioner's activities488 with respect to the premises as rental property were almost non existent. Petitioner testified that the lessee, Economopoulos, pointed out to her a dead rat, a bee's nest, and several leaks during her single visit, yet petitioner presented no evidence that she attempted to remedy these problems during her period of ownership. Petitioner testified that her brother-in-law performed various repairs on the premises on two separate occasions. However, Economopoulos, a credible and disinterested witness, had no recollection of such visits, nor could petitioner produce a paid receipt for his services. She also did not deduct these expenses. She took the premises subject to the lease and let the status quo continue during her period of ownership. The foregoing would indicate that petitioner did not perceive the property as rental property, but as investment property shortly to be sold to Economopoulos. As we view the facts of this case, revealed by the particular record before us, we conclude that petitioner's ownership of the premises in question did not constitute a trade or business and that she did no more than hold such premises for investment. The loss sustained by her is a capital489 loss. 3. Negligence Addition Under Section 6653(a)Section 6653(a) provides for an addition to tax if "any part of the underpayment * * * of any income * * * is due to negligence or intentional disregard of rules or regulations." Petitioner bears the burden of proving that respondent's addition to tax of $ 402.07 should not apply. Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Rule 142(a). Respondent's only argument is that petitioner presented no evidence and cited no authority which would explain the allocation of the legal fees between the net cash received and the premises. Petitioner contends that her allocation was not a negligent or intentional disregard of the rules or regulations, but a proper allocation based on her interpretation of the law. Respondent and petitioner agree, however, that the negligence addition should not be imposed where there is an honest difference between the parties with respect to a justifiable position. Based on the facts before us, we find that petitioner should not be liable for the addition to tax. Little authority exists*490 on which to base any solid legal position concerning the proper allocation of legal fees. Petitioner's position, while not upheld by this Court, is not so unjustifiable as to be subject to this addition to tax. Decision will be entered under Rule 155.Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954, as amended and in effect for the year in issue, and all rule references are to the Tax Court Rules of Practice and Procedures. ↩2. Petitioner's income (loss) from the rental of the premises and her allowable deduction for medical and dental expenses will be computed under Rule 155.↩3. It is unclear from the record whether petitioner received any rental income in March or April of 1980. ↩4. It is unclear from the record why petitioner calculated her depreciation based on a three-month period of ownership but reported only one and a half months rental income. ↩5. The amounts used for calculating the legal fees allocated to the premises are the amounts stipulated to by the parties. ↩6. As the premises in question was clearly "subject to the allowance for depreciation" and "real property," we need not review these facts for purposes of section 1231↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619722/	SCIENTIFIC MEASUREMENT SYSTEMS I, LTD., MICHAEL H. HOGAN, TAX MATTERS PARTNER, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentScientific Measurement Systems I, Ltd. v. CommissionerDocket No. 8068-89United States Tax CourtT.C. Memo 1991-69; 1991 Tax Ct. Memo LEXIS 102; 61 T.C.M. (CCH) 1951; T.C.M. (RIA) 91069; February 26, 1991, Filed 102 Decision will be entered for the respondent. Michael H. Hogan, pro se. C. Joseph Craven, for the respondent. WRIGHT, Judge. WRIGHTMEMORANDUM FINDINGS OF FACT AND OPINION By Notice of Final Partnership Administrative Adjustment (FPAA) dated January 23, 1989, respondent made a $ 1,094,183 adjustment to the Scientific Measurement Systems I, Ltd. (the Partnership), partnership return for taxable year 1982, and a $ 2,983 adjustment to the partnership return for taxable year 1983. The issues for decision are: (1) Whether Scientific Measurement Systems I, Ltd., a Texas limited partnership, is entitled to deduct certain research and experimental expenditures under section 174, 1 and, if so, (2) whether the Partnership's $ 520,125 note payable for research and experimental expenditures represented a fixed obligation entitling the Partnership to a deduction of the full amount of the note in 1982. 103 FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. The stipulation of facts and accompanying exhibits are incorporated herein by this reference. At the time the petition was filed in this case, Michael H. Hogan, the tax matters partner, resided in Austin, Texas. Scientific Measurement Systems I, Ltd., a Texas limited partnership, had its principal place of business in Austin, Texas, and filed its Form 1065, U.S. Partnership Return of Income, for taxable years ending December 31, 1982 and 1983, at the Internal Revenue Service Center in Austin, Texas. Background of Limited Partnership and Research ContractorThe Partnership consisted of nine limited partners and one general partner. The Partnership was formed to finance research and development activities in computerized industrial tomography (CIT) and develop an advanced CIT scanner system of commercial value to various industries. The CIT scanner system would produce a tomogram of the interior of materials such as metal, wood, concrete, plastic, and ceramic. A tomogram is a cross-sectional display of an object's interior that can be used to detect and measure its internal characteristics104 without touching or damaging it. The CIT scanner is analogous to the "C.A.T. Scanner" used to perform nonsurgical medical examinations. The CIT scanner system would enable manufacturers to determine internal characteristics and location of hidden product flaws in a wide range of materials. Nondestructive tomographic inspection of metal and plastic parts for aircraft and ships, rocket motors, orbital and exploratory satellites, underwater structures, pipes, and castings could be performed on line during manufacture. Inspection of steel pipe used in particularly critical applications such as national defense, offshore oil drilling, and other high pressure installations could also be performed by the CIT scanner. Capitol Asset Management, Inc. (CAM), served as the Partnership's sole general partner from December 1982 through February 1987. CAM, a Texas corporation, was formed on May 6, 1982, by R. T. Pinchback, its incorporator and chief executive officer. Paul Turton, a marketing executive, served as CAM's president. CAM's primary business activity consisted of obtaining venture capital, business formation, and consulting. At some point in 1982, representatives from Scientific105 Measurement Systems, Inc. (SMS), a Texas corporation, contacted CAM in an effort to locate additional venture capital for the development of CIT technology. Since its formation in 1979, SMS had been engaged in the business of researching, developing, manufacturing, and marketing CIT systems. Dr. Ira Lon Morgan was the founder, president, and director of research and development for SMS. Dr. Morgan held several patents in the field of x-ray tomography. By 1982, SMS had developed, manufactured, and delivered a CIT scanner system capable of nondestructive testing and analysis of concrete and steel structures which were stabilized or positioned for use in the field. However, in 1982, SMS desired to expand the capability of the scanner system to the inspection of hot steel pipe as it moved along the production line at a steel mill. In February 1982, SMS contracted with a market research firm to evaluate the market potential for production line scanner systems. The market study results were encouraging and SMS determined that it needed additional venture capital to pursue the development of the advanced CIT system. At this juncture, SMS representatives contacted and enlisted CAM106 to seek investors willing to finance the research and development of the production line scanner system. CAM and SMS representatives formulated a plan that would enable SMS to move forward with the development and marketing of the new technology. The plan involved securing funds for research and development by inviting a limited number of sophisticated investors to organize themselves into a limited partnership under the Texas Uniform Limited Partnership Act. Pinchback and Turton, officers of CAM, attracted nine limited partners through the issuance of the Advisory Summary of Scientific Measurement Systems I, Ltd. (Advisory Summary), and the Private Offering Memorandum for Scientific Measurement Systems I, Ltd. The Advisory SummaryThe Advisory Summary, dated October 31, 1982, was drafted by Pinchback and Turton. The purpose of the Advisory Summary was to summarize the Partnership's business in advance of the Private Offering Memorandum to be issued in November 1982. The Advisory Summary stated that the Partnership would finance the research and development to be performed by SMS. SMS would research, develop, manufacture, and market the CIT pipe scanner. The Advisory 107 Summary provided that upon completion of the research and development contract, the Partnership would transfer exclusive rights for the technology to SMS. In exchange, the Partnership would receive royalties from SMS based on a percentage of the gross sales of CIT products by SMS. The Advisory Summary noted that SMS had previously contracted for a market study concerning the advanced scanner system and the results were available for investor review at SMS headquarters. The document also stated that SMS planned to continue adding employees to manufacture and market the CIT scanner system. The Advisory Summary further indicated that CAM, the Partnership's general partner, may provide consulting services to SMS from time to time. The Advisory Summary addressed the tax aspects of the Partnership and stated that "the use of Research and Development Limited Partnerships to finance technology development is a relatively new investment vehicle." It noted that Federal tax law relating to research and development limited partnerships may undergo further change or refinement. According to the Advisory Summary, the general partner believed that favorable tax benefits would inure to the 108 limited partners in the form of a sizeable front-end research and development deduction and long-term capital gain treatment for royalty income. The Sessi LetterThe tax aspects of the Partnership's formation and operation were reviewed by W. A. Sessi, an employee of the accounting firm Arthur Anderson & Co. Sessi based his review on the Advisory Summary, partnership agreement, and representations made by the general partner, CAM. The review letter sent from Sessi to CAM (the Sessi letter) reiterated that SMS would perform the research and development work for the Partnership and the Partnership intended to provide an accelerated deduction to its limited partners. The Sessi letter stated that upon completion of the research and development contract by SMS, the Partnership would transfer exclusive rights for the technology to SMS under a technology license agreement and receive royalties in return. Sessi opined that royalty income received by the Partnership from the exclusive license would likely be treated as long-term capital gain income pursuant to section 1235 (transfer of substantial rights in a patent) or section 1221 (qualifying as a capital asset). The following 109 statement appeared under the "Taxation of Royalty Income" heading in the Sessi letter: Section 1221 defines capital assets to mean property other than inventory or assets held for sale in the ordinary course of business. Since this is a one-time transfer, the technology sold to SMS should not be viewed as property held for sale in the ordinary course of business. * * * It could be argued that the technology is not being held for use in a trade or business, since the Partnership is only going to collect royalty income therefrom. [Emphasis added.]The Sessi letter, dated November 17, 1982, was attached to the package of information supplied to each person solicited to become a limited partner in the Partnership. Each person solicited to become a limited partner in the Partnership also received a Private Offering Memorandum (POM). The Private Offering MemorandumThe Partnership's attorney, Jack Ledbetter, drafted the POM. The POM provided a more detailed description of the business plan set forth in the Advisory Summary. Under the "Allocation of Contributed Funds" heading in the POM the Partnership expected to secure $ 1,250,000 in capital contributions from110 investor/partners. Approximately 91.8 percent of capital contributions ($ 1,147,500 of $ 1,250,000) were to be paid to SMS under the research and development contract. Expenditures totaling $ 87,500 were designated for syndication commissions and management organization fees. The remaining $ 15,000, 1.2 percent of the total capital contribution, was allocated to accounting and legal fees, filing fees, and reserves. The POM and the Limited Partnership Agreement stated that after the initial capital contribution described above, "no additional capital contributions are contemplated and no Limited Partner shall have any personal obligation for additional contributions." The "Investment Program Summary" section of the POM stated that initial cash contributions to the Partnership should be made by December 20, 1982. However, the general partner was authorized to accept contributions and admit investors through December 27, 1982. After receipt of the necessary capital contributions, but no later than December 30, 1982, the Partnership would be formed and a research and development agreement would be executed between the Partnership and SMS. Contemporaneously with the Partnership111 formation and SMS research agreement, $ 1,147,500 would be paid to SMS to finance the research and development work. Under the heading "Marketing the CIT Steel Pipe Scanner Systems," the POM stated that "SMS will finance, manage and operate the marketing, sales, field service, and manufacturing operations." It also noted that SMS planned to recruit professional employee sales representatives from the steel industry. The POM provided that all expenses for the development of the commercial product and determining its marketability would be borne by SMS. The general partner, however, would assist SMS in developing a marketing strategy. The Research and Development Agreement (R&D Agreement) between the Partnership and SMS required that SMS prepare and file U.S. patent applications. The Partnership would own the patent rights to the process or product. If a patent appeared probable or a commercially feasible product was developed, the POM stated that SMS would have the exclusive right and option to acquire an exclusive license to market the product for a period not less than the life of the patent. It also provided that "this right shall be the equivalent to a complete conveyance112 of all patent rights." If SMS failed to exercise its option, the Partnership could sell or grant a license to a third party. The Advisory Summary, Sessi letter, and POM reflect that CAM representatives, Pinchback and Turton, intended and expected that SMS would develop the technology and thereafter have the exclusive right to use, manufacture, market, sell, and lease the product employing the technology. Taxable Years 1982 and 1983The Partnership was formed in late December 1982. Actual capital contributions made to the Partnership totaled $ 1,196,000. On December 30, 1982, the Partnership executed the R&D Agreement with SMS. Dr. Morgan, as president of SMS, executed the R&D Agreement on behalf of SMS. Contemporaneously with the execution of the R&D Agreement, the Partnership paid SMS $ 1,094,183 to perform the research and development work. The R&D Agreement had a one-year term beginning December 31, 1982, and ending December 31, 1983. The actual performance of the research and development work extended into taxable year 1984. Under the agreement, SMS had to purchase its own equipment, tools, and supplies but retained ownership of the items purchased. SMS was also113 responsible for preparing and filing U.S. patent applications. The Partnership would own the property rights to all inventions materializing under the R&D Agreement. The R&D Agreement required SMS to use its best efforts in the performance of the research, experimentation, and development activities. In addition, SMS was required to provide the Partnership with quarterly progress reports summarizing the status of the research and development program. During the term of the research and development work, Turton met with SMS representatives on a monthly basis to discuss the progress of any technical developments and to review marketing strategy for the CIT scanner system. Turton did not exercise control over SMS's performance of the research and development work but did remain informed of any progress. In taxable years 1982 and 1983, the Partnership's activity was limited to the general partner's involvement in raising the necessary capital and assistance in the development of SMS's marketing strategy. The U.S. Partnership Return of Income, Form 1065, disclosed the following income and deductions for taxable years 1982 and 1983: Revenues19821983Interest Income$ 1,698 $ 33,235 ExpensesR&D Expense$ 1,094,183 Amortization ofOrganization Costs374 4,488 Accounting and Legal Fees3,000 946 Management Fees-CAM/GP5,975 4,064 Administrative andMiscellaneous Expense473 Interest Expense31,272 ORDINARY LOSS($ 1,101,834)($ 8,008)114 The Partnership had a$ 4,498 cash balance at the end of 1982 and a $ 678 cash balance at the end of 1983. During 1982 and 1983, the Partnership spent no money on salaries, advertising, office equipment, utilities, rent, or supplies. The General Partner's Annual Report for 1983 disclosed limited activity by the Partnership and primarily focused on the activities of SMS. The annual report noted that SMS had hired a sales manager to direct its marketing program. The report also stated that SMS was working with the Iron & Steel Institute in Washington, D.C., in an effort to persuade the Institute to finance the first installation of the CIT scanner system in a domestic steel mill. Taxable Years 1984 through 1988In March 1984, SMS completed the research and development work. On April 1, 1984, the Partnership and SMS entered an agreement referred to as the "Exclusive License Agreement with Prior Evaluation Period" (Exclusive License Agreement). The Exclusive License Agreement stated that the Partnership as licensor desired to exploit and commercialize its CIT invention and patent worldwide. The agreement stated that SMS, the licensee, engaged in the business of exploiting115 and commercializing CIT inventions, and desired to evaluate, manufacture, and market the CIT scanner system. The agreement granted SMS one year to test and evaluate the CIT invention. If SMS determined that the CIT invention was commercially marketable, it had the exclusive right and option to acquire the right and title to and interest in the invention including an exclusive license in all patents and patent rights. If SMS exercised the exclusive license option, it would have the exclusive worldwide right to manufacture, commercialize, and exploit the CIT invention. In consideration for the exclusive license, SMS would pay royalties to the Partnership based on gross revenues from any product developed by SMS as a result of the Partnership R&D Agreement. The Partnership could elect to receive shares of SMS common stock as substitute consideration for royalty payments. During taxable years 1984 and 1985, the Partnership was engaged in virtually no business activity except the occasional marketing assistance provided by Turton to SMS. In 1984 and 1985, Turton served on the SMS board of directors in addition to his position with CAM. In the fall of 1986, Turton accepted a position116 with SMS as a marketing executive. At some point in 1985 or 1986, Turton requested that the limited partners contribute additional capital to finance the first installation of the new CIT technology. The Partnership and its partners were financially unable to contribute the additional funds needed to finance the first installation. During 1985 and 1986, SMS continually attempted to market the CIT technology and locate financing for the first installation. In the latter part of 1986, SMS decided it would discontinue its effort to manufacture and market the CIT scanner system. In late 1986, Dr. Morgan met with the limited partners of the Partnership and learned they were still interested in marketing the CIT scanner system. Dr. Morgan, recognized as an expert in tomography, resigned from SMS in January 1987. Dr. Morgan subsequently formed IDM Corporation (IDM) and became its president. After hearing that Dr. Morgan resigned from SMS, the American Iron and Steel Institute (AISI) contacted Dr. Morgan to determine whether he still had an interest in installing and testing the scanner system. Dr. Morgan remained interested and entered negotiations with AISI and USX (a division 117 of United States Steel Corp.) regarding the financing, installation, and testing of the first CIT unit. AISI and USX dealt directly with Dr. Morgan and IDM. In March 1987, the Partnership granted IDM a nonexclusive license to manufacture and market the technology. In February 1988, the Partnership and IDM amended the license agreement to grant IDM the exclusive right to manufacture, sell, lease, and market products using the CIT technology. The amended agreement also reduced the royalty percentage that IDM would pay the Partnership from seven to three percent. From the date the Partnership was formed through the date of the trial, the Partnership never sold or leased any product. The only CIT pipe scanning unit installed was installed by IDM and leased by IDM to USX. The Partnership was not involved in the negotiations concerning the USX lease and paid no part of the building costs incurred to install the first CIT unit. The Partnership's only source of income from the technology consisted of royalty payments paid by IDM under the license agreement. OPINION Section 174(a) allows a deduction for "research or experimental expenditures" paid or incurred by a taxpayer during 118 the taxable year "in connection with" the taxpayer's trade or business. Section 1.174-2(a)(2), Income Tax Regs., permits the taxpayer to deduct research and experimentation fees paid to another organization which actually performs the research and development work. Respondent concedes that the expenditures qualified as "research and experimental expenditures" as defined in the section 174 regulations, and agrees that a taxpayer may contract with another organization to perform the research and development work. Respondent contends, however, that the Partnership's expenditures for such research and experimentation were not incurred in connection with a trade or business of the Partnership as required by section 174. In Snow v. Commissioner, 416 U.S. 500">416 U.S. 500, 40 L. Ed. 2d 336">40 L. Ed. 2d 336, 94 S. Ct. 1876">94 S. Ct. 1876 (1974), the Supreme Court interpreted the phrase "in connection with" a trade or business and concluded that a taxpayer need not currently be producing or selling a product in order to obtain a deduction under section 174. This interpretation of section 174(a)(1) "fairly invited the creation of R & D tax shelters, and the bar quickly took up the invitation." Spellman v. Commissioner, 845 F.2d119 148, 151 (7th Cir. 1988), affg. T.C Memo 1986-403. Ten years after Snow was decided, this Court in Green v. Commissioner, 83 T.C. 667">83 T.C. 667, 686-687 (1984), provided additional guidance and stated: For section 174 to apply, the taxpayer must still be engaged in a trade or business at some time, and we must still determine, through an examination of the facts of each case, whether the taxpayer's activities in connection with a product are sufficiently substantial and regular to constitute a trade or business * * * [Emphasis in original.]Green involved a partnership which entered into a research and development agreement and, on the same day, divested itself of all ownership rights in the technology to be developed under such agreement by granting an exclusive, worldwide license of the technology to the research contractor for the patentable life of the technology. By granting an exclusive license to the research contractor, the partnership in Green precluded itself from entering a trade or business as its activities could never surpass those of an "investor." Accordingly, we disallowed the section 174 deduction for the 120 partnership's research and development fee, characterizing the partnership as no more than an "investor" in the business activities of the research contractor. 83 T.C. at 688-689. See also Levin v. Commissioner, 87 T.C. 698">87 T.C. 698 (1986), affd. 832 F.2d 403">832 F.2d 403 (7th Cir. 1987). Unlike the situation in Green, the Partnership in the instant case did not immediately divest itself of all the ownership rights in the technology to be developed under the R & D Agreement. Instead, after the research and development work was completed, the Partnership granted an option to the research contractor to acquire the right to exploit the technology. Therefore, the possibility remained that SMS, the research contractor, would not exercise the option, leaving the door open for the Partnership to enter the trade or business of exploiting the technology. In cases where the partnership grants an option to exploit the technology to another entity, the test for deductibility under section 174 is whether there is a "realistic prospect" that the technology to be developed will be exploited in a trade or business of the partnership. Diamond121 v. Commissioner, 92 T.C. 423">92 T.C. 423, 439 (1989), on appeal (4th Cir., Oct. 16, 1989); Spellman v. Commissioner, supra; Martyr v. Commissioner, T.C. Memo 1990-558">T.C. Memo 1990-558; Coleman v. Commissioner, T.C. Memo 1990-357">T.C. Memo 1990-357. Absent such a "realistic prospect," the partnership's section 174 deduction for research and experimental expenditures is disallowed. Thus, mere legal "entitlement" to enter a trade or business is not sufficient to satisfy the "trade or business" requirement of section 174. In assessing the partnership's prospects of entering a trade or business involving the exploitation of the technology, we consider the partnership's intention or capability of entering such trade or business. Diamond v. Commissioner, supra at 439-441; Martyr v. Commissioner, supra; Coleman v. Commissioner, supra.In the instant case, we acknowledge that the Partnership was legally entitled to enter into the trade or business of manufacturing and marketing the CIT technology. The evidence clearly shows, however, that the Partnership never intended, nor was capable of, engaging122 in a trade or business with respect to the CIT scanner technology. Stated otherwise, the Partnership never intended to, nor ever did, go beyond the role of a mere investor. The Partnership's intent was clearly and consistently disclosed in the POM, Advisory Summary, and the Sessi letter. Each of these documents set forth a definite plan. SMS contracted and paid for a market study evaluating the commercial viability of a production line scanner system. The Partnership would serve as a financing vehicle by injecting risk capital into SMS's production line scanner system project. SMS would research, develop, manufacture, market, and service the CIT technology. The Partnership intended to grant SMS an exclusive worldwide license and in return receive royalty payments. The POM, Advisory Summary, and the Sessi letter each highlight the proposed tax advantages. The Partnership believed that each limited partner would reap the benefit of a sizeable front-end section 174 deduction along with long-term capital gain treatment of any royalty income. The tax discussion in the Advisory Summary evidences the investor status of the Partnership when it states that "the use of Research and123 Development Limited Partnerships to finance technology development is a relatively new investment vehicle." The Sessi letter, which was provided to each partner, suggests that the Partnership's royalty income should receive capital gain treatment since a one-time transfer of the technology in exchange for royalty income is arguably not property held for sale in the ordinary course of business. Sessi specifically states: "It could be argued that the technology is not being held for use in a trade or business, since the Partnership is only going to collect royalty income therefrom." The Partnership's lack of intent to enter a trade or business is also evidenced in the Limited Partnership Agreement. The agreement stated that after the initial cash contribution, "no additional capital contributions are contemplated and no Limited Partner shall have any personal obligation for additional contributions." Since the Partnership intended to pay and in fact did pay approximately 91.5 percent of the initial capital contributions to SMS to perform the research and development work, an inadequate amount of working capital remained to operate a trade or business. In fact, under the "Allocation124 of Contributed Funds" heading of the POM, only two-tenths of a percent was allocated for reserves after considering legal and accounting fees, syndication commissions, management fees, and filing fees. The Partnership's lack of intention or capability to enter a trade or business is also evidenced by its limited cash balance of $ 4,498 at the end of 1982, and $ 678 at the end of 1983. Moreover, during 1982 and 1983, the Partnership spent no money on salaries, advertising, office equipment, utilities, rent or supplies. When requested to contribute additional capital to finance the first CIT scanner installation, the limited partners were financially incapable of covering the costs. From 1982 to 1988, the Partnership engaged in virtually no business activity except for the occasional marketing assistance provided by Turton to SMS. From 1982 up until the date of the trial, the Partnership never sold or leased any product. The evidence clearly reflects that the Partnership merely intended to transfer the rights to the technology in exchange for royalty income. Petitioner argues that Turton's involvement in the supervision of the research and development work and the marketing of125 the technology constitute sufficient activity for the Partnership to meet the "trade or business" requirement of section 174. Petitioner's suggestion that Turton supervised SMS's research and development work has a hollow ring. The facts indicate that Turton merely kept abreast of the research and development progress by periodically meeting with SMS representatives. Moreover, marketing efforts by Turton were insignificant and to some degree associated with his responsibilities of investment management. We find that Turton's activities on behalf of the Partnership were insufficient to qualify the Partnership as a trade or business within the meaning of section 174. Furthermore, it should be noted that the management of investments is not a trade or business irrespective of the extent of the investments or the amount of time required to perform the managerial functions. Higgins v. Commissioner, 312 U.S. 212">312 U.S. 212, 85 L. Ed. 783">85 L. Ed. 783, 61 S. Ct. 475">61 S. Ct. 475 (1941). Accordingly, we hold that the research and experimental expenditures of the Partnership were not paid or incurred in connection with a trade or business as required by section 174. Because of our determination that the Partnership is not entitled*126 to a deduction for the research and experimental expenditures for 1982 and 1983, it is unnecessary for us to determine whether in 1982 the Partnership's note payable became a fixed obligation and thereby entitled the Partnership to deduct the full amount of the note. Decision will be entered for the respondent. Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954, as amended and in effect for the years in issue. All Rule references are to the Tax Court Rules of Practice and Procedure.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619724/	THE EQUITABLE LIFE ASSURANCE SOCIETY OF THE UNITED STATES, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Equitable Life Assurance Soc. v. CommissionerDocket No. 106089.United States Board of Tax Appeals46 B.T.A. 586; 1942 BTA LEXIS 848; March 11, 1942, Promulgated 848 A decedent procured certain insurance policies upon his own life from the petitioner herein. He retained the right to change the beneficiary named in the policies, but never exercised that right. The respondent determined a deficiency against decedent's estate. Administration on that estate has been concluded, no part of the deficiency has been paid, and no assets remain in the estate for its payment. Respondent proposes to assess that liability, together with interest thereon, against petitioner insurance company. Held, petitioner is not liable for the tax and interest in question as transferee. Hugh McD. Ritchey, Esq., for the petitioner. Donald P. Moyers, Esq., for the respondent. TYSON 586 The respondent determined a liability of $3,953.01 against petitioner as trustee and transferee of certain proceeds of insurance upon the life of Byron Webster Beatty, deceased; such liability being the amount of the liability of the estate of Beatty for estate tax which had not been discharged. The petitioner assigns error in this determination. The proceeding was submitted upon facts stipulated by the parties. We find the facts as so849 stipulated and such of those facts as are not set forth herein are incorporated by reference. FINDINGS OF FACT. The petitioner, the Equitable Life Assurance Society of the United States, is a life insurance company organized and existing under the laws of the State of New York, with its principal office in New York, New York. Byron Webster Beatty, hereinafter sometimes referred to as Beatty, died, intestate, on September 15, 1935, when he was a resident of Dayton, Ohio, and Helen Beatty, his wife, was appointed, on September 23, 1935, as administratrix of his estate. On March 14, 1937, a Federal estate tax return was filed on behalf of Beatty's estate, showing a gross estate in the amount of $169,636.81. 587 In the amount of the gross estate as so shown there was included a total amount of $106,319.65 life insurance on certain policies of insurance on Beatty's life. A Federal estate tax liability was reported on the estate tax return and paid, as so reported, in the amount of $4,652.05. On June 20, 1938, the respondent determined a deficiency of $3,953.01 in Federal estate tax due from the estate of Beatty. The estate appealed from such determination to this850 Board, as a result of which, under stipulation of the parties, the Board, on June 2, 1939, entered its order that there was a deficiency of $3,953.01 in Federal estate tax due from the estate. The estate of Beatty has been fully administered, all its property distributed, and the administratrix discharged, but no part of the $3,953.01 deficiency in estate tax has been paid, and there remain no assets in the estate with which to pay such deficiency. In 1935 petitioner issued to Beatty as insurance on his life three "Twenty Payment Life" insurance policies, to wit: One numbered 7,535,701, in the face amount of $49,928; one numbered 7,551,855, in the face amount of $4,895; and one numbered 7,535,702, in the face amount of $27,618. Insured's wife, Helen Beatty, was named as the beneficiary in each of the three above mentioned policies and Beatty reserved in each the right, as the insured, to change the beneficiary or assign the policies, but he never exercised either of those rights. Each of the three insurance policies provided for optional modes of settlement in lieu of payment in lump sum of the face amount thereof, as follows: MODES OF SETTLEMENT AT MATURITY OF POLICY. 851 The Insured may elect to have the net sum due under this policy upon its maturity applied under one or more of the following optional modes of settlement in lieu of the lump sum provided for on the first page hereof, and in the absence of such an election by the Insured, the beneficiary, after the Insured's death, may so elect. The beneficiary, after the Insured's death, may designate (with the right to change such designation) the person to whom any amount remaining unpaid at the death of the beneficiary shall be paid if there be no such person designated by the Insured and surviving. Such election, designation or request for change shall be in writing and shall not take effect until filed with the Society at its Home Office and endorsed upon the policy or the supplementary contract, if any. 1. DEPOSIT OPTION: Left on deposit with the Society at interest guaranteed at the rate of 3% per annum, with such Excess Interest Dividend as may be declared. 2. INSTALLMENT OPTION: * * * 3. LIFE INCOME OPTION: Converted into a Life Income for TWENTY YEARS (20 Years Certain) CERTAIN and continuing during the remaining lifetime of the beneficiary for a fixed amount annually as shown852 in the following table. 588 4. LIFE INCOME OPTION: * * * (10 Years Certain) EXCESS INTEREST DIVIDEND: The foregoing Options are based upon an interest earning of 3% per annum; but if in any year the Society declares that funds held under such Options shall receive interest in excess of 3% per annum, * * * the amount of income during the fixed period of Twenty or Ten years under Options 3 and 4 respectively for the year, shall be increased by an Excess Interest Dividend as determined and apportioned by the Society. * * * If one of the foregoing Options be elected, this policy must be surrendered upon its maturity and a supplementary contract issued for the purpose of carrying out said Option. On or about November 5, 1935, Helen Beatty, the beneficiary under the three above mentioned policies, filed with the petitioner a written request: (1) To apply $40,000 of the proceeds of the three policies as set forth in option 3 of the "Modes of Settlement At Maturity Of Policy" provided for in such policies; (2) to apply $35,000 of the proceeds of the policies on the payment of a single premium 20-year endowment policy on her own life; and (3) to pay the balance of the853 proceeds to her in cash. Upon receipt of the request of Helen Beatty the petitioner, in accordance with its practice and custom, issued to her its income bond dated December 2, 1935, evidencing its obligations under insurance policy No. 7,535,701 pursuant to her election of option 3 in that policy's "Modes of Settlement At Maturity Of Policy." The bond provided for monthly payments of $162.40 for 20 years certain and during her remaining lifetime to the primary beneficiary in the bond, Helen Beatty (who was also the beneficiary in the policy), and if she died within the 20 years, for monthly payments of like amounts to certain contingent beneficiaries as theretofore requested in writing by Helen Beatty. The application of $40,000 of the proceeds of policy No. 7,535,701 under the life income 20-year certain plan covered by option 3 produced monthly payments of $162.40 commencing as of October 30, 1935, but by reason of the withdrawal of $1,500 such monthly payments were reduced, as of March 30, 1941, to $151.79, which latter monthly payment is the present amount payable on the bond of petitioner issued under option 3. Pursuant to the request of Helen Beatty, the balance of the854 proceeds of the three policies left, after the application of the $40,000, and the cash payment above mentioned, to wit: $2,487 on policy No. 7,535,701; $27,618 on policy No. 7,535,702; and $4,895 on policy No. 7,551,855, were applied to the purchase of a single premium 20-year policy by Helen Beatty on her own life. Thereafter, that policy on the life of Helen Beatty was divided into other policies of similar form, all of which were, on or about October 13, 1939, surrendered 589 by the insured, Helen Beatty, to petitioner for their cash surrender values plus additional dividend items, all of which were paid by petitioner. By a notice of transferee liability addressed to petitioner, dated October 9, 1940, the respondent asserted a liability against the petitioner in the amount of $3,953.01, plus interest as provided by law, based upon a determination by respondent that the petitioner was liable for said amount as trustee and transferee of the estate of Byron Webster Beatty, deceased. OPINION. TYSON: Respondent contends: (1) That petitioner is liable at law as trustee and/or transferee of the estate of Byron Webster Beatty for the deficiency of $3,953.01 in Federal855 estate tax on that estate, together with interest thereon; or (2) that petitioner is so liable as a transferee of the transferee (Helen Beatty, beneficiary in the insurance policies). These contentions are based upon the application of section 315 of the Revenue Act of 1926, as amended by section 803(c) of the Revenue Act of 1932, and of section 316 of the Revenue Act of 1926, the material parts of those sections being printed in the margin. 1856 590 Petitioner contends: (1) That no assets of the estate of Byron Webster Beatty have been transferred in trust or otherwise to it; and (2) that petitioner is not trustee or transferee of the estate of Byron Webster Beatty or transferee of a transferee, but owes money under the terms of its written contract; its relationship to Helen Beatty and the contingent beneficiaries under its income bond and under its contracts of insurance being that of debtor and creditor. The parties are in agreement, on brief, that the only amount with regard to which there is presented the question of whether petitioner received such amount as trustee, transferee, or transferee of a transferee is $40,000, part of the proceeds of policy No. 7,535,701 which was received, or retained, by petitioner through election by Helen Beatty, beneficiary therein, under option 3 in that policy; so our inquiry as to whether or not petitioner received any amounts whatsoever as trustee, transferee or transferee of a transferee, so as to render it liable for the amount here involved, is narrowed to the inquiry of whether or not it so received the $40,000 of the proceeds of policy No. 7,535,701. Did petitioner857 receive and hold the $40,000 proceeds from policy No. 7,535,701 as trustee? We think it is so obvious that it did not so receive and hold such amount as to require but little consideration of the question. The $40,000 was received by petitioner through the surrender of the fixed, determined and accrued right thereto of Helen Beatty, beneficiary in the policy, in exchange for petitioner's obligations incurred to Helen Beatty and the contingent beneficiaries as evidenced by its bond. This bond, executed in compliance with Helen Beatty's election under "Modes of Settlement At Maturity Of Policy" in policy No. 7,535,701, to convert the proceeds of the insurance policy under option 3 into a life income for 20 years certain and continuing thereafter during her life, with contingent beneficiaries should she die within the 20 years, did not, in our opinion, create the status of a trustee for petitioner herein, but created merely the relation of debtor and creditor as between petitioner and those parties. Cf. , and authorities therein cited. Did petitioner receive and hold the $40,000 proceeds from policy No. 858 7,535,701 as such a transferee of Byron Webster Beatty, or his estate, as would render petitioner liable, under the applicable statutes, for the tax here sought to be imposed? We are of the opinion that it did not. At the time of his death the insured had not elected option 3 provided for in the policy as a mode of settlement by the insurer of its liability at maturity of the policy on the death of the insured. Thus, at the time of the insured's death the beneficiary, Helen Beatty, had the 591 fixed and determined right to be paid a lump sum in the face amount of the policy at the death of the insured and the insurance company was absolutely liable to her at that time in such lump sum. At that time the insurance company had no semblance of a right to retain in its possession the $40,000 for any purpose whatsoever. Such right of the insurance company arose for the first time when Helen Beatty, the beneficiary in the policy, then having the fixed and determined right to payment of the proceeds thereof in a lump sum, exercised another right vested in her, under the provisions of the policy, by giving written directions taht the $40,000 lump sum be applied as a payment by859 her to the insurance company for a supplemental contract between that company and her, as evidenced by that company's bond. It is thus clear that the $40,000 of the proceeds of policy No. 7,535,701 was not received by petitioner insurance company by reason of a transfer to it by either Byron Webster Beatty or his estate, which primarily owed the tax here sought to be recovered from petitioner as transferee. It is equally clear that the $40,000 was received by the insurance company from Helen Beatty in exchange for its obligation, evidenced by its bond, to pay ber monthly payments for 20 years certain and continuing throughout her lifetime, or, to pay certain amounts to contingent beneficiaries named by her. The remaining question is whether the petitioner insurance company is such a transferee of a transferee (Helen Beatty, beneficiary in policy No. 7,535,701) of the $40,000 as would render it liable under the statutes relating to such liability. Helen Beatty was the specific beneficiary under the policy executed by decedent and as such she was the transferee of the $40,000 as provided in section 315(b), supra, cf. 860 ; and while the $40,000 was received by petitioner by transfer from such transferee and in a literal sense petitioner was thus a transferee of a transferee, we are of the opinion that petitioner was not such a transferee of a transferee as would render it liable under the statutes applicable to a transferee's liability; and for the reason that, as a consideration for the receipt or retention by it of the $40,000 petitioner undertook a supplemental obligation as evidenced by its bond for monthly payments to the beneficiaries named therein. We are of the opinion that the obligation thus incurred by petitioner under its bond constituted a full and adequate consideration for the $40,000 received or retained by petitioner insurance company, and hold that petitioner is not such a transferee of a transferee as would render it liable under the statutes applicable to transferee's liability. The sole authority relied upon by respondent to sustain his contentions is That 592 case is not controlling here, for it is clearly distinguishable on its facts. 861 There the entire lump sum of the proceeds of the policies involved, immediately upon the death of the insured and at his direction, came into the ownership and possession of the insurance companies, which were to make certain periodic payments of such proceeds to the beneficiaries as directed by the insured, and thus, in effect, the insurance companies received the proceeds by transfer directly from the insured. Here the petitioner insurance company received the $40,000 solely by transfer from a person other than the insured, which person had the absolute right at the time of the transfer, as beneficiary under the policy, to do as she chose with the $40,000. She chose to transfer the $40,000 to the petitioner insurance company in exchange for the latter's bond. We hold that the respondent erred in his determination. Decision will be entered for the petitioner.Footnotes1. SEC. 315. (b). If (1) except in the case of a bona fide sale for an adequate and full consideration in money or money's worth, the decedent makes a transfer, by trust or otherwise, of any property in contemplation of or intended to take effect in possession or enjoyment at or after his death, or makes a transfer, by trust or otherwise, under which he has retained for his life or for any period not ascertainable without reference to his death or for any period which does not in fact end before his death (A) the possession or enjoyment of, or the right to the income from, the property, or (B) the right, either alone or in conjunction with any person, to designate the persons who shall possess or enjoy the property or the income therefrom, or (2) if insurance passes under a contract executed by the decedent in favor of a specific beneficiary, and if in either case the tax in respect thereto is not paid when due, then the transferee, trustee, or beneficiary shall be personally liable for such tax, and such property, to the extent of the decedent's interest therein at the time of such transfer, or to the extent of such beneficiary's interest under such contract of insurance, shall be subject to a like lien equal to the amount of such tax. Any part of such property sold by such transferee or trustee to a bona fide purchaser for an adequate and full consideration in money or money's worth shall be divested of the lien and a like lien shall then attach to all the property of such transferee or trustee, except any part sold to a bona fide purchaser for an adequate and full consideration in money or money's worth. SEC. 316. (a) The amounts of the following liabilities shall, except as hereinafter in this section provided, be assessed, collected, and paid in the same manner and subject to the same provisions and limitations as in the case of a deficiency in a tax imposed by this title (including the provisions in case of delinquency in payment after notice and demand, the provisions authorizing distraint and proceedings in court for collection, and the provisions prohibiting claims and suits for refunds): (1) The liability, at law or in equity, of a transferee of property of a decedent or donor, in respect of the tax (including interest, additional amounts, and additions to the tax provided by law) imposed by this title or by any prior estate tax Act or by any gift tax Act. * * Any such liability may be either as to the amount of tax shown on the return or as to any deficiency in tax. * * * (e) As used in this section, the term "transferee" includes heir, legatee, devisee, and distributee. ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619725/	Estate of Luke B. Schmidt, Irene B. Schmidt, as Executrix v. Commissioner.Estate of Schmidt v. CommissionerDocket No. 1765.United States Tax Court1944 Tax Ct. Memo LEXIS 267; 3 T.C.M. (CCH) 412; T.C.M. (RIA) 44139; May 3, 1944267 John K. Skaggs, Jr., Esq., for the petitioner. Cecil H. Haas, Esq., for the respondent. HARRON Memorandum Opinion HARRON, Judge: The respondent determined a deficiency of $5,449.66 in income tax for the year 1939. One of the adjustments is not disputed. The only issue is whether the income of two trusts created by decedent for the benefit of his two minor children was taxable to the decedent. Most of the facts are stipulated. [The Facts] The decedent filed his income tax return for the taxable year with the collector for the district of Florida. He died on January 26, 1941. His widow, Irene B. Schmidt, is the duly qualified and acting executrix of his estate. On July 14, 1937, the decedent executed two irrevocable trust indentures under which he created two separate trusts, one for the benefit of his daughter, Nancy Jane Schmidt, and one for the benefit of his son, William B. Schmidt. The Fidelity and Columbia Trust Company of Louisville, Kentucky, was named as trustee. The corpus of each trust consisted of 68 shares of stock of the Coca Cola Bottling Company of Louisville. Both indentures contained similar provisions, differing only in their respective names. On the date268 of the execution of the indentures, decedent was 43 years of age, his wife, Irene B. Schmidt was 41 years of age, his daughter, Nancy Jane Schmidt was 12 years of age, and his son, William B. Schmidt was 10 years of age. In addition to giving the trustee broad administrative powers in the management of the corpus, each indenture provided that the trustee was to accumulate the trust income until the respective child attained the age of 30 years, after which time the trustee was to pay the child the entire net income from the trust during the child's life. It was further provided that until the child attained the age of 21 years, the trustee, in its discretion, could pay all or any part of the trust income to Irene B. Schmidt for the benefit of each child, or if Irene B. Schmidt were not alive the trustee could use the income for the benefit of each child. Upon each child attaining the age of 21 years, the trustee was authorized to pay certain proportions of the annual trust income to the child until such child reached the age of 30 years. In the event the child required additional funds, by reason of illness or other extraordinary or unforeseen circumstances, the trustee, in its sole269 discretion, was authorized to pay those funds from either trust income or principal. As has been stated above, the trusts were to continue during the lives of the grantor's children who were the income beneficiaries. The trusts were to continue after the death of each beneficiary for 21 years if there were descendants of the beneficiaries living, income to be paid to the descendant-beneficiaries during the period of 21 years. If upon the death of Nancy or William, the grantor's children, there are no descendants, or if the descendants should die within the 21 year period of the continuance of the trust, the trust is to terminate and the assets shall pass to the grantor's heirs-at-law under Florida law, except that if one of the grantor's children is living at the time a trust would terminate, the trustee is to hold the assets in trust for said surviving child for life, or, if there is no surviving child or descendants, and the wife of the grantor, Irene B. Schmidt, is living, the trustee is to hold the assets in trust and pay the income to her for life. The trusts also provided as follows: "Section 9. In the further event that Donor's said wife should die during Donor's lifetime, 270 and both of Donor's children should die during Donor's lifetime, leaving no descendants of either of said children living at the death of the last survivor of said wife and children, then in that event, and only in that event the Trustee shall pay over to Donor, in fee, the entire assets of the trust estate then in the custody of the Trustee." Since the creation of the trusts in 1937, and through the taxable year, none of the income of the trusts has been distributed, but all of the income has been accumulated. Also, there have not been any withdrawals of principal. The decedent, the grantor of the trusts, provided for the support and the maintenance of his children out of his own funds from the time of the creation of the trusts through the taxable year. During the taxable year, the trustee filed separate fiduciary returns for each trust in which was reported the net income of each trust in the amount of $6,624.96. Respondent has added the net income of each trust to decedent's income. Although respondent's main contention is that the income of the trusts was taxable to the grantor of the trusts during the taxable year under the provisions of section 167 (a) (1) of the Internal271 Revenue Code, he also contends that the income was taxable to the grantor under the provisions of section 166. 1The trusts in question were irrevocable. The decedent, the grantor, was not the trustee and he was not272 named as a beneficiary of the trusts. The only interest of the grantor of the trusts in income, accumulated income, and principal was a mere possibility of reverter which could become effective only if he survived both of his children and their descendants, if any, and his wife. Section 166, by its terms, applies only where there is power to revest in the grantor title to any part of the corpus of the trust. Also, section 166, by its title, relates to revocable trusts. It has been held by the Supreme Court that a mere reversion is not the equivalent of a "power to revest" within the meaning of section 166. The trusts here are irrevocable. They fall within the class of trusts which the Supreme Court has excluded from the scope of section 166 in Helvering v. Wood, 309 U.S. 344">309 U.S. 344. See also, Genevieve F. Moore, 39 B.T.A. 808">39 B.T.A. 808; J. S. Pyeatt, 39 B.T.A. 774">39 B.T.A. 774; and Blanche G. Penn, 39 B.T.A. 787">39 B.T.A. 787. We must reject respondent's argument that the income of the trusts is taxable to the decedent under the provisions of section 166. See Marrs McLean, 41 B.T.A. 565">41 B.T.A. 565;273 affd. on another point, 120 Fed. (2d) 942. Respondent's argument that the income of the trusts was taxable to the decedent under the provisions of section 167 (a)(1) is made chiefly in reliance upon Altmaier v. Commissioner, 116 Fed. (2d) 162, and Kaplan v. Commissioner, 66 Fed. (2d) 401. Respondent also relies upon Commissioner v. Willson, 132 Fed. (2d) 255; Downie v. Commissioner, 133 Fed. (2d) 899; and Graff v. Commissioner, 117 Fed. (2d) 247. Respondent relies on other cases which have been considered but to which it is unnecessary to make reference because the cases are distingusihable upon their facts. Respondent does not contend that the income of the trusts was taxable to the grantor under the rule of Helvering v. R. Douglas Stuart, 317 U.S. 154">317 U.S. 154. Neither party in his brief discusses the application of the Stuart case, if any, to this proceeding. However, petitioner and the trustees have filed written consents in an effort to comply with the provisions274 of section 134 (b) of the Revenue Act of 1943, as a precaution, in the event we should hold that the income of the trusts is taxable to the decedent under the rule of the R. Douglas Stuart case, so as to obtain the relief afforded by section 167 (c) of the Internal Revenue Code. We do not consider the Stuart case in view of the fact that respondent has not at any time relied upon it, and we do not understand that the issue presented under the pleadings presents the question which was presented in that case. In all of the cases relied upon by the respondent, the facts were substantially different from the facts here. In this proceeding, the grantor established trusts for his children who were minors. During the minority of the children, the trust income was to be accumulated and added to the principal of the trust estate. Such provision in trusts for minors is not unusual. Accumulations of income enlarge the principal and thereby increase the earning capacity of the trust for the period when the income is to be distributed. The grantor's children are to receive the trust income for life, after attaining 30 years of age. It is true that section 9 of each trust makes provision275 for a return of the trust assets to the grantor under certain contingencies, but the possibility of the reverter is remote because both children and their descendants, if any, and the wife must predecease the grantor. Three persons in being stand between the grantor and the possible reverter, with the possibility that there will be additional remaindermen whom the grantor would have to survive. The situation here resembles that in Henry Martyn Baker, 43 B.T.A. 1029">43 B.T.A. 1029, 1035, where we held that a remote possibility of reverter does not make the income of a trust taxable to the grantor under section 167. See also, Marrs McLean, supra;Frederick Ayer, 45 B.T.A. 146">45 B.T.A. 146, 152; Christopher L. Ward, 40 B.T.A. 225">40 B.T.A. 225, 229; reversed on another point, 119 Fed. (2d) 207, where we said, under similar facts, that a possibility of reverter is not a present accumulation "for future distribution to the grantor"., William E. Boeing, 37 B.T.A. 178">37 B.T.A. 178. Consideration has been given to Commissioner v. Willson, supra,276 upon which respondent relies. A great many circumstances and facts in the Willson case are not present here. We think the situation here comes closer to Suhr v. Commissioner, 126 Fed. (2d) 283. It is held that petitioner is not taxable upon the income of the trusts created for the benefit of Nancy and William Schmidt under either section 166 or section 167 of the Internal Revenue Code. Petitioner concedes that $1,000 of income from another trust, the Luke B. Schmidt trust estate, should have been included in the income of the decedent for the year 1939. This concession requires that the amount of the deficiency shall be recomputed under Rule 50. Accordingly, Decision will be entered under Rule 50. Footnotes1. SEC. 166. REVOCABLE TRUSTS. Where at any time the power to revest in the grantor title to any part of the corpus of the trust is vested - (1) in the grantor, either alone or in conjunction with any person not having a substantial adverse interest in the disposition of such part of the corpus or the income therefrom, or (2) in any person not having a substantial adverse interest in the disposition of such part of the corpus or the income therefrom, then the income of such part of the trust shall be included in computing the net income of the grantor. SEC. 167. INCOME FOR BENEFIT OF GRANTOR. (a) Where any part of the income of a trust - (1) is, or in the discretion of the grantor or of any person not having a substantial adverse interest in the disposition of such part of the income may be, held or accumulated for future distribution to the grantor; * * * then such part of the income of the trust shall be included in computing the net income of the grantor.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619726/	Joe S. Ray, Petitioner, v. Commissioner of Internal Revenue, RespondentRay v. CommissionerDocket No. 69322United States Tax Court32 T.C. 1244; 1959 U.S. Tax Ct. LEXIS 82; September 23, 1959, Filed 82 Decision will be entered under Rule 50. Petitioner, owner of certain timberlands, entered into a contract with the Mengel Company in the taxable year 1952, which provided, inter alia, that he was to produce 40,000 cords of pulpwood from his tracts of land over an 8-year period. Petitioner was to cut the timber involved or have it cut. Only in the event of his default in cutting, removing, and shipping the pulpwood was Mengel to have the right to enter petitioner's land and perform the cutting operations. Petitioner arranged for his two sons, who were partners doing business under the name of Ray Naval Stores, to cut the trees involved. The contract with Mengel also provided that petitioner was to bear the risk of loss of any of the timber and trees and pay all taxes thereon. After Mengel received the pulpwood called for by the contract, the timber on the described tracts of land was to revert to petitioner. Petitioner was privileged to furnish pulpwood cut from lands other than those specified in the contract. His consideration for said pulpwood was wholly dependent on the severance and sale thereof, for which he was to receive the market price of pulpwood at the time83 of its delivery to Mengel. Upon execution of the contract, petitioner received $ 40,000 as a downpayment on the pulpwood to be produced. Held, that since petitioner did not surrender his cutting rights to the timber in question, he did not make a "disposal" thereof which would entitle him to treat said transaction as though it were a gain or loss upon the sale of timber within the meaning of section 117(k)(2) of the Code of 1939, as amended. Held, further, that petitioner did not sell real estate used in his trade or business under the provisions of section 117(j). Held, further, that the downpayment of $ 40,000 is to be treated as ordinary income for the year in question. W. T. Rogers, Esq., for the petitioner.Robert O. Rogers, Esq., for the respondent. Fisher, Judge. FISHER1244 This proceeding involves a deficiency in income tax determined against petitioner for the taxable year 1952 in the amount of $ 15,564.46.The principal issue presented is whether petitioner is entitled to treat, as long-term capital gain pursuant to sections 117(k)(2) or 117(j) of the Code of 1939, 1 the amount of $ 40,000 which he received 1245 as an advance payment during the taxable year 1952 for timber to be cut from his or other land and delivered to the purchaser.FINDINGS OF FACT.Some of the facts are stipulated and, as stipulated, are incorporated herein by this reference.Joe S. Ray, hereinafter called petitioner, is an individual with his place of residence at West Green, Georgia. He filed his individual Federal income tax return85 for the taxable year 1952 with the director of internal revenue, Atlanta, Georgia.Petitioner kept his books and records and filed his return for the year 1952 on the cash basis.For many years prior to and including the taxable year 1952, petitioner was engaged in the business of farming on his lands in the town of West Green, Georgia, including turpentining the pine trees growing thereon. Turpentining continues for about 8 or 10 years, which is about the average life of a pine tree. When all the turpentine was extracted or "worked out," petitioner would cut the tree for pulpwood or sawmill timber and let another one grow. During the years petitioner was engaged in turpentining, he sold many trees which had been worked out of turpentine.During the year 1951, petitioner had a fire on his tree farm, and in order to salvage the trees as much as he could, he sold pulpwood to dealers. Petitioner sold said pulpwood until about January 1952.On March 15, 1952, petitioner entered into a contract (designated as indenture) with the Mengel Company, hereinafter referred to as Mengel. Later on this same date, petitioner and Mengel entered into a supplemental agreement to add to the terms86 of the original contract. The original contract, as supplemented, is sometimes hereinafter referred to as the contract.Said contract wherein petitioner is referred to as "grantor" and Mengel as "grantee," commences with the recital:That for and in consideration of the sum of Forty Thousand ($ 40,000) Dollars, * * * Grantor has granted, bargained, sold and conveyed, and by these presents does grant, bargain sell and convey unto Grantee * * :All of the pine trees * * upon the following described lands * * There then follows the legal description of the various lands located in Coffee County, Georgia, containing approximately 4,800 acres.The contract provides, inter alia, as follows:1. The basic premises of this indenture is that forty thousand (40,000) standard cords * * of pulpwood will be produced from the said timber and trees * * 2. Grantee, its successors and assigns, shall have the right to enter upon said lands and to cut and remove the trees and timber hereby conveyed * . 1246 The cutting shall be in accordance with the cutting schedule stated hereinafter and the other terms and conditions of this indenture.3. The payment of $ 40,000 made by Grantee87 to Grantor at the ensealing and delivery of this indenture is an advance payment at the rate of one ($ 1.00) Dollar per standard cord on the stumpage price to be paid by Grantee to Grantor for the pulpwood to be cut from the timber and trees on said lands. As the cutting and removal progresses, the balance of the stumpage price, to be determined as hereinafter stated, shall be paid by Grantee to Grantor.4. Grantor and Grantee acknowledge that the purchase price of pine pulpwood in Coffee County, Georgia, varies from time to time, and that it is the accepted custom in the trade for the stumpage price paid to the owner of the timber to vary in proportion. It is agreed between the parties hereto that the stumpage price which shall be paid by Grantee to Grantor shall so vary, * * bearing in mind at all times that Grantee shall receive credit on the stumpage price in the sum of $ 1.00 per standard cord already paid thereon by the advance payment made at the ensealing and delivery of this indenture. * * 5. As a cutting schedule for cutting and removing said timber and trees, 5,000 standard cords per year, at the rate of not less than 1,000 and not more than 2,000 standard cords 88 in any quarter part of a year, shall be cut and removed from said land after cutting and removal operations shall have commenced normally.6. Grantee shall keep accurate records of all timber and trees cut and removed from said land, shall furnish said information to Grantor at regular weekly intervals, and shall account to and pay Grantor at regular weekly intervals the balance due him for stumpage for all timber and trees cut and removed from said land.7. Grantor shall make proper returns for all taxes due and to become due on said lands, timber and trees, and shall pay all taxes thereon as the same shall become due.8. Part of the consideration for this indenture is the covenant of Grantor that he will, with initiative and all reasonable diligence and care, safeguard and protect the timber and trees on said land against loss by theft, fire and all forms of waste. * * 9. If for any reason the timber and trees on said land and covered by this indenture shall fail to produce the 40,000 standard cords of pulpwood provided for herein, then Grantee, its successors and assigns, shall have the right and privilege of retaining a sufficient sum, out of the balance due for stumpage, to89 retire any unearned part of the $ 40,000 advanced at the ensealing and delivery of this indenture for the contemplated production of 40,000 standard cords.10. Grantor is presently engaged in turpentining and other woodland operations on said lands, and it is the agreement of the parties that said operation may continue, consistent with the terms of this indenture. Also, it is the present agreement of the parties hereto that Grantor, within the cutting schedule hereinabove mentioned, will cut and remove said timber and trees for pulpwood purposes, and that from him as a producer of pine pulpwood Grantee will purchase same and pay the then prevailing producer's price, thereby enabling Grantor possibly to realize a greater return than he would receive from the stumpage alone. If Grantor should so cut and remove said pulpwood he shall have the right to do so * * . As such producer of pine pulpwood, Grantor shall be paid by Grantee the generally prevailing price then being paid to producers in Coffee County, Georgia, for each standard cord of acceptable pine pulpwood, less, however, at all times a deduction of $ 1.00 per standard cord by reason of the advance payment already made90 by Grantee to Grantor at the ensealing and delivery of this indenture. * * *1247 11. Grantor owns, has access to or may acquire other lands than those particularly described hereinbefore having thereon pine timber suitable for pulpwood purposes, and he may wish to cut pulpwood therefrom and as a producer ship same to Grantee instead of cutting off and over the lands particularly described in this indenture. * * Grantee herein agrees to such substitution. Each standard cord of acceptable pulpwood so shipped shall reduce pro tanto the 40,000 standard cords to be cut off the lands particularly described hereinbefore in this indenture.12. If, and not before, Grantor shall default in cutting, removing and shipping pulpwood to or at the direction of Grantee in accordance with the cutting rate and schedule as provided or as permitted by this indenture, then and in that event Grantee may commence operations hereunder so as to assure continuance of said production schedule. * * 13. Upon Grantee's receiving and accepting 40,000 standard cords of pulpwood under the terms of this indenture, or on March 14, 1962, whichever shall occur first, this indenture shall terminate, 91 and on said termination all timber and trees remaining on said particularly described land shall revert to and become the property of Grantor.14. All rights and privileges under this indenture shall be assignable by either Grantor or Grantee, * * * [Emphasis supplied.]The supplemental agreement provides, inter alia, as follows:1. * * * Said previous agreement contemplates that first party will cut and remove said timber and trees for pulpwood, load same f.o.b. freight cars, and ship as may be directed by second party. In such event it is provided that first party shall be paid, as therein set forth, on a per standard cord basis, as a producer of pine pulpwood.2. In supplement to said agreement it is hereby made the further agreement of the parties that for every standard cord * * * produced by first party and loaded f.o.b. freight cars at a convenient railroad loading point in Coffee County, Georgia, destined to or as directed by second party, its successors or assigns, second party shall pay to first party over and above and in addition to the sum provided for in said main agreement to first party as a producer, the sum prevailing at the time of cutting and loading, and92 being paid as a commission to dealers in pine pulpwood in Coffee County and adjoining counties. * ** * * 4. All of the agreements and understandings of the parties have been reduced to writing and there are no agreements nor understandings between the parties, written or verbal, except as incorporated in said main agreement and this supplement thereto. Except as supplemented hereby said main agreement shall remain of full force and effect and unchanged. [Emphasis supplied.]Petitioner selected and arranged for his two sons to cut the trees from his lands called for under the Mengel contract. His sons were "forest farmers," a broad term denoting the business of row cropping, timber, and custom farming. They were partners doing business under the name of Ray Naval Stores. They began the work of cutting the timber covered by the Mengel contract in January 1954.Petitioner, who was unable to do physical work during the period involved herein, never personally cut any of the pulpwood called for under the Mengel contract. He selected and arranged for his sons to do the cutting to protect his interests because he thought they would 1248 take care of the timber, use good93 forest practices, and not "butcher it up."Both the land and timber described and specified in the Mengel contract were owned by petitioner for a period of more than 6 months prior to March 15, 1952, the date of said agreement.During the year 1952, pursuant to the terms of the contract and the supplemental agreement thereto, Mengel paid to petitioner the amount of $ 40,000 as an advance payment which he deposited in his personal bank account. There were no restrictions placed on his use of said payment, and no part of it was pledged to the development or operation of the timber properties. No part of said amount was included by petitioner as gross income in his individual Federal income tax return for the taxable year 1952.Respondent, in his statutory notice, determined that said amount was gross income to petitioner for the taxable year 1952 and increased petitioner's taxable net income accordingly. At the trial, petitioner conceded that the amount of $ 40,000 was properly reportable for the year 1952, but claimed it should be treated as long-term capital gains.OPINION.Petitioner contends that the advance payment in the amount of $ 40,000 which he received during the taxable94 year 1952 from Mengel for timber to be cut under their contract qualifies for the preferential tax treatment accorded such gains pursuant to the provisions of section 117(k)(2) or 117(j) of the Code of 1939, as amended. 2 Respondent, on the other hand, urges that since petitioner did not surrender, but 1249 specifically retained the cutting rights to the timber in question, he did not make a "disposal" of his timber as required under section 117(k)(2), supra. With respect to the applicability of section 117 (j), supra, respondent argues further that the payment involved was derived from the (future) severance and sale of the product of the real property, timber, and not from the conversion of the real property as upon a sale within the intendment of section 117(j); and, therefore, the proceeds are taxable as ordinary income, subject to depletion, and not long-term capital gains from the sale of real estate used in petitioner's trade or business. In the same vein, respondent avers further that petitioner sold severed timber, personalty, and not standing timber or realty, and hence did not make a sale of real property used in his trade or business. For reasons hereinafter95 stated, we agree with respondent.96 At the outset, it is essential to ascertain the meaning of section 117(k)(2), insofar as it is pertinent to the instant case, in order to determine the type of transaction which will qualify for the special tax benefits provided thereby. Section 117(k)(2), which is a relief provision, provides generally that, in the case of the "disposal" of timber (held for more than 6 months prior to such disposal) by the owner thereof under a contract by virtue of which the owner retains 1250 an "economic interest" in such timber, the transaction will be treated as though it were a sale of the timber.Analysis of the legislative history and the language of subsection (k) (1) and (2), indicates that Congress intended to limit the benefits of section 117(k)(2) to those transactions where the timber owner surrendered to another his cutting rights to the timber involved, retaining an economic interest usually in the nature of a lease or royalty interest. 3 The most common instance of such disposal of timber with an economic interest retained is where it is sold on the stump by the thousand board feet, being measured after cut, and the owner is paid an amount on a per unit cut basis. See Boeing v. United States, 98 F. Supp. 581">98 F. Supp. 581 (Ct. Cl. 1951);97 L. D. Wilson, 26 T.C. 474">26 T.C. 474. Where timber was sold in this manner, prior to the enactment of section 117(k) (added by section 127(c) of the Revenue Act of 1943), the transaction was viewed by the Commissioner as a lease or cutting contract, not as an outright sale of the timber, and receipts of the timber owner were generally taxed as ordinary income. G.C.M. 22730, 1 C.B. 214">1941-1 C.B. 214. See Burnet v. Harmel, 287 U.S. 103">287 U.S. 103 (1932). This situation was remedied by section 117(k)(2), supra, which operates to make a qualifying transaction a sale of the timber, gain or loss from which may thereby become eligible under section 117(j) for capital gains treatment.98 Respondent's contention that petitioner failed to make a "disposal" of his timber as required under section 117(k)(2) can best be understood, we believe, by a brief comparison of its companion subsection (k)(1), supra. Significantly, section 117(k)(1) refers to "the cutting of timber * * * by the taxpayer who owns, * * * such timber" whereas, section 117(k)(2) refers to "the disposal of the timber * * * by the owner thereof." These two sections are concerned with mutually exclusive transactions in timber, and the quoted language makes it clear that, for the purposes of section 117(k), an owner who cuts his timber is different from an owner who disposes. The tax benefits provided by section 117(k)(1) may differ materially from those arising under 117(k)(2). Moreover, in order to obtain the benefits of section 117(k)(1), a taxpayer must make an election upon his return 1251 for the taxable year. This election is binding upon him for all future years unless the Commissioner, upon a showing of undue hardship, permits him to revoke his election. Volney L. Pinkerton, 28 T.C. 910">28 T.C. 910 (1957). No such election is required to obtain the benefits of 99 section 117(k)(2), the application of which is mandatory.In the instant case, petitioner did not make an election to report the receipt of the $ 40,000 in 1952 under section 117(k)(1), nor does he now claim the application thereof. In this connection, it is apparent that if the term "disposal" is not construed to require a disposition of cutting rights, an owner of timber, who cuts his own timber, could avoid the election required by section 117(k)(1) and obtain what are usually the greater tax benefits of section 117(k)(2) by the use of the mere formality of contracting with a timber buyer to sell his timber to such buyer, as cut, at the then-prevailing price.In the light of the foregoing, we believe it is clear that Congress intended to distinguish between timber owners who cut their timber and those who lease their timber property to another, together with a grant to the lessee of the right to cut. Examination of the cases dealing with the proper interpretation of the term "disposal" as used in section 117(k)(2) reveals that in all such cases the term was in some manner compared with a lease, a cutting contract, or some other transaction wherein the timber owner did not cut 100 his own timber and retained only a royalty interest. See Ah Pah Redwood Co. v. Commissioner, 251 F. 2d 163 (C.A. 9, 1957), reversing 26 T.C. 1197">26 T.C. 1197 (1956) on another issue; Boeing v. United States, supra;Springfield Plywood Corporation, 15 T.C. 697">15 T.C. 697 (1950); and L. D. Wilson, supra.Both parties agree that petitioner retained an economic interest in the timber involved, as that phrase is used in section 117(k)(2); that is, Ray was to look to the severance and sale of the timber for his return of capital. Respondent urges (and petitioner does not appear to question) the view that the term "disposal" as used in said section and as applicable to the issue here presented contemplates the transfer of cutting rights by the timber owner to another. The only dispute, therefore, between the parties with respect to the applicability of section 117(k)(2) is the factual question of whether or not petitioner, in fact, under the provisions of the Mengel contract, transferred his cutting rights to the timber involved herein to Mengel.Respondent's101 determination that Ray is not entitled to the benefits of section 117(k)(2), is, of course, presumptively correct, and the burden of proof is upon petitioner to show error. Apart from petitioner's vague testimony, he presented no affirmative evidence (unless the contract with Mengel is to be so construed) to support his contention that he had transferred the cutting rights of the timber involved to Mengel or to its assignee, Union Bag and Paper Co., and 1252 that said timber was subsequently cut by "independent pulpwood producers" hired by the purchaser.To the contrary, the terms of the contract taken as a whole, and the testimony of petitioner and of his son, convince us that petitioner, in fact, retained the primary cutting rights and arranged for the cutting to be done by his sons under his control. True, under paragraph 2 of the contract, Mengel or its assignee, was to have the right to enter upon Ray's lands and to cut and remove the trees and timber conveyed by the contract. However, subsequent paragraphs 10 and 12 state that Ray "will cut and remove said timber and trees for pulpwood purposes, and that from him as a producer of pine pulpwood, Grantee [Mengel] will102 purchase same and pay the then prevailing producer's price." Only in the event that petitioner "shall default in cutting, removing, and shipping pulpwood" to or at the direction of Mengel, could Mengel commence cutting operations.By a "Supplemental Indenture" executed on the same date, March 15, 1952, the parties clarified and reiterated their agreement which states, in part, that:1. That said previous agreement contemplates that first party [Ray] will cut and remove said timber and trees for pulpwood, load same f.o.b. freight cars, and ship as may be directed by second party [Mengel or assignee]. In such event it is provided that first party shall be paid, as therein set forth, on a per standard cord basis, as a producer of pine pulpwood.* * * 4. All of the agreements and understandings of the parties have been reduced to writing and there are no agreements nor understandings between the parties, written or verbal, except as incorporated in said main agreement and this supplement thereto. Except as supplemented hereby said main agreement shall remain of full force and effect and unchanged. [Emphasis supplied.]It is clear that the construction of the Mengel contract, 103 set forth fully in our Findings of Fact, depends upon an analysis of the contract as a whole. See Commissioner v. P. G. Lake, Inc., 356 U.S. 260">356 U.S. 260, 266 (1958). Despite the equivocal language used in some parts of the contract, it is evident from the entire contract that the parties intended that petitioner had the primary right and obligation to cut, remove, and ship the timber involved to the purchaser. The latter's right to perform the same functions arose only upon default by petitioner. Moreover, when questioned on cross-examination, petitioner made it clear that he fully understood that under the contract Mengel did not have any cutting rights unless petitioner failed to cut the timber himself or have it cut. 4 Although petitioner, on brief, contends 1253 that he did not exercise the "option" to cut the timber himself, he not only presented no evidence of any default on his part, but made it clear that he arranged for his sons (doing business as Ray Naval Stores) to do the cutting for his own protection, in his own interest, and subject to his own control. Had they not cut in accordance with his requirements, he would have "run them104 out of there." The family relationship was significant to him. He picked his boys to do the work because they would realize that some day "this will be ours [the sons] and they'd take care of it." The cutting was in fact carried on by the sons and was begun in January 1954.In support of his view that he is entitled to the tax benefits of section 117(k)(2), petitioner cites, inter alia, Boeingv.United States, Springfield Plywood Corporation, and L. D. Wilson, all supra. These 105 cases are distinguishable on their facts and issues and are not controlling herein. In Boeing, supra, the taxpayer-owner of the timber entered into a contract with the vendee whereby the latter agreed to cut and remove the timber from the vendor's lands, sell it at the current market price, and remit one-third of the gross profits to the owner. The vendee was to cut a minimum each year and pay for merchantable timber remaining when the time for performance was ended. Similarly, in Springfield Plywood Corporation, supra, the taxpayer acquired timberlands and within 6 months thereafter entered into a contract for the disposal of all timber within certain categories to two parties, to be paid for as cut by the vendees over a 2-year period, and the vendees were required to pay for it at the end of that time whether cut or not. In L. D. Wilson, a partnership acquired a tract of timber and entered into a cutting arrangement with its controlled corporation, whereby the corporation cut and removed the timber and paid the partnership a specified price per thousand board feet cut and removed. The logging was done by an independent106 logger hired and paid by the corporation.In the light of all of the foregoing, we hold that petitioner is not entitled to claim the benefit of section 117(k)(2), supra.In the alternative, petitioner contends that by virtue of the Mengel contract he made an outright sale of standing timber in certain designated tracts and since such timber was part of the real estate and not held for sale to customers in his trade or business of turpentining, he is entitled to capital gains treatment on the downpayment, $ 40,000, under section 117(j), supra. Respondent urges that since petitioner made only an executory sale of severed timber, the payment represented proceeds to be derived from the severance of the product of real property, pulpwood, and not from the conversion of the real property itself as upon a sale under said statute. Essentially, it is respondent's position that by virtue of paragraphs 4 and 10 of the 1254 Mengel contract, Ray's consideration for the pulpwood was wholly contingent on the severance and sale of the timber involved, thereby reserving to petitioner an "economic interest" in that timber, and that hence the proceeds of the production constitute ordinary107 income. See Burton-Sutton Oil Co. v. Commissioner, 328 U.S. 25">328 U.S. 25 (1946).It is well settled that (except where section 117(k)(2) is applicable) proceeds derived from the severance of natural resources by the holder of an economic interest in the property constitute ordinary income subject to depletion. Palmer v. Bender, 287 U.S. 551">287 U.S. 551 (1932). In this connection, it is noteworthy that since the adoption of section 234(a)(9) of the Revenue Act of 1918, Congress has consistently included the allowance for depletion in the case of timber in the same Code section that includes the allowance for depletion in the case of oil, gas, and other minerals. Sec. 23(m), I.R.C. 1939. It is evident, therefore, that the definition of an economic interest in timber is substantially identical with the definition of that term in oil and gas and other minerals. We observe also that the regulations have applied the same definition. Sec. 39.23(m)-1(b), Regs. 118. 5108 In Lincoln D. Godshall, 13 T.C. 681">13 T.C. 681 (1949), where the taxpayer claimed that in fact he made an absolute sale of his interests in certain ore-bearing properties, notwithstanding that his rights to payments were solely dependent on what his mine would produce, we said (p. 684):Even in the case of a technical sale, consummated by passage of title, the seller is deemed to have "maintained a capital investment or economic interest" in the mineral property transferred if all or part of the price is payable out of the minerals produced or the net proceeds of production. * ** * * In determining tax incidence the essential test is thus whether or not petitioner held an economic interest in the minerals in place. If he did, the amounts paid him out of the proceeds of their production constitute ordinary taxable income, and he is entitled to a deduction for depletion.We think it clear that the same rules are applicable to timber properties.Applying the aforesaid rationale to the facts of record, it is clear that Ray held an economic interest in the timber involved as that term has been construed for tax purposes. That petitioner received a part109 of said payment prior to actually earning it by severance and sale does not alter its tax character as ordinary income. See Renwick v. United States, 87 F. 2d 123 (C.A. 7, 1937). Assuming that, by virtue of the contract, there was a transfer of some right to the timber to Mengel, we do not believe that there was any conversion 1255 of a capital investment within the intendment of section 117(j), supra. In our view the advance payment of $ 40,000 appears essentially to be a substitute for what would otherwise be received by Ray at a future time as ordinary income. All that petitioner was doing in accepting the $ 40,000 was converting future income into present income. Commissioner v. P. G. Lake, Inc., 356 U.S. 260">356 U.S. 260 (1958).Petitioner contends that the "granting clause" in the contract does not denote a lease or an executory contract to sell, as respondent urges, but is a definite expression of an outright sale. Ray argues that he sold the timber on a deferred payment plan, a portion of the total consideration having been received as a "downpayment" at the time of the conveyance in 1952, and the balance110 payable as the timber is cut by the purchaser. The facts do not support petitioner's view. Specifically, we note that paragraph 3 of the contract refers to the $ 40,000 as an "advance payment" for pulpwood to be cut, removed, and delivered, rather than a downpayment on standing timber. It is apparent that petitioner does not take a definitive position with respect to the proper interpretation to be accorded said contract. Depending on the particular argument he advances, he characterizes the transaction with Mengel either as a sale of stumpage to be cut by Mengel with the retention of an economic interest or as an absolute sale of timber on a deferred payment plan.Viewing the contract as a whole, we do not believe that Ray intended to make an outright sale of the timber referred to in said agreement. As noted hereinabove, under the Mengel contract, petitioner had the privilege of substituting the pulpwood called for under the contract from "other lands" than those specifically set forth in the agreement. Such terms are not compatible with a sale of petitioner's timber on the tracts covered by the contract. We believe that Ray's modus operandi is more characteristic of a timber111 dealer than an owner of a timber tract selling off some or all of the timber used in his trade or business of turpentining.In the instant case, it appears to us that the contract was plainly executory in nature and that it was the intention of the parties that title to the timber was to remain in petitioner until cut. Primarily, the contract provided for the cutting to be done by petitioner. The risk of theft, fire, and all forms of waste remained with petitioner, who was likewise required to pay all taxes on the timber. The contract itself evidently did not contemplate a completed sale of the entire stand of timber. Sale took place only when and to the extent the timber was cut and paid for. See Carrie Lutcher Brown, 26 B.T.A. 781">26 B.T.A. 781 (1932), affd. 69 F. 2d 863 (C.A. 5, 1934), certiorari denied 293 U.S. 579">293 U.S. 579; Florence A. Foster, 18 B.T.A. 819">18 B.T.A. 819 (1930), reversed on another issue 57 F. 2d 516 (C.A. 5, 1932).1256 In support of his position, petitioner relies, inter alia, upon Estate of M. M. Stark, 45 B.T.A. 882 (1941),112 and John W. Blodgett, 13 B.T.A. 1388">13 B.T.A. 1388 (1928), which are clearly distinguishable on their facts from the case at bar. In Estate of M. M. Stark, supra, the issue was whether the taxpayer was selling timber held primarily for sale to customers in the ordinary course of business. The contract provided that the purchaser acquired the "exclusive right" to enter upon the vendors' timber tract, and to turpentine, cut, and remove all the standing pine timber of a certain diameter at the stump. The purchaser was to market a minimum amount each year and pay the sellers currently for the timber removed. In Blodgett, supra, the taxpayer-owner contracted to sell the standing timber which the purchasers themselves were to cut and market, and the purchasers were to pay the vendors each month a certain percentage of the selling price.We think it clear, in the light of the foregoing discussion, that the transaction here in question was not a sale of real estate (here timber) within the meaning of section 117(j). Likewise, it seems apparent (and petitioner does not argue otherwise) that the timber was not113 property of petitioner used in his trade or business of a character which is subject to the allowance of depreciation within the meaning of section 117(j).We hold that petitioner has failed to meet the burden of proving error in respondent's determination, and that the $ 40,000 in question is taxable as ordinary income for the year 1952.Decision will be entered under Rule 50. Footnotes1. All statutory references are to the Code of 1939 unless otherwise specified.↩2. Sec. 117. CAPITAL GAINS AND LOSSES.(a) Definitions. -- As used in this chapter --* * * (j) Gains and Losses from Involuntary Conversion and from the Sale or Exchange of Certain Property Used in the Trade or Business. -- (1) Definition of property used in the trade or business. -- For the purposes of this subsection, the term "property used in the trade or business" means property used in the trade or business, of a character which is subject to the allowance for depreciation provided in section 23(l), held for more than 6 months, and real property used in the trade or business, held for more than 6 months, which is not (A) property of a kind which would properly be includible in the inventory of the taxpayer if on hand at the close of the taxable year, or (B) property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business, or (C) a copyright, a literary, musical, or artistic composition, or similar property, held by a taxpayer described in subsection (a)(1)(C). Such term also includes timber or coal with respect to which subsection (k) (1) or (2) is applicable and unharvested crops to which paragraph (3) is applicable. Such term also includes livestock, regardless of age, held by the taxpayer for draft, breeding, or dairy purposes, and held by him for 12 months or more from the date of acquisition. Such term does not include poultry.(2) General rule. -- If, during the taxable year, the recognized gains upon sales or exchanges of property used in the trade or business, plus the recognized gains from the compulsory or involuntary conversion (as a result of destruction in whole or in part, theft or seizure, or an exercise of the power of requisition or condemnation or the threat or imminence thereof) of property used in the trade or business and capital assets held for more than 6 months into other property or money, exceed the recognized losses from such sales, exchanges, and conversions, such gains and losses shall be considered as gains and losses from sales or exchanges of capital assets held for more than 6 months. If such gains do not exceed such losses, such gains and losses shall not be considered as gains and losses from sales or exchanges of capital assets. * ** * * (k) Gain or Loss in the Case of Timber or Coal. -- (1) If the taxpayer so elects upon his return for a taxable year, the cutting of timber (for sale or for use in the taxpayer's trade or business) during such year by the taxpayer who owns, or has a contract right to cut, such timber (providing he has owned such timber or has held such contract right for a period of more than six months prior to the beginning of such year) shall be considered as a sale or exchange of such timber cut during such year. In case such election has been made, gain or loss to the taxpayer shall be recognized in an amount equal to the difference between the adjusted basis for depletion of such timber in the hands of the taxpayer and the fair market value of such timber. Such fair market value shall be the fair market value as of the first day of the taxable year in which such timber is cut, and shall thereafter be considered as the cost of such cut timber to the taxpayer for all purposes for which such cost is a necessary factor. If a taxpayer makes an election under this paragraph such election shall apply with respect to all timber which is owned by the taxpayer or which the taxpayer has a contract right to cut and shall be binding upon the taxpayer for the taxable year for which the election is made and for all subsequent years, unless the Commissioner, on showing of undue hardship, permits the taxpayer to revoke his election; such revocation, however, shall preclude any further elections under this paragraph except with the consent of the Commissioner.(2) In the case of the disposal of timber or coal (including lignite), held for more than 6 months prior to such disposal, by the owner thereof under any form or type of contract by virtue of which the owner retains an economic interest in such timber or coal, the difference between the amount received for such timber or coal and the adjusted depletion basis thereof shall be considered as though it were a gain or loss, as the case may be, upon the sale of such timber or coal. Such owner shall not be entitled to the allowance for percentage depletion provided for in section 114(b)(4) with respect to such coal. This paragraph shall not apply to income realized by the owner as a co-adventurer, partner, or principal in the mining of such coal. The date of disposal of such coal shall be deemed to be the date such coal is mined. In determining the gross income, the adjusted gross income, or the net income of the lessee, the deductions allowable with respect to rents and royalties shall be determined without regard to the provisions of this paragraph. * ↩3. The Senate Finance Committee which originally recommended the enactment of section 117(k)(2) of the Code stated, in part, in S. Rept. No. 627, 78th Cong., 1st Sess., pp. 25-26, as follows:"Your committee is of the opinion that various timber owners are seriously handicapped under the Federal income and excess profits tax laws. The law discriminates against taxpayers who dispose of timber by cutting it as compared with those who sell timber outright. The income realized from the cutting of timber is now taxed as ordinary income at full income and excess profits tax rates and not at capital gain rates. In short, if the taxpayer cuts his own timber he loses the benefit of the capital gain rate which applies when he sells the same timber outright to another. Similarly, owners who sell their timber on a so-called cutting contract under which the owner retains an economic interest in the property are held to have leased their property and are therefore not accorded under present law capital-gains treatment of any increase in value realized over the depletion basis."↩4. On transcript pages 29 and 30, petitioner testified as follows:"Q. Mr. Ray, when you entered into this contract with Mengel, did you intend for your sons at that time to take over the right to cut the property?"A. That is what I held -- that is the reason I asked for that stipulation."Q. You mean the stipulation that you could keep the cutting rights?"A. Cutting under my control so I could turn it over to them."Q. And Mengel could come in only in the event you didn't?"A. That I didn't do it or cause it to be done."↩5. "An economic interest is possessed in every case in which the taxpayer has acquired, by investment, any interest in mineral in place or standing timber and secures, by any form of legal relationship, income derived from the severance and sale of the mineral or timber, to which he must look for a return of his capital. * *"↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619727/	EUGENE K. MORLEY AND JOYCE C. MORLEY, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentMorley v. CommissionerDocket No. 15663-80.United States Tax CourtT.C. Memo 1982-586; 1982 Tax Ct. Memo LEXIS 159; 44 T.C.M. (CCH) 1337; T.C.M. (RIA) 82586; October 5, 1982. Eugene K. Morley, pro se. Alan I. Weinberg, for the respondent. GOFFEMEMORANDUM OPINION GOFFE, Judge: The Commissioner determined a deficiency in petitioners' Federal income tax for the taxable year 1976 which the parties have stipulated to be in the amount of $4,567.15. The only question before this Court is whether the section 217 1 moving expense deduction claimed by petitioners for the taxable year 1976 must be disallowed because it is properly allocable to tax exempt income within the meaning of section 911. The facts of this case have been fully stipulated. The stipulation of facts and stipulated exhibits are incorporated herein by this reference. Petitioners, husband and wife, resided in Winston-Salem, North Carolina, when they filed their petition in this case. They filed their joint Federal income tax return for the taxable year 1976 with the Internal Revenue Service Center, Philadelphia, 161 Pennsylvania. Petitioner Eugene K. Morley was employed from January 1 through May 15, 1976, by Northern Commercial Company (Northern) of Seattle, Washington, and was paid by Northern a total of $39,185.07 for salary and bonus for this period. Petitioners were residents of Bellevue, Washington, during petitioner's employment by Northern. (Hereinafter, petitioner in the singular will refer to petitioner Eugene K. Morley. Petitioner Joyce C. Morley is a party herein solely by reason of filing joint Federal income tax returns with petitioner.) On July 3, 1976, petitioner moved with his wife and three children from Bellevue, Washington, to Divonne-les-Bains, France. In making this move to France, petitioner paid moving expenses of $14,268.20 for which he was not reimbursed. Petitioner was empoloyed from September 1, 1976, until December 31, 1978, by Liberia Tractor & Equipment Company (Liberia), Monrovia, Liberia. Petitioner received earnings of $7,000 from Liberia during 1976, all of which were excludable from gross income under section 911(a)(1). During calendar year 1977, petitioner was paid $21,000 by Liberia, $20,000 of which was also excludable from gross income under162 section 911(a)(1). Petitioners deducted the full amount of their moving expenses on their 1976 tax return without regard to the allocation provisions of section 911. The Commissioner, in his statutory notice of deficiency, disallowed all but $509.58 of the moving expense deduction on the ground that section 911 (as applicable to the period in question) required allocation of the expense between exempt and non-exempt income and that the portion allocable to exempt income must be disallowed under this provision. The Commissioner computed petitioner's allowable moving expense deduction as follows: Excludable Foreign Earnings X Moving Expense/Total Foreign Earnings$7,000 + $20,000/ X 14,268.20 = $13,758.62$28,000Moving Expenses claimed$14,268.20Non-deductible portion13,758.62$ 509.58The sole issue for decision is whether moving expenses, otherwise deductible under section 217, must be disallowed because they are subject to the allocation provisions of section 911. Petitioners have the burden of proof. Rule 142(a), Tax Court Rules of Practice and Procedure; Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933). Section 217 of the Code allows163 a deduction for moving expenses paid or incurred during the taxable year in connection with the commencement of work by a taxpayer as an employee or as a self-employed individual at a new principal place of work. For 1976, the taxable year in question, section 911(a) of the Code allowed a qualified individual United States citizen employed abroad to exclude from gross income certain amounts of earned income attributable to services performed during that period. The amount of excludable foreign-source earnings was generally limited to $20,000. 2 Section 911(a), however, placed certain limitations on deductions, otherwise allowable, which were allocable to the excludable income. The relevant portion of the section provides that: 2An individual shall not be allowed, as a deduction from his gross income, any deductions (other than those allowed by section 151, relating to personal exemptions) properly allocable to or chargeable against amounts excluded from gross income under this subsection. Section 1.911-2(d)(6), Income Tax Regs., applicable to the taxable year 1976, provided the following method164 of allocation to determine the disallowed portion of an expense: 3If the earned income excludable under paragraph (a) or (b) of this section (determined without regard to the applicable $20,000 or $35,000 limitation) exceeds the earned income excludable under paragraph (a) or (b) of this section, the amount disallowed as a deduction shall be limited to an amount which bears the same ratio to the total of such items properly allocable to or chargeable against such earned income so excludable (determined without regard to the applicable $20,000 or $35,000 limitation) as the amount excluded from gross income under paragraph (a) or (b) of this section bears to such earned income (determined without regard to the applicable $20,000 or $35,000 limitation). In other words, when actual foreign income exceeded the allowable exclusion, the amount of the deduction disallowed was equal to the ratio of excluded earnings (the numerator) to total foreign-source earnings (the denominator). 4165 Petitioner argues that his position on the deductibility of moving expenses is supported by Commissioner v. Mendel,351 F.2d 580">351 F.2d 580 (4th Cir. 1965), revg. 41 T.C. 32">41 T.C. 32 (1963), thus requiring the application of the rule in Golsen v. Commissioner,54 T.C. 742">54 T.C. 742 (1970), affd. 445 F.2d 985">445 F.2d 985 (10th Cir. 1971). Under the rule of Golsen we will follow the decision of a United States Court of Appeals to which a case before us is appealable and which is squarely on point with our case. We held in Mendel that moving expenses were deductible as ordinary and necessary business expenses. The Court of Appeals, in reversing, held that their deductibility was not enumerated in the Code and they were, therefore, personal expenses and nondeductible under section 262. Subsequent to the decision in Mendel, Congress enacted section 217 which specifically allowed moving expenses as a deduction from gross income. The issue before us in the instant case is the relationship between sections 217 and 911(a). The rationale of the Court of Appeals in Mendel was based upon the absence of a specific provision allowing moving expenses; therefore, 166 the enactment of section 217 precludes application of the rule in Golsen,supra, to the Mendel decision. Petitioner further argues that his moving expenses are deductible in full because they are inherently personal in nature rather than business expenses and, as such, are not "properly allocable to or chargeable against" his income exempted from tax under section 911(a). Instead, petitioner urges that his moving expenses fall within the parenthetical language of section 911(a) and are therefore excepted from the allocation provision under the personal exemption exclusion. In support of his position, petitioner contends that section 217 authorizes the deduction of personal living expenses for qualifying taxpayers and that the enactment of section 217 did not alter their character from personal to business. Respondent maintains that the allocation must be made. We first considered this issue in Hartung v. Commissioner,55 T.C. 1">55 T.C. 1 (1970), revd. 484 F.2d 953">484 F.2d 953 (9th Cir. 1973), and held that the "enactment of section 217 was a decision by Congress to allow a deduction for moving expenses even though they are personal living167 expenses. As such they should be treated in the same manner as other personal expenses, no portion being allocable or chargeable to income." 55 T.C. at 4. 5After our decision in Hartung was reversed, we reconsidered the issue in Hughes v. Commissioner,65 T.C. 566">65 T.C. 566 (1975), and rejected our original position. We must, therefore, hold for the respondent on the basis of this authority. In 1978, Congress clarified the problem before us and specifically exempted moving expenses from the allocation provision 6 applicable to taxable years beginning after December 31, 1977. While the amendments to sections 217 and 911 by Congress corroborates our original view as the preferred interpretation, Congress did not choose to make the change retroactive. 7 Our decision herein is controlled by Hughes. Accordingly, we hold for respondent on this issue. 168 Decision will be entered for the respondent.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended.↩2. Sec. 911(c)(1)(A) as in effect at the end of calendar year 1975.↩3. This allocation formula is now found in sec. 1.911-5(a), Income Tax Regs.↩4. Petitioner's period of qualification spanned two taxable years. Therefore, his moving expenses are allocable to both years' sec. 911 income. Hempel v. Commissioner, a Memorandum Opinion of this Court dated June 23, 1947, and Brewster v. Commissioner,473 F.2d 160">473 F.2d 160, 163 (D.C. Cir. 1972), affg. 55 T.C. 251">55 T.C. 251↩ (1970).5. See also Markus v. Commissioner,T.C. Memo 1971-313">T.C. Memo. 1971-313, revd. without opinion 486 F.2d 1314">486 F.2d 1314↩ (D.C. Cir. 1973).6. Tax Treatment Extension Act of 1977, Pub.L. 95-615, 92 Stat. 3097, 3099. ↩7. The 1978 amendment follows the dissent in Hughes v. Commissioner,65 T.C. 566">65 T.C. 566↩ (1975), and accomplishes precisely what petitioner argues, the statutory removal of any hinderance to employee mobility.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619728/	Johnson Bronze Company v. Commissioner.Johnson Bronze Co. v. CommissionerDocket No. 4306-62.United States Tax CourtT.C. Memo 1965-281; 1965 Tax Ct. Memo LEXIS 47; 24 T.C.M. (CCH) 1542; T.C.M. (RIA) 65281; October 26, 196547 Petitioner corporation formed a subsidiary for the purpose of expanding its business in foreign countries beyond sales activities and subsequently turned the majority of its foreign sales accounts over to the subsidiary. Held, the subsidiary was a viable entity. Held further, the transactions attributed to the subsidiary were correctly attributed. Held further, respondent's allocation to petitioner of 100 percent of the income of the subsidiary was a clear abuse of discretion. Correct allocation determined. Paul G. Rodewald and William Y. Rodewald, Oliver Bldg., Pittsburgh, Pa., for the petitioner. Gerald Backer, for the respondent. DAWSONMemorandum Findings of Fact and Opinion DAWSON, Judge: Respondent determined deficiencies in petitioner's income tax for the taxable years 1959 and 1960 in the amounts of $76,594.97 and $99,118.94, respectively. Prior to trial the parties disposed of certain issues raised by respondent in his deficiency notice by agreeing to various adjustments. The only issue remaining for decision is whether any of the income of a whollyowned subsidiary of petitioner should be included in the taxable income of petitioner pursuant to sections 61 or 482 of the Internal Revenue Code of 1954. 48 1Findings of Fact Some of the facts have been stipulated and the stipulations of facts, together with the exhibits attached thereto, are incorporated herein by reference. Johnson Bronze Company (hereinafter sometimes referred to as petitioner) is a corporation organized under the laws of Pennsylvania in 1901 and has its principal place of business in New Castle, Pennsylvania. It engages in the manufacture and sale of bushings, bearings, and related products and has been under the control of the Flaherty family for 50 years. Johnson Bronze International, Inc., (hereinafter sometimes referred to as International) was organized under the laws of Panama in June 1959 as a subsidiary of petitioner. All of International's stock was acquired for $200,000 and has continuously been held by petitioner. Petitioner maintained manufacturing, sales, credit, research and development, engineering, warehousing, finance and export departments for which it employed about 1,200 persons. Through research and development petitioner has developed technological improvements in the production of its products. Petitioner has acquired 49 five United States patents and three United States registered trademarks. Petitioner sold its manufactured products to original engine manufacturers such as Ford, General Motors, and American Motors corporations for use in new automobile engines, to production engine rebuilders for use in rebuilding engines, and to customers for use in the repair of automotive engines. Petitioner's sales of parts for use in new engines were at prices set by competitive bidding by other manufacturers. Petitioner was willing to sell to the automotive industry for minimal profits, and at times deliberate losses, for two reasons both of which gave petitioner an advantage in obtaining sales of replacement parts. First, petitioner desired the prestige resulting from supplying parts for the current year's models; second, petitioner could thereby obtain the designs and requirements of the industry for the parts which petitioner was supplying. Petitioner's sales price for automotive replacement parts was set by the automobile manufacturers. Petitioner was bound to these prices, irrespective of costs. Petitioner's domestic and Canadian sales were obtained by salesmen and sales agencies (including warehousemen) 50 who maintained an inventory of petitioner's products, made over-the-counter sales, and handled the billing of customers. They received a commission based on their gross sales of petitioner's products. Foreign sales consisted principally of automobile replacement parts. Prior to the incorporation of International, many of petitioner's foreign orders were obtained by manufacturers' representatives with whom petitioner had contracts for exclusive overseas territories. These manufacturers' representatives received commissions that varied from 5 to 10 percent of sales according to the nature of the products sold. The selling price was usually the price quoted in petitioner's price lists less trade discounts. The terms of the sales were f.o.b., New Castle, with insurance fees and freight from New Castle being borne by the customers. In some cases petitioner was advised not to insure the merchandise because the customer had existing insurance covering such shipment. Both before and after the incorporation of International, substantial sales were made to approximately 30 American export firms by petitioner for resale overseas. These sales required handling similar to that required by petitioner's 51 direct foreign sales and were under the supervision of petitioner's export department. These export firms had their own customers and warehouse facilities, handled their own bookkeeping, and bore all risks of collection. The prices charged the export firms were computed on the basis of jobbers' net prices shown in petitioner's price lists, less various trade discounts and commissions which varied in amount according to the nature of the goods sold. By the time of the incorporation of International, petitioner had established an extensive export market and had developed trained personnel familiar with the problems and requirements of handling foreign sales. Moreover, petitioner's products were internationally well known and petitioner enjoyed an excellent reputation. As a result of petitioner's already established export market, and because of the close relationship of bearings and piston rings, in late 1957, the Muskegon Piston Ring Company (hereinafter sometimes referred to as Muskegon) agreed to sell piston rings manufactured by Muskegon to petitioner for distribution and resale in foreign countries. After its incorporation, International also bought piston rings from Muskegon for 52 resale in foreign countries. There were occasions when foreign purchasers would order a part which petitioner did not manufacture or maintain in its inventory. In those situations petitioner would order such part from the Effingham Regrinding Company (hereinafter sometimes referred to as Effingham), or would supply an Effingham product which petitioner had in its inventory because a customer had returned a previous purchase. After its incorporation, International also purchased products from Effingham. By 1959 it had become apparent that petitioner's export sales were on a decrease. As an example, export sales to Brazilian customers fell from $231,000 in 1957 to $36,000 in 1958. This fact was most disturbing to petitioner's officers and directors and they desired to remedy the situation. Petitioner was advised by industrialists in other countries to go into business in those countries (beyond the selling activities it was then conducting). Among the reasons given the officers and directors for more direct involvement in foreign countries was the fact that manufacturers in foreign countries, because of lower overhead and labor costs, were able to compete in foreign markets at prices 53 which United States manufacturers could not profitably meet. Also local prejudice in favor of local products and, in many cases, outright nationalistic policies of foreign governments (such as restrictions on imports), were making it more difficult to export into, and sell in, certain foreign countries. But, in spite of the advice, petitioner had declined to become directly involved in foreign countries. One of the directors of petitioner, J. Preston Flaherty, a substantial shareholder, was strongly opposed to entering the foreign field in any form. Other directors and officers were not completely sold on the idea either. They were concerned about such dangers in foreign countries as expropriation, economic instability and inflation, potential tort or contract liability, foreign taxes, and liabilities arising out of joint or partnership operations, and the unknown dangers which lurk behind involved business transactions. They concluded that there was no effective way to insulate petitioner from such risks or to limit such losses if petitioner entered into business in foreign countries either by itself or in some form of partnership with foreign persons or entities. Even a limited partnership 54 was believed to be unsafe since there was doubt as to how effective the limitations would be under the laws of the foreign countries. Therefore, the officers and directors decided that if petitioner was to go into business in foreign countries it should form a subsidiary in order to limit losses and potential liabilities to the assets in the subsidiary. In 1958, representatives of Sinterosa, a Brazilian limited partnership that manufactured bushings and bearings, approached petitioner with the proposal that petitioner and Sinterosa form a joint partnership which would use petitioner's know-how and experience in manufacturing bushings and bearings in Brazil. Petitioner sent one of its officers to Brazil to investigate this possibility. On the basis of his report, and a letter from Price Waterhouse, Peat & Co., as to the uncertainty of Sinterosa's financial condition, petitioner's directors decided not to accept the proposal and so notified Sinterosa. Shortly thereafter, Walter Biberschik, one of the minority partners in Sinterosa, came to New Castle and persuaded petitioner's directors that in order to retain any part of the Brazilian market, it had better actively participate in manufacturing 55 and sales in Brazil through Sinterosa. Petitioner's directors decided to form International for the purpose of entering into a limited partnership with Sinterosa. It was decided that a Latin-American corporation would have an advantage over a United States corporation because Latin-American courts would be less likely to impose contract or tort liability upon the parent by "piercing the corporate veil." It was also believed that a Latin corporation, having less color of "Yankee Imperialism" than a United States corporation, would be able to operate more effectively in South America. Panama was chosen as the location of International because of the similarities of its corporation laws and those of the United States. Federal and State tax consequences were considered by petitioner's directors in the formation of International but were not the controlling factor in the decision to form International. It was decided that a Western Hemisphere Trade Corporation, in spite of the tax benefits granted by sections 921 and 922, would not serve petitioner's purposes as their business would then be limited to the Western Hemisphere. International was incorporated under the laws of Panama in June 56 1959. Petitioner was issued all of International's stock in exchange for $200,000. International acquired a one-half interest in Sinterosa which changed its name to Johnson Bronze do Brasil Auto Pecas Limitada (hereinafter sometimes referred to as Johnson Bronze do Brazil). Johnson Bronze do Brazil expanded its manufacture and sale of bushings and bearings in Brazil with the aid of some obsolete machinery which petitioner had owned and transferred to International and which International had shipped to Brazil. International also purchased machinery and equipment costing $123,000 in the United States and England and shipped it to Brazil where Johnson Bronze do Brazil put it into operation. Petitioner transferred to International, without any consideration or written instrument, its goodwill, know-how, trade name, trademarks, and similar intangibles for use in foreign countries. In the same manner, petitioner has made similar transfers to Ferraloy, Inc., a domestic subsidiary of petitioner, for use in the United States. International allowed Johnson Bronze do Brazil to use the aforementioned assets and later granted the Nagato Metal Industrial Corporation, a Japanese company in which 57 it had acquired a 15 percent stock interest, the right to use the know-how acquired from petitioner in exchange for a royalty. In connection with its dealings in Japan, it was necessary for International to give to the Japanese appointee the right to affix International's "han" which is a formalized signature binding International formally to any document to which the "han" is affixed. Similarly, in 1960, International granted to the Sintermetal Corporation, an Argentine manufacturer of bushings and bearings, the right to use the intangible assets acquired from petitioner in exchange for a royalty. In 1961 International guaranteed a loan of Sintermetal's and later acquired 35 percent of its stock. Beginning July 1, 1959, International took over most of petitioner's foreign accounts. Canadian sales were excepted because they were handled as domestic sales by petitioner. Petitioner continued sales to domestic firms which in turn exported the goods to their own foreign customers, the identity of which was often unknown to petitioner. When International took over the foreign sales, petitioner turned over to International $35,000 to $40,000 of foreign orders already accepted by petitioner 58 in its own name. In 1958 petitioner had sales in excess of $1,000 to each of 75 customers in foreign countries. In 1960 International had sales in excess of $1,000 to each of 115 customers in foreign countries. Neither International nor petitioner sold to customers of the other. International bought bushings, bearings, and related products from petitioner as needed, piston rings from Muskegon, and connecting rods from Effingham to fill its orders from unrelated customers in foreign countries. Sales of Muskegon and Effingham products represented an insignificant part of International's sales. International adopted its own bylaws and elected its own officers and directors who held meetings, kept minutes, and made the decisions necessary to the running of a corporation. Of International's three officers, only Thomas H. Conner, vice president and treasurer, was also an officer of petitioner, and of its three directors, only Edward M. Flaherty was a director of petitioner. International had no employees, paid no salaries, owned no offices or office equipment, and had no warehouse. Petitioner's employees performed executive and clerical services for International. International reimbursed 59 petitioner monthly on the basis of the estimated time spent by petitioner's employees on International's work. These estimates were from time to time brought up to date. International paid petitioner $100 monthly as rent for space and equipment it used and $10 per month for sundry small supplies it consumed. International paid petitioner 5 percent of the purchase price of the piston rings International bought from Muskegon as compensation for furnishing International with warehouse facilities for the piston rings. International also reimbursed petitioner for salary and travel expenses paid on behalf of one of petitioner's engineers who went to Brazil on behalf of Johnson Bronze do Brazil. All these amounts were reasonable. Except for a period of transition after International's incorporation, during which International stamped "International" on petitioner's forms, International has had its own forms and documents. International maintains bank accounts at the First National City Bank of New York, the Chase Manhattan Bank in New York, two banks in Tokyo, Japan, and one in Buenos Aires, Argentina. International has consistently maintained complete and separate records and books of account. 60 On occasion certain sales were entered incorrectly upon International's books and were reversed upon the discovery of error and entered upon petitioner's books. International has paid commissions on sales to agents or representatives acting on its behalf. International had its own price lists. Prior to International's incorporation, petitioner sold products to the Dubars Company for resale. The Dubars Company owed petitioner a large amount of money and it was decided that the arrangement would be changed to make Dubars a shipping and collection agency for International. Any collections made by Dubars were to be deposited in International's Chase Manhattan account. Some of the sales orders which were accepted and filled by International were originally addressed to petitioner. International and petitioner share the same office building on South Mill Street in New Castle, Pennsylvania. A policy was attempted whereby, as a matter of convenience, petitioner's and International's addresses on South Mill Street were denominated by different numbers, but this was not always adhered to. All sales accepted by International, whether they were originally addressed to petitioner or International, 61 were accepted on a form that made acceptance conditional upon the following terms which were stated on the back of the acceptance form: If the base price by F.A.S. or F.O.B. (plant or port), the total price will equal the sum of the F.A.S. or F.O.B. base price and actual cost of transportation, insurance, forwarding charges and other costs of exportation incurred from F.A.S. or F.O.B. point specified to point of passage of title as stated below. Title, ownership, right of possession, and risk of loss with respect to the goods described herein shall remain with the SELLER until: (a) Discharged overside from overseas vessel or aircraft at port of entry of the country, outside the United States, in which PURCHASER has specified delivery, or (b) If transported other than by overseas vessel or aircraft, until such goods arrive at the country outside the United States, in which PURCHASER has specified delivery. The manner of payment or method of shipment shall not in any way limit or modify the rights of the SELLER as the legal owner of the goods to have control over and right to possession of them during the course of shipment and until title be transferred as aforesaid. All customers 62 to which International was shipping products were advised that the sale was that of International and not petitioner's regardless of whether they had originally sent the order to International or petitioner. International arranged and paid for the shipment of the products it sold by using various freight companies. International carried its own insurance on goods in transit, payable to International or to an agent or shipper as an agent of International. International was reimbursed for its shipping and insurance expenses by the customer. The prices that petitioner charged International for products manufactured by petitioner and sold to International were computed on each item by adding the allocable overhead and a profit factor to petitioner's cost as determined by petitioner. These costs were determined from detailed calculations and were accurate to the best of petitioner's ability. They were reviewed once a year for the purpose of bringing them up to date but there was no allowance for variance once the cost was determined. The allocable portion of overhead was determined by eliminating those items of overhead which would not have been incurred if petitioner had sold its goods 63 exclusively to customers like International for resale in foreign countries. In determining the profit factor, petitioner attempted to figure the historical probability of each line of products as a percentage of manufacturing cost. For example, for products in the automotive stock line, which were about 75 percent of the dollar sales to International, petitioner used 6 percent because it figured its profits for years prior to 1959 to average 6 percent. In the other lines the percentage was set by comparing profitableness of those lines to the automotive stock line. Overall sales of petitioner were used as data for the profit factor computation rather than just the sales to customers that resold in foreign countries. International always paid petitioner for the products it bought from petitioner within 30 days of the sale although it often would not receive payment from its customers for 6 months or longer. Petitioner sold to jobbers, warehousemen, and exporters at prices which were usually higher and only rarely lower than those prices charged to International for the same or similar goods. Petitioner did allow such purchasers trade discounts and commissions which were denied International. 64 Petitioner's and International's financial statements for 1959 contain the following: Johnson BronzeJohnson BronzeCompanyInternational, Inc.Sales: Customer$17,677,355.96$281,678.97Inter-company218,604.17 0$17,895,960.13$281,678.97Less returns and allowances, freightand discount456,441.528,017.53NET SALES$17,439,518.61$273,661.44Cost of products sold13,339,949.97190,845.70$ 4,099,568.64$ 82,815.74Expenses: Shipping$ 711,418.20$ 0Selling1,213,409.2118,310.61Administrative and general1,315,803.49604.58$ 3,240,630.90$ 18,915.19Bad debts24,676.582,000.00$ 3,265,307.48$ 20,915.19$ 834,261.16$ 61,900.55Other income: Interest earned$ 24,710.09$ 0Dividends received5,274.220Recoveries on accounts previouslycharged off6,163.110Miscellaneous5,243.520$ 41,390.94$ 0INCOME BEFORE TAXESON INCOME$ 875,652.10$ 61,900.55Taxes on income: Provision for year: Federal$ 430,000.00$ 0State36,000.000Adjustment of prior years (deduction)4,457.620$ 461,542.38$ 0NET INCOME$ 414,109.72$ 61,900.55Petitioner's and International's financial statements for 1960 contain the following: Johnson BronzeJohnson BronzeCompanyInternational, Inc.Sales: Customer$15,116,327.27$601,231.89Inter-company318,228.72 0$15,434,555.99$601,231.89Less returns and allowances, freightand discount406,583.8521,683.84NET SALES$15,027,972.14$579,548.05Cost of products sold11,792,363.10339,380.41$ 3,235,609.04$240,167.64Expenses: Shipping$ 937,385.22$ 0Selling947,807.0173,244.03Administrative and general1,263,244.076,591.68$ 3,148,436.30$ 79,835.71Bad debts$ 60,386.84$ 14,747.40$ 3,208,823.14$ 94,583.11$ 26,785.90$145,584.53Other income: Interest earned$ 26,337.46$ 0Dividends received5,954.750Recoveries on accounts previouslycharged off8,377.140Miscellaneous12,356.940$ 53,026.29$ 0$ 79,812.19$145,584.53Other deductions$ 25,000.000INCOME BEFORE TAXESON INCOME$ 54,812.19$145,584.53Taxes on income: Provision for the year: Federal$ 22,000.00$ 0State1,100.000$ 23,100.00$ 0NET INCOME$ 31,712.19$145,584.53Petitioner's 65 and International's balance sheets as of December 31, 1959, contained the following: Johnson BronzeJohnson BronzeCompanyInternational, Inc.CURRENT ASSETSCash$ 600,681.90$ 54,494.35Obligations of the United StatesGovernment and Agencies - at cost(approximate market)508,537.550Receivables: Trade$ 1,948,257.71$199,453.18Less allowance for losses in collection20,000.002,000.00$ 1,928,257.71$197,453.18Wholly owned subsidiaries76,728.910$ 2,004,986.62$197,453.18Inventories: Finished products$ 1,842,448.19$ 35,398.06 Work in process785,135.640Raw materials1,115,356.590Manufacturing supplies132,213.330$ 3,875,153.75$ 35,398.06Prepaid insurance and other expenses62,546.000TOTAL CURRENT ASSETS$ 7,051,905.82$287,345.59INVESTMENTS AND OTHER ASSETSInvestments in and advances to whollyowned subsidiaries$ 370,000.00$ 0Capital stock of other company - atcost(quoted market price $182,752.77)20,000.000Other investment016,000.00Miscellaneous receivables, advances,deposits, etc.69,211.880$ 459,211.88$ 16,000.00PROPERTY, PLANT AND EQUIPMENT- at cost, less allowances fordepreciation and amortizationLand$ 134,605.45$ 0Buildings, machinery and equipment$ 6,418,263.82$ 0Less allowances for depreciationand amortization$ 3,078,650.840$ 3,339,612.98$ 0Facilities subject to amortizationunderprovisions of Revenue Act of 1950: Buildings, machinery andequipment$ 545,498.35$ 0Less allowance for amortization545,498.350$ 0$ 0$ 3,474,218.43$ 0PATENTS - at cost, less amortization520.080ORGANIZATION EXPENSE - at cost,less amortization0876.00$10,985,856.21$304,221.59CURRENT LIABILITIESAccounts payable and accrued expenses: Trade accounts$ 724,239.83$ 3,179.46Johnson Bronze Company039,141.58Salaries, wages, vacations andcommissions463,839.920Taxes, other than taxes on income140,238.720Miscellaneous17,419.180$ 1,345,737.65$ 42,321.04Federal and State taxes onincome - estimated429,491.600TOTAL CURRENT LIABILITIES$ 1,775,229.25$ 42,321.04STOCKHOLDERS' EQUITYCommon stock - par value $.50 pershare: Authorized - 1,200,000 sharesIssued and outstanding - 370,352 shares$ 185,176.000Capital stock - par value $100.00 pershare: Authorized - 2,000 sharesIssued and outstanding - 2,000 shares0200,000.00Additional capital676,987.180$ 862,163.18$200,000.00Retained earnings8,348,363.7861,900.55$ 9,210,626.96$261,900.55$10,985,856.21$304,221.5966 Petitioner's and International's balance sheets as of December 31, 1960, contained the following: Johnson BronzeJohnson BronzeCompanyInternational,Inc.CURRENT ASSETSCash$ 370,820.10$ 25,524.28Marketable securities - at cost(approximate market): Obligations of the United StatesGovernment and Agencies$ 902,989.01$ 0Municipal securities204,781.630$ 1,107,770.64$ 0Receivables: Trade$ 2,002,418.21$225,681.77Less allowance for losses in collection21,500.008,000.00$ 1,980,918.21$217,681.77Wholly owned subsidiary20,655.380$ 2,001,573.59$217,681.77Inventories: Finished products$ 1,367,040.96$ 20,082.90 Work in process472,615.310Raw materials768,267.140Manufacturing supplies112,713.440$ 2,720,636.85$ 20,082.90Prepaid insurance and other expenses73,302.600TOTAL CURRENT ASSETS$ 6,274,103.78$263,288.95INVESTMENTS AND OTHER, ASSETSInvestment in wholly owned subsidiary$ 200,000.00$ 0Investment in Johnson Bronze Companyof Brazil - a partnership0169,219.86Capital stock of other company - at cost(quoted market price $183,007.34)20,000.000Miscellaneous receivables, advances,deposits, etc.104,904.161,500.00$ 324,904.16$170,719.86PROPERTY, PLANT AND EQUIPMENT- at cost, less allowances fordepreciation and amortizationLand$ 175,723.42$ 0Buildings, machinery and equipment6,838,906.260Less allowances for depreciationand amortization3,434,922.250$ 3,403,984.01$ 0Facilities subject to amortization underprovisions of Revenue Act of 1950: Buildings, machinery andequipment$ 417,938.71$ 0Less allowance for amortization417,938.710$ 00$ 3,579,707.43$ 0PATENTS - at cost, less amortization$ 192.51$ 0ORGANIZATION EXPENSE - at cost,less amortization0292.00$10,178,907.88$434,300.81CURRENT LIABILITIESAccounts payable and accrued expenses: Trade accounts$ 480,863.07$ 6,160.35Johnson Bronze Company020,655.38Salaries, wages, vacationsand commissions441,607.780Taxes, other than taxes on income121,980.360Miscellaneous15,289.970$ 1,059,741.18$ 26,815.73Federal and States taxes onincome - estimated24,968.350TOTAL CURRENT LIABILITIES$ 1,084,709.53$ 26,815.73STOCKHOLDERS' EQUITYCommon stock - par value $.50 per share: Authorized - 1,200,000 sharesIssued and outstanding - 370,352 shares$ 185,176.00$ 0Capital stock - par value $100.00 per share: Authorized - 2,000 sharesIssued and outstanding - 2,000 shares0200,000.00Additional capital$ 676,987.180$ 862,163.18$200,000.00Retained earnings8,232,035.17207,485.08$ 9,094,198.35$407,485.08$10,178,907.88$434,300.8167 International's retained earnings of $207,485.08 on December 31, 1960 (18 months after International's incorporation), represent 104 percent of the $200,000 invested by petitioner. Petitioner did not receive a dividend from International in 1959 or 1960. The following schedule is a price list of some of the automobile bearings and bushings manufactured and sold by petitioner including some of its highest-volume items. The schedule indicates the price to International, the lowest overseas price, the price to production engine rebuilders (various firms utilizing petitioner's manufactured products in rebuilding engines), the warehouse distributor price, and the price to the Allan Export Company (an American export company which purchased products in the manner described above). Connecting rod bearings and main bearing sets constitute approximately 56 percent, purchased bearings approximately 3 percent, and piston pin bushings and miscellaneous bushings approximately 7 percent of the sales attributed to International. ProductionPriceLowestEngineWarehouseto Inter-OverseasRebuildersDistributorPART NUMBERnationalPricePrice SchedulePriceAllanConnecting RodBearingsFB 301 X 10 CA$1.06$ 1.23$ .78$ 1.16$1.21FB 302 X 10 CA.951.23.781.161.21FB 303 X 60 CA.32.72.45.72DE 30 X 20 SB.21.42.21.41.43CB 590 X 10 SB.28.44.32.41.43FD 675 X 30 CP.43.48.33.46.49Main Bearing SetsSet 41 X 201.712.481.682.382.48Set 12 X 302.093.322.343.183.31Set 507 X 303.114.393.604.234.41Set 16 X 201.672.481.682.382.48Set 39 X 102.673.082.542.903.02Purchased BearingsSet 577 Standard1.881.381.33Set 577 X 102.101.481.43Set 4004 X Standard2.522.282.19Set 4004 X 202.862.732.63Set 4018 X Standard2.161.982.431.90Piston Pin BushingsWB 3038 LMS.0443.00/M45.00/M45.00/MWB 3065 LMS.1183.00/M92.00/M92.00/MWB 1824 LMS.0738.30/M43.00/M43.00/MWB 3037 LMS.0343.00/M54.00/M54.00/MMiscellaneous BushingsKB 10612 S.0764.00/MLB 525.0647.00/MLB 528.0846.50/MLPH 200.0754.60/M.065006.0647.00/M68 Although prior to 1959 no major claims had been brought against petitioner, in 1960 the Collector of Internal Revenue of Heilbronn, West Germany, attempted to collect a turnover tax from petitioner with respect to a 1957 sale to German corporation. International also became involved in a dispute in India over a 1962 sale International made to the Eastern Trading Agency. The dispute developed to the point that the Indian Ambassador to the United States and the United States Department of Commerce intervened. International has never filed a United States income tax return. Opinion In support of his determination that the net income of International should be included in the income of petitioner, respondent advances three alternative positions: 1. International was not a viable business entity recognizable for Federal income tax purposes. 2. Even if International is deemed a recognizable separate entity, International is merely a conduit to pass title and acts as petitioner's agent in the receipt of income; therefore, the gross income and deductions attributed to International, in fact and in substance, should be attributed to petitioner under section 61. 3. Respondent's allocation of 69 International's sales to petitioner in the amount of $64,191.86 in 1959 and $152,168.53 in 1960, pursuant to the provisions of section 482, is not a clear abuse of discretion. We will discuss each of these points. 1. Does International constitute a viable business entity for Federal income tax purposes? To be afforded recognition for Federal tax purposes, a corporation must be a viable business entity; that is, it must have been formed for a substantial business purpose or have been actually engaged in some substantive business activity other than avoidance of taxation. Aldon Homes, Inc., 33 T.C. 582">33 T.C. 582, 596 (1959). The converse is, of course, also true; if a corporation is formed to serve a business purpose or is actually conducting business, it must be recognized as a separate entity. Moline Properties, Inc. v. Commissioner, 319 U.S. 436">319 U.S. 436 (1943); and V. H. Monette and Co., Inc., 45 T.C. No. 2 (October 11, 1965). It is respondent's first contention that International did not, in the years 1959 and 1960, constitute a viable entity for Federal income tax purposes because petitioner did not have a bona fide business purpose in creating International and International did not actually 70 engage in substantial business activities. Petitioner, on the other hand, contends that it was motivated by substantial bona fide business purposes and further that International did in fact actively carry on its own business as an entity separate from petitioner. We agree with petitioner. Petitioner's primary intention in forming International was to insulate itself from liabilities that might be incurred while entering into various business transactions in foreign countries, thereby limiting its losses to the assets in the subsidiary. 2For many years prior to the formation of International, petitioner had been urged by industrialists in other countries to enter into business in those countries beyond the foreign selling operations petitioner was then conducting. Petitioner declined to 71 do so for various reasons set forth in our findings of fact. Specifically, there was concern about such dangers as expropriation, economic instability and inflation, potential tort or contract liability, foreign taxes, liabilities arising out of joint operations with foreign taxes, liabilities arising out of joint operations with foreign partners and other dangers which they felt would be present but which were not specifically foreseeable. In light of the history of expropriations and economic instability in various nations in which petitioner desired to operate, these fears have proven to be not wholly imaginary or illusory. This is borne out by the dispute with an Indian customer over a shipment made by International and the attempt by the Heilbronn West German Government to collect a turnover tax. Also, the officers and directors were aware that foreign sales, so important to petitioner, had fallen off drastically. (Brazilian sales fell from $231,000 in 1957 to $36,000 in 1958). They were warned by advisors that foreign sales could not successfully be maintained, let alone expanded, if petitioner continued to conduct its foreign sales in the manner it had in the past. Foreign corporations 72 were beginning to compete for the foreign market at prices which United States manufacturers could not profitably meet because of higher overhead and certain restrictions on imports imposed by various countries. In 1958 representatives of Sinterosa approached petitioner proposing that petitioner become a partner and use its funds and know-how in the direct manufacture and sale of bearings and bushings in Brazil. Petitioner sent its vice president in charge of operations to Brazil for the purpose of investigating this possibility. However, on the basis of his report and a very discouraging report from Price Waterhouse, Peat & Co., concerning Sinterosa's financial condition, petitioner reluctantly decided not to become involved with Sinterosa. Shortly thereafter, Walter Biberschik, one of the minority partners of Sinterosa persuaded petitioner's directors that partnership with Sinterosa was essential if petitioner wanted to retain any part of the Brazilian market. It was then decided to form International to enter into partnership with Sinterosa so that Johnson Bronze would be insulated from the risks of foreign operations. While we are certain that petitioner's directors and officers 73 did consider the tax consequences resulting from the formation of a subsidiary, the evidence is convincing that "insulation" was the primary reason for the incorporation. We further hold that International did actually function so as to fulfill the intended business purpose of insulation; that, by becoming a partner with Sinterosa in Johnson Bronze do Brazil, petitioner's liability was limited to the assets of International. Whether or not the risks sought to be avoided were actually present and whether or not the method adopted would successfully avoid the risks were not important. The important fact is that the parties were concerned about these risks and took steps to avoid them. Polak's Frutal Works, Inc., 21 T.C. 953">21 T.C. 953, 973 (1954). We are unimpressed by respondent's reference to the fact that International, by retaining its 1959 and 1960 earnings instead of distributing them, did not minimize the amount risked. This decision was within management's discretion and does not alter the fact that petitioner's assets, worth 20 times International's assets, were not exposed to liability. Respondent also offers as proof that International was not a separate entity the fact that many 74 of petitioner's customers were turned over to International while petitioner made every effort to convey to its customers the idea that they were still dealing with petitioner. This, as well as respondent's other arguments based on the close working relationship of petitioner and International, does not detract from the fact that International was intended to, and in fact did, serve the bona fide purpose of insulating petitioner from the various risks of foreign operation. It was said in National Carbide Corporation v. Commissioner, 336 U.S. 422">336 U.S. 422 (1949): [A] corporation formed or operated for business purposes must share the tax burden despite substantial identity, in practical operation with its owner. * * [When] a corporation carries on business activity the fact that the owner retains direction of its affairs down to the minutest detail, provides all of its assets and takes all of its profits can make no difference tax-wise. 2. Do the income and deductions attributed to International in fact belong to petitioner? Having concluded that International is entitled to recognition as a separate entity, we now turn to the specific activities conducted in the name of International which 75 respondent contends were, in fact and substance, those of petitioner. The transactions so questioned are sales purportedly made by International to foreign customers, most of which were comprised of articles manufactured by petitioner. However, a few of the sales consisted of articles manufactured by the Muskegon Corporation and the Effingham Regrinding Company. We are primarily concerned with the transactions involving the sale of petitioner's products since they composed over 90 percent of International's sales. Sales of other manufacturers' products will be discussed later. It is respondent's contention that International was in no position to render any service, supply any asset or serve any other business function; that petitioner, by denominating certain sales as those of International, was merely syphoning off income which would thereby escape Federal taxation. Petitioner argues that International did in fact conduct extensive business activities insofar as these transactions are concerned, and therefore the sales should not be attributed to petitioner. We agree with petitioner. Generally, if a taxpayer actually carries on business in the form chosen, the tax collector may 76 not deprive him of the incidental tax benefits flowing therefrom unless it first is found to be a fiction or a sham. Polak's Frutal Works, Inc., supra.Therefore, petitioner is entitled to conduct his business in whatever manner he desires without having to maximize revenue for the Government. Unless the transactions attributed to International are determined to be shams, they are not to be disregarded. Sanford H. Hartman, 43 T.C. 105">43 T.C. 105 (1964). We find that International performed enough services with respect to the attributed sales that it cannot be considered a mere sham. Orders that were handled by International would come into the office addressed either to petitioner or International. Petitioner and International shared the same office and as a result their mail was quite often combined, although there were attempts to keep it straight by designating each one's address by a different number. Once the orders were received, they were acknowledged by petitioner or International, depending upon which would service the order, not necessarily upon to whom the order was addressed. The acknowledgments were sent on forms bearing the name of petitioner or International, except during 77 the transitional period when International used some of petitioner's forms with "International" stamped or typed thereon to indicate that acceptance of the order was by International. International's acknowledgments of orders contained a statement to the effect that the customer's order was accepted in accordance with terms and conditions stated on the reverse side and quoted in our findings of fact. One of such terms was a provision to the effect that title to the products sold remained in International until they reached the country of destination. This title rider was not used by petitioner. We are satisfied that, even if the customer sent his original order to petitioner, the acknowledgment and the acceptance on International's forms, along with International's unique conditions of acceptance, put the customer on sufficient notice that International, and not petitioner, was the corporation with whom the customer had contracted. International did not maintain an inventory of petitioner's products but would fill its sales orders by purchasing the needed items from petitioner. International did maintain an inventory of Muskegon and Effingham products and stored them in petitioner's 78 warehouse. Petitioner received 5 percent of the purchase price paid by International for the product. The prices charged by petitioner to International for items manufactured by petitioner and the storage charge for items International bought from other manufacturers will be discussed later. International would usually pay for the items bought within one month, although the average time for payment by its customers was 6 months. International took title which included all risks of ownership to the purchased products. It would then make arrangements for shipment of the products sold with various freight carriers. International carried its own insurance on products in transit, payable to International or one of its agents. International retained title until the products arrived at the port of destination. The customers at this time would be liable for the cost of the goods, insurance, and freight. As title passed to the customer, the risk of the customer's bad credit remained on International. This risk has been shown by International in its monthly statements to be vry real. International kept its own books, the accuracy of which has not been questioned by respondent, and maintained 79 its own bank accounts in Argentina, New York, and, in subsequent taxable years, in Japan. International paid commissions on sales to various agents some of which were under exclusive agency contracts to petitioner. Dubars handled some shipping and collection for International, and would deposit all collections into International's account at Chase Manhattan Bank in New York City. In view of the functions that International served, such as insulating petitioner from potential liability on the contracts of sale with foreign customers, arranging shipment and insurance, and bearing the burden of the risk of loss and credit, we find that International was not merely a conduit to pass title. We further find that, with few exceptions, the sales credited to International should not be disregarded or attributed to petitioner. However, the sales that had been accepted by petitioner in its name, before International came into existence, and were later put on International's books in reality belong to petitioner and International should not be entitled to the profits therefrom. Respondent contends that there was no business purpose beyond tax avoidance for petitioner turning over the sales to 80 International. We believe that as long as International did actually serve the business functions enumerated above, petitioner's motives need not be heavily laden with business purposes or devoid of tax considerations. Respondent contends that since International did not have any warehouse facilities, employees, goodwill, or know-how, it lacked the wherewithal to transact the sales. We know of no requirement indicating that International must possess its own facilities, employees, and know-how. Rather, we think it sufficient that petitioner supplied these things and was compensated for them either by specific allocations or by the price paid petitioner by International for the products. Frank v. International Canadian Corporation, 308 F. 2d 520 (C.A. 9, 1962). Respondent contends that International sold to the same customers to whom petitioner had sold prior to International's incorporation. The fact that International took over some of petitioner's customers does not mean that the sales should be attributed to petitioner. See Polak's Frutal Works, Inc., supra, and Frank, supra.Moreover, International has greatly expanded the list of customers petitioner turned over to it. Respondent 81 contends that petitioner maintained no inventory of petitioner's items, but only purchased what it sold. We believe that it is not essential for International to keep an inventory, but that this should be a factor in determining the price petitioner charges International for its products. Respondent contends that what sales would be in petitioner's name or in International's name was in petitioner's sole discretion, and, further, that petitioner could have refused at any time to sell any of its products to International. While it may be true that petitioner could decide who would earn the income, the fact remains that International did earn the income from its sales. We do not deem the fact that a parent or other stockholder could, if it so desired, prevent a subsidiary from functioning by cutting off its supplies or forcing a cessation of its operations a sufficient reason to pierce the corporate veil. Our only concern is that International was in fact serving the functions described and not that petitioner could have caused International to cease functioning. Respondent contends the fact that petitioner deliberately sold to automobile manufacturers at losses in order to obtain the 82 profitable replacement business should prevent International from reaping the benefit of profits on replacement parts. We believe that petitioner's short term sacrifice is in the nature of goodwill, and as such should not prevent International from contracting for sales in its own name. Rather, this should be considered when determining what price petitioner should have charged International for products manufactured by petitioner. Insofar as International's sales of Muskegon's and Effingham's products are concerned, we believe that the proof is even stronger that they were actually International's sales than in the case of sales of petitioner's products, and that, like International's sales of petitioner's products, these sales were correctly attributed to International. 3. Is respondent's allocation of $64,191.86 in 1959 and $152,168.53 in 1960 pursuant to the provision of section 482 a clear abuse of discretion? Having decided that International is a separate entity, and that most of the sales attributed to International were in fact taxable to it, we now turn to the intercorporate transactions between petitioner and International. Respondent has determined that 100 percent of 83 International's income from its sales of 1959 and 1960 should be included in petitioner's income. As statutory authority for his action, respondent relies upon section 482 which provides that in any case of two or more organizations (whether or not incorporated or whether or not organized in the United States) owned or controlled directly or indirectly by the same interests, the secretary or his delegate may allocate gross income, deductions, credits, or allowances to any such organizations, if he determined that such allocation is necessary in order to prevent evasion of taxes or clearly to reflect the income of such organizations. One of the principal reasons for the enactment of section 482 and its predecessors was to prevent the avoidance of taxes by shifting income from a domestic business to a foreign corporation controlled by the same interests. Asiatic Petroleum Co. (Del.) Ltd. 31 B.T.A. 1152">31 B.T.A. 1152 (1935), affd. 79 F. 2d 234 (C.A. 2, 1935); Jesse E. Hall, Sr., 32 T.C. 390">32 T.C. 390 (1959). There can be little doubt that one of the reasons for having International handle the questioned sales was to avoid payment of United States income taxes, and we are satisfied that respondent is justified 84 in invoking section 482 with respect to those profits to which petitioner was entitled. It has been held that respondent is not limited to allocation of gross income, but may allocate net income as a logical short-cut to allocating gross income and deductions. Ballentine Motor Co., 39 T.C. 348">39 T.C. 348 (1962), affd. 321 F. 2d 796 (C.A. 4, 1963), and Hamburgers York Road, Inc., 41 T.C. 821">41 T.C. 821 (1964). The decided cases make it clear that respondent has broad discretion in applying section 482 and that, in the absence of proof that he abused his discretion, respondent's determination should be sustained. See Hamburgers York Road, Inc., supra. In order to prove respondent has abused his discretion petitioner must establish that respondent's determination is arbitrary, capricious, and unreasonable. Grenada Industries, Inc., 17 T.C. 231">17 T.C. 231, 255 (1951). We think petitioner has proven that a 100 percent allocation of sales to petitioner is arbitrary and unreasonable in light of the fact that International actually was a viable business entity and served sufficient business functions insofar as the sales are concerned. Therefore, we must modify respondent's determination. It is apparent that the section 48285 requisite of direct or indirect common ownership is present in the case of a parent and subsidiary. However, common ownership does not prohibit all transactions between the two controlled corporations, per se, for as we stated in Ballentine Motor Co., Inc., supra, at p. 357, "taxpayers owned or controlled by the same interests may enter into transactions inter se and, if fair, or resulting from arm's length bargaining, such transactions will be undisturbed." See also Hamburgers York Road, Inc., supra. Consequently, the standard to be applied in every case is that of an uncontrolled taxpayer dealing at arm's length with another uncontrolled taxpayer.3 See 1.482-1(b)(1), Income Tax Regs. An uncontrolled corporation dealing at arm's length with petitioner would not have, without being compensated, performed the business services that International performed. On the other hand, had petitioner been dealing at arm's length with an unrelated corporation, we believe that, because petitioner performed services above and beyond the mere manufacture of goods, it would have demanded a fixed fee or a share of the profits. The question is what share of the profits, or what price for its goods, 86 would petitioner have demanded and received if it had been dealing with a stranger. Nat Harrison Associates, Inc., 42 T.C. 601">42 T.C. 601, 622 (1964). We hold that the 5 percent of the purchase price of piston rings bought from Muskegon and stored by petitioner was equivalent to an arm's length charge for such warehousing; that International's reimbursement of petitioner's expenses in performing executive and clerical services for International was equivalent to an arm's length charge for such services; that the payments to petitioner of $100 per month for International's use of space and equipment and $10 per month for sundry small supplies were equivalent to what would have been paid if the parties were dealing at arm's length. We now turn to the price that International 87 was being charged by petitioner for goods manufactured by petitioner. The price for the various items sold to International was determined on the basis of detailed accounting studies of petitioner's cost of manufacture, to which was added an amount for the overhead deemed allocable, plus a profit factor which petitioner deemed reasonable, usually 6 percent of the sum of the manufacturing and overhead cost. Respondent contends that utilizing standard costs as the foundation for petitioner's intercompany pricing arrangement is inconsistent with acceptable accounting practices since petitioner failed to give cognizance to potential variances between standard costs and actual costs. Respondent further contends that under the circumstances 6 percent is an unrealistic profit factor. While we do not say that utilization of standard costs as a foundation for intercompany pricing arrangements is prohibited in arriving at arm's length amounts, we do believe that in this case the computations of the standard costs were not made in such a manner as to clearly reflect variations. Such variations have been shown, during the years in question, to have caused the actual price to be consistently greater 88 than the estimated standard costs. We also agree that, in light of the facts, 6 percent (actually the percentage was less than 6 percent because as cost variations increased, the percentage of profit decreased) is not equivalent to an amount that would have been settled upon at arm's length bargaining. Petitioner arrived at 6 percent by taking an average of all its sales in each line rather than just considering the sales to customers that resold in foreign countries. In arriving at what would be an arm's length price, we believe that various factors must be taken into account. It has been shown that foreign sales of petitioner's products were more profitable per item sold than domestic sales. International did receive the benefits of petitioner's goodwill which it had built up over years, as well as petitioner's trademarks and patents and general know-how. International was allowed to buy item by item, thereby availing itself of petitioner's warehouse facilities until sales were completed and avoiding the need of financing large inventories that might be difficult to dispose of. Petitioner sold many items at a loss to original manufactures in order to increase the demand and retail 89 market for its replacement parts. International reaped the benefit. 4When all these factors are taken into account, there is no justification for International's profits being so large when compared to petitioner's on goods manufactured by petitioner and sold by International. For the year 1960, it was estimated at trial that petitioner received a $19,000 profit while International enjoyed a $145,000 profit on products manufactured by petitioner and sold by International. Hence we think that International should not be charged any less for what they buy from petitioner than other purchasers of petitioner's products similarly situated. We believe that the unrelated firms that bought from petitioner for resale in foreign countries were similarly situated. The export firms had their own customers, their own warehouse facilities, handled their own bookkeeping and bore all risks 90 of collection. International had its own customers and bore all risks of collection. Moreover, it has been shown that International paid all expenses involved in its bookkeeping and in warehousing what inventory it possessed, which is equivalent to having its own facilities. It has not been shown wherein International differs from the exporters as to why it should be charged a lesser price by petitioner for the products it purchases. Accordingly, we hold that International should have been charged the same price as the export firms. In arriving at what we believe would be prices charged to the export firms, we are faced with a situation where the price that is charged to export firms has been computed by taking petitioner's normal jobber net prices as published in petitioner's price lists and subtracting various discounts and commissions which vary according to the materials sold. Since sufficient evidence is lacking as to the particularities of these various discounts and commissions, we have no choice but to use the average net prices for each product charged to an export company that is typical of petitioner's exporting customers. We find that the evidence has shown that the Allan 91 Export Company fits this description. We therefore hold that the arm's length price on each of the various products sold to International in the years 1959 and 1960 is the average net price paid to the petitioner by the Allan Export Company. We further hold that the arm's length price for petitioner's products that were not sold to the Allan Export Company during the years 1959 and 1960 is the weighted average net price paid to petitioner by all of the other export firms to which petitioner did sell these products in 1959 and 1960. To reflect the agreement of the parties on certain issues and our conclusions reached in this opinion, Decision will be entered under Rule 50. Footnotes1. All references are to the Internal Revenue Code of 1954 unless otherwise noted.↩. Sales Only to International.↩. Petitioner's goods in transit and Muskegon rings.↩*. Petitioner's goods in transit and Muskegon rings.↩2. Petitioner contends that other reasons for International's incorporation were the anti-American feelings in various countries ("gringoism") and the desire not to alienate its other customers because of sales to foreign customers at a lower price. We believe the desire for insulation was a sufficient business purpose for forming International; therefore, we shall not discuss these other contentions.↩3. In Frank v. International Canadian Corporation, 308 F. 2d 520↩ (1962), there was a discussion by the Ninth Circuit Court of Appeals concerning whether intercorporate dealings were required to be "reasonable" or at "arm's length." On this subject we shall only say that, on the facts of this case, the only reasonable price charged by petitioner would be one which would have been arrived at if the parties were at arm's length.4. We have not discussed payments for services performed by petitioner for International, for which petitioner specifically was compensated, as there is no need to consider these again in arriving at an arm's length price for the products. We have found, supra, that compensation for these services was sufficient.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619730/	CHARLES E. MITCHELL, PETITIONER v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Mitchell v. CommissionerDocket No. 74720.United States Board of Tax Appeals32 B.T.A. 1093; 1935 BTA LEXIS 843; August 6, 1935, Promulgated 843 1. Taxpayer and his wife exchanged letters purporting to consummate a sale of 18,300 shares of bank stock. The sale price was approximately four million dollars; the wife's total fortune less than one million. Taxpayer by "gifts" provided his wife with sufficient funds in excess of dividends to pay taxpayer the agreed "interest"; no notice of a sale was given to the bank with which the stock was pledged to secure taxpayer's loan; no revenue stamps were affixed; no bill of sale executed; no entry of indebtedness was entered on the wife's books of account. Although taxpayer's wife claimed to have bought in order to resell at a profit, no sale was made notwithstanding there was such an improvement in the market that the stock could have been sold at a profit of three-quarters of a million dollars to her. Taxpayer, without revealing the fact of a sale, made claim against the National City Co. for relief from the burden of the original purchase of the stock, and subsequently when the market price was $45 per share went through the form of a repurchase from his wife at a price of $212 per share. Held, that the transaction was not a bona fide sale and the alleged loss did not constitute844 an allowable deduction from income. 2. Held, further, that the alleged sale was fraudulent with intent to evade taxes. 3. Held, that a payment from the management fund of the National City Co. received, retained and enjoyed by taxpayer was income, notwithstanding the subsequent signing of a "receipt" by taxpayer acknowledging the payment to have been an overpayment to be repaid from future additions to the fund before any further payments should be made. 4. Held, further, the failure to report such payment for taxation was fraudulent with intent to evade tax. 5. Held, the sale and repurchase by petitioner of stock of Anaconda Copper Mining Co. were bona fide and the loss sustained on the sale constituted an allowable deduction from income. 6. Held, the failure by taxpayer to report for taxation dividends paid in 1930 on the stock which was the subject of the fraudulent sale in 1929 rendered petitioner's return for 1930 fraudulent. 7. Section 146(b) of the Revenue Act of 1928 contemplates criminal prosecution by the United States for the alleged commission of a felony. Section 293(b) allows the imposition of a fraud penalty of 50 percent845 of a deficiency as an aid in collection of revenues. The indictment and acquittal of taxpayer in a criminal case in the Federal District Court for violation of section 146(b) of the Revenue Act of 1928 do not bar the imposition of the penalty of 50 percent of the deficiency under section 293(b) in a proceeding before the Board. 8. Where respondent in his notice of deficiency determines that a deficiency is due to fraud with intent to evade tax and a petition is filed denying fraud and the case proceeds to hearing, and evidence is introduced by both parties on the fraud issue, no motion having been made for judgment for failure of petitioner to file a reply to allegations of fraud in respondent's answer, and after the close of the hearing, on leave granted, a reply is filed, held, the fraud charges do not stand admitted under the pleadings and the rules of the Board. The filing of the reply, with leave given, satisfied the rules of the Board, and the burden of proof of fraud rested on the respondent. [This proceeding was heard by a Special Division, consisting of Adams (presiding), Lansdon, and Van Fossan. Lansdon's term expired June 2, 1934, and he ceased to be a member846 of the Board. Adams died on January 29, 1935.] William Wallace, Esq., Leonard Moore, Esq., and Robert Reed, Esq., for the petitioner. Edward S. Greenbaum, Esq., Thomas E. Dewey, Esq., J. D. Head, Esq., and Nathan Gammon, Esq., for the respondent. VAN FOSSAN 1094 This proceeding involves income taxes and penalties for the calendar years 1929 and 1930, determined by the respondent as follows: YearDeficiency in tax50 percent penaltyTotal deficiency1929$728,709.84$364,354.92$ 1,093,064.761930121,719.8460,859.92182,579.76Total850,429.68425,214.841,275,644.52The pleadings raise the following issues: 1. Are the assessment and collection of the deficiencies, or either of them, barred by the statute of limitations (sections 275 and 276 of the Revenue Act of 1928), or, otherwise stated, did petitioner file false and fraudulent returns for the tax years or either of them? 2. Did petitioner realize a deductible loss upon a sale to his wife of 18,300 shares of the capital stock of the National City Bank of New York on December 20, 1929? 3. Did the amount of $666,666.67 received847 by petitioner on or about July 1, 1929, as a distribution from the management fund of the National City Co. constitute taxable income to him in that year? 4. Did petitioner realize a deductible loss upon a sale of 8,500 shares of the capital stock of the Anaconda Copper Mining Co., on December 26, 1930? 5. Did petitioner realize income in 1930 in the amount of $54,900 from dividends paid to petitioner's wife on the 18,300 shares of National City bank stock included in the transaction between petitioner and his wife on December 20, 1929? 6. Is the redetermination of petitioner's tax liability for the years 1929 and 1930 barred by the acquittal of present petitioner in the case 1095 of United States v. Charles E. Mitchell, that case being a prosecution of petitioner under section 146(b) of the Revenue Act of 1928? In his answer to the petition, the respondent affirmatively alleged that petitioner's returns for the years 1929 and 1930 were false and fraudulent with intent to evade tax. The petitioner, after leave given, filed a reply August 6, 1934, denying the affirmative allegations of the respondent. FINDINGS OF FACT. 1. The petitioner, an individual848 residing in New York City, is a business man and banker of wide experience. For many years prior to 1929 he had been president of the National City Bank of New York and the National City Co. In April 1929 he became chairman (the chief executive officer) of the National City Bank, the National City Co., and also the City Bank Farmers Trust Co., which was then absorbed by the National City Bank. He remained chairman of these institutions until March 1933. In 1929 all the stock of the National City Co. was held by trustees for the benefit of the stockholders of the National City Bank. In December 1929 there were outstanding approximately five million shares of stock of the National City Bank. 2. On March 15, 1930, the petitioner filed his Federal income tax return for the calendar year 1929. This return was filed on the basis of cash receipts and disbursements, and it showed a net loss of $48,899.65. The petitioner did not report in his return of gross income an amount of $666,666.67 received by him on or about July 1, 1929, as a distribution from the management fund of the National City Co., and in computing net income an amount of $2,872,305.50 was deducted as a loss sustained849 by petitioner upon a sale of 18,300 shares of National City Bank stock to his wife, Elizabeth R. Mitchell, on December 20, 1929. In determining the deficiency here in question for the taxable year 1929, the respondent included in gross income as additional compensation the $666,666.67 received by petitioner from the management fund of the National City Co. and disallowed the deduction of $2,872,305.50, claimed as a loss on a sale of the 18,300 shares of National City Bank stock to Mrs. Mitchell. Other losses on sales were disallowed in the sum of $3,668.40. The respondent also determined that the deficiency was due to fraud with intent to evade tax and added to the deficiency the statutory penalty of 50 percent of the tax. 3. On March 14, 1931, the petitioner filed his Federal income tax return for the calendar year 1930. This return was filed on the basis 1096 of cash receipts and disbursements and showed net income in the amount of $8,552.40. He paid no income tax for that year. Petitioner did not report in his return of gross income an amount of $54,900, representing dividends upon the 18,300 shares of National City Bank stock which was the subject of the transaction850 on December 20, 1929, between petitioner and his wife. In computing net income an amount of $758,918.25 was deducted as a loss sustained upon a sale of 8,500 shares of the capital stock of the Anaconda Copper Mining Co. to W. D. Thornton on December 26, 1930. In determining the deficiency here in question for the taxable year 1930, the respondent included in petitioner's gross income the $54,900, representing dividends upon said 18,300 shares of National City Bank stock and disallowed the deduction of $758,918.25 claimed as a loss upon a sale of 8,500 shares of Anaconda Copper Mining stock to Thornton. These, with other adjustments not in controversy, resulted in the proposed deficiency. Respondent further determined that the deficiency was due to fraud with intent to evade tax and added the statutory penalty of 50 percent of the tax. 4. From 1913 through 1930 petitioner's income tax returns were prepared by Frank W. Black, a former partner of petitioner. He obtained the information for making out the returns either from petitioner or the latter's secretary. Black, with petitioner's knowledge and consent, computed petitioner's profits and losses on the sale of securities851 during the taxable years. Petitioner signed and verified the returns prepared by Black and filed them with the collector of internal revenue for the third collection district of New York. 5. Under date of October 1, 1929, the National City Bank and the Corn Exchange Bank Trust Co., pursuant to the action of the directors of both banks, entered into an agreement of consolidation, subject, however, to ratification by the shareholders of both banks at meetings to be held on November 7, 1929. The agreement of consolidation provided for the exchange of four shares of National City Bank stock for five shares of Corn Exchange Bank stock. As part of the agreement, the National City Co. agreed to purchase, at $360 per share in cash, any shares of Corn Exchanges Bank stock which might be tendered it for purchase within 20 days after the date of consolidation. The effect of the agreement to purchase Corn Exchange Bank stock at $360 per share was to place an equivalent price on National City Bank stock of $450 per share. On October 28, 1929, the National City Co., in an apparent effort to support the price of the National City Bank stock, purchased 71,469 shares of that stock at a cost852 of approximately $32,000,000. These purchases increased the National City Co.'s holdings in that 1097 stock to 83,671 shares. Late in the afternoon of the same day petitioner learned of these purchases and, being of the opinion that the National City Co. should not purchase more of this stock, decided to use his personal credit to support the stock. 6. On the morning of October 29, 1929, petitioner arranged with J. P. Morgan & Co. for a personal credit up to $12,000,000, against which he could buy stock, to be secured by National City Bank stock as collateral, at a value for the purpose of not more than $200 per share. A special account was opened on the books of the National City Co. for shares of the National City Bank purchased for petitioner's account. Petitioner advised the president of the National City Co. of his arrangement with Morgan & Co. and authorized him to buy for his account. 7. On October 29, 1929, the National City Co. bought in the market for petitioner's account an aggregate of 28,300 shares at an average cost of $367.0028 per share, totaling $10,386,179.50. These shares were registered in the name of Taff & Co., as nominee of the National City853 Co. The shares so purchased were delivered to Morgan & Co., who charged the cost thereof against petitioner's credit of $12,000,000. 8. About November 4, 1929, the National City Co. sold for petitioner's account 4,000 of the 28,300 shares of National City Bank stock at $435 a share, and 1,000 shares at $425 a share. About November 6, 1929, it sold 5,000 additional shares thereof at $425 a share. The aggregate price of the 10,000 shares sold was $4,290,000. This sum was credited by Morgan & Co. against petitioner's loan account, leaving a balance due from petitioner on the 18,300 shares remaining of $6,096,179.50, for which sum Morgan & Co. held as collateral 30,000 shares of National City Bank stock registered in petitioner's name and the remaining 18,300 shares registered in the name of Taff & Co. Morgan & Co. continued to hold this collateral for petitioner's loan at all times hereinafter referred to. The National City Co. made no further sales from the stock it had purchased for petitioner's account on October 29, 1929. The petitioner realized a profit of $655,726 from the 10,000 shares sold, which profit was reported on his income tax return for 1929. 9. On December 4, 1929, a854 stock purchase plan was put forth by the directors whereby National City Bank stock was offered to employees at the price of $200 per share. On or about December 20, 1929, 50,000 shares of National City Bank stock were allotted to the plan. Over 100,000 shares were applied for. Thereafter 10,000 additional shares were allotted to officers of the National City Bank and affiliated companies at $220 per share. This offering was also oversubscribed. 1098 10. Prior to December 20, 1929, petitioner had realized profits from the sales of securities during the year 1929 of $1,388,237.97, which amount included the profit of $655,726 realized on the sale of the total of 10,000 shares of the 28,300 shares of National City Bank stock. In addition to these profits from the sales of securities, petitioner received during the year 1929 from the National City Bank and the National City Co. salaries and payments from management funds, in the sum of $1,206,195.02, exclusive of the sum of $666,666.67 received on or about July 1, 1929, from the management fund of the National City Co. 11. Prior to the middle of December 1929 petitioner determined that he would not report as taxable855 income the payment of $666,666.67 received as a distribution from the management fund. Petitioner realized that he would have a very large gross income for the taxable year 1929. This income was in an amount in excess of $2,800,000. The market price of National City Bank stock was $212 per share on December 19, 1929. Accordingly, and for the purpose of "registering a loss" he considered ways and means of disposing of the National City Bank stock in order that he might take a deduction of the difference between its purchase price and the then market, which difference amounted to $2,872,305.50 on December 19, 1929. 12. From 1918 to 1930 petitioner had had occasional business transactions with his wife, Elizabeth R. Mitchell, which were recorded in his books of account. In 1919 she had loaned him $23,903.80 which was repaid by him in that year. In 1920 she loaned him $125,000 par value of bonds which were returned to her by him. In 1920 she purchased 35 shares of National City Bank stock from her husband and gave him her check covering the purchase price. From 1918 to 1922 petitioner carried a loan or "special account" with Mrs. Mitchell, paying her 3 percent interest. The856 loan was repaid in 1922. In 1926 he paid her $2,034.51 in connection with a stock adjustment of International Telephone & Telegraph stock, and purchased from her 250 shares of International Telephone & Telegraph rights for $2,212.50. In 1929 Mrs. Mitchell sold him 500 International Telephone & Telegraph rights for $3,250. From 1918 to 1929 Mrs. Mitchell had participated in a number of underwriting syndicate transactions, in most of which she realized a profit. From 1920 to April 24, 1928, Mrs. Mitchell had accumulated 375 shares of National City Bank stock at a total cost of $101,495. By January 17, 1929, Mrs. Mitchell had sold 275 shares of National City Bank stock and 200 rights for a total of $293,209.02, leaving her with a balance of 100 shares which, by reason of a five to one split-up, became 500 shares of National City Bank stock after January 1929. 1099 13. On December 20, 1929, Elizabeth R. Mitchell had total assets having a then market value as follows: Bonds$260,336.19Stocks577,630.13Garage 21,000.00Cash in banks32,027.80Mortgage participations 50,000.00Total940,994.12857 exclusive of jewelry, furniture, objects of art, books, and the cash value of life insurance policies on the life of the petitioner. 14. Petitioner discussed with Mrs. Mitchell the matter of a sale to her of the 18,300 shares of bank stock on the night of December 19, 1929. No definite agreement to buy or sell was made at that time. On December 20, 1929, petitioner consulted Harry W. Forbes, a member of the law firm of Shearman & Sterling, general counsel for the National City Bank and the National City Co., who had specialized in Federal income tax matters. He advised Forbes that he had a large block of National City Bank stock which represented a big loss and that he had arranged to sell the stock to Mrs. Mitchell, provided he could take a loss for tax purposes by so doing. Forbes informed petitioner that the Treasury Department regarded all such transactions between husband and wife with a great deal of scrutiny and asked him why, if that was stock which he really intended to sell, he did not sell it in the open market so that there could be no question about the sale. To this petitioner replied that it was a large block of stock which he could not sell on the open858 market without causing the price to decline and, besides that, he felt confident that after the first of the year the stock would increase in value, and for those reasons he wanted to sell the stock to Mrs. Mitchell so he could take his loss on his income tax return for 1929 and she could have the advantage of disposing of the stock at the higher price later on. Petitioner asked if sales between husband and wife were not recognized for income tax purposes, and was told that they were where a sale was made in good faith for fair market value and the wife was financially responsible. Petitioner said he was making an absolute sale at the current market value and that Mrs. Mitchell had resources of her own. Petitioner did not tell Forbes the amount of Mrs. Mitchell's personal estate. Forbes inquired of petitioner whether Mrs. Mitchell could pay cash and take delivery of the stock, and 1100 petitioner told him that she did not have the cash available and that he could not deliver the stock because it was pledged as collateral security for the loan with Morgan & Co. Forbes then asked if Mrs. Mitchell could take over the loan of Morgan & Co. and petitioner said that could not859 be done because the loan was for a much larger amount; that he would like to sell her the stock and continue to carry it for her in the loan with Morgan & Co. Forbes told him he thought that could be done, but it would require a very carefully drawn agreement and petitioner told Forbes that was what he wanted his advice on. Petitioner told Forbes that usually his transactions with Mrs. Mitchell were handled by letters and, instead of a formal agreement, letters were prepared by petitioner and Forbes as follows: (a) A letter from petitioner to Mrs. Mitchell: C. E. MITCHELL, 55 WALL STREET, New York, December 20, 1929.DEAR ELIZABETH, This is to confirm that I have today sold to you for your account and risk 18,300 shares of the capital stock of The National City Bank of New York, ex-January 1930 dividend, at $212. per share which represents the present market. The stock is in the name of Taff & Co. and is represented by certificates as per the attached sheet. These shares are at present being carried in a loan with J. P. Morgan & Company for my account, and for your convenience I will arrange to so continue the carriage of the stock subject to your payment of the860 amount due, the debt in any event to be liquidated by you within nine months from date hereof. Taff & Co. have been notified through The National City Company to remit to you the dividends received on the stock and I will, from time to time, render you a bill for the interest due on the loan. In acknowledging receipt hereof, please confirm your verbal instructions to me with respect to liquidation of the account and oblige. Yours very truly, [Signed] C. E. MITCHELL. MRS. ELIZABETH R. MITCHELL, 934 Fifth Avenue, New York City.(b) A letter from Mrs. Mitchell to petitioner: 934 FIFTH AVENUE, New York, December 20, 1929.Mr. CHARLES E. MITCHELL, 55 Wall Street, New York.DEAR CHARLES I acknowledge receipt of your letter of December 20 and confirm purchase from you of 18,300 shares of the capital stock of The National City Bank of New York at $212. per share under the terms as stated in your letter. You are hereby authorized to sell from time to time or at any time that may seem in your judgment proper all or any part of the said 18,300 shares at markets 1101 then prevailing but at not less than $220. per share, the avails over and above861 the purchase price to be remitted to me as received and to be applied on account of borrowings. Yours very truly, [Signed] ELIZABETH R. MITCHELL. (c) A letter from petitioner to Taff & Co., in whose name the stock was held, to which was attached a list of the certificate numbers of the 18,300 shares of stock: C. E. MITCHELL, 55 WALL STREET, New York, December 20, 1929.TAFF AND COMPANY, c/o The National City Company, 52 Wall Street, New York City.GENTLEMEN: The National City Bank shares in your name (certificate numbers attached) are the property of Elizabeth R. Mitchell, and dividends received by you on account thereof, subsequent to January 2, 1930, should be paid to E. Rend Mitchell, c/o E. F. Barrett, 55 Wall Street. Yours very truly, [Signed] C. E. MITCHELL. On the evening of December 20, 1929, petitioner signed the letter addressed to Mrs. Mitchell and she signed the letter addressed to him. Copies of these letters were thereafter delivered by petitioner to E. F. Barrett who, assisted by his secretary, Mrs. Kline, kept detailed records of Mrs. Mitchell's investment account. Petitioner also signed and delivered the letter to862 Taff & Co. On or about February 18, 1930, petitioner in his office handed to Lindsay Bradford, vice president of the City Bank Farmers Trust Co., the original letter from petitioner to Mrs. Mitchell, a copy of the letter from Mrs. Mitchell to petitioner, and a copy of the letter from petitioner to Taff & Co. Mr. Bradford gave these papers to H. D. Sammis, vice president of the City Bank Farmers Trust Co., who placed them in a sealed envelope marked "Confidential a/c E. Rend Mitchell - Letters and papers re securities with J. P. Morgan & Co., envelope only to be opened on instructions from Mrs. Mitchell or E. F. Barrett, vice-president, National City Bank, or Lindsay Bradford, vice-president, City Bank Farmers, or H. D. Sammis, vice-president, City Bank Farmers." On February 18, 1930, the Trust Co. gave Barrett a receipt covering this envelope. This envelope was then placed in the vault of the trust company in which records of customers were kept. Forbes had told petitioner that, for Mrs. Mitchell's protection, he ought to notify Morgan & Co. of the sale and arrange with them for Mrs. Mitchell to withdraw the stock on the payment of $212 per share. Petitioner did not notify Morgan863 & Co. of the transaction 1102 of December 20, 1929, and copies of the letters were not shown to Morgan & Co., or any representative of that firm. In or about the month of January 1931 Morgan & Co. received for the first time knowledge or information to the effect that petitioner had, or claimed to have, sold said 18,300 shares of National City Bank stock. 15. Forbes told petitioner that revenue stamps would be required in the transaction. At the time the letters were exchanged no internal revenue or state transfer stamps were attached to them and no bill of sale was executed in connection with the transaction. Subsequently, on or about the 11th of August 1933, on demand of the collector of internal revenue, petitioner purchased internal revenue stamps in the amount of $116.46, which were affixed. 16. Mrs. Mitchell's ledger contains an entry entitled "National City Bank Stock" reading as follows: "1929 - Dec. 20 - Bought at 212 - 18,300 shares - $879,600" (sic). This figure was computed by Mrs. Kline from the copies of the letters of December 20, 1929, delivered to her by Barrett for filing. In Mrs. Kline's handwriting appear, in pencil, the words "See file on864 securities." No other entries of any kind appear in Mrs. Mitchell's books concerning this transaction. On or about February 18, 1930, Mrs. Mitchell's custodian account at the National City Co. was transferred to the City Bank Farmers Trust Co., which assumed the management of this account. The City Bank Farmers Trust Co. did not, however, assume the management of the 18,300 shares of National City Bank stock, which were treated differently from her other securities, and petitioner alone was the one to advise with respect thereto. 17. Mrs. Mitchell made no payment on account of the purchase price of the stock and gave no note or other evidence of indebtedness therefor. 18. Mrs. Mitchell's account with the City Bank Farmers Trust Co. was credited with dividends on 18,300 shares of National City Bank stock as follows: April 1, 1930$18,300July 1, 193018,300October 1, 193018,300January 2, 193118,300April 1, 1931$18,300July 1, 193118,300October 1, 193118,300January 2, 193218,300The dividend rate on said National City Bank stock was $4 per share per annum, payable quarterly, and this was the dividend rate payable on that stock since865 April 1929. The fact of said dividend rate was published. On April 1, 1930, Mrs. Mitchell also received a dividend on the 500 shares of National City Bank stock owned by her prior to December 20, 1929. The dividend on the 500 shares 1103 was credited to Mrs. Mitchell's income account in the City Bank Farmers Trust Co. and remained in that account. The dividend on the 18,300 shares was credited to Mrs. Mitchell's income account and immediately transferred to her principal account. Subsequent dividends on both the 500 shares and 18,300 shares were treated in the same manner, respectively. 19. During the period from December 20, 1929, to March 24, 1932, there were paid to petitioner from Mrs. Mitchell's account sums in the amounts and on the dates as follows: April 1, 1930$59,810.50July 1, 193049,033.84October 1, 193049,572.67January 2, 193149,572.67April 1, 1931$48,495.00July 1, 193149,033.84October 2, 193149,576.67January 2, 193249,572.50Mrs. Mitchell made no payments to petitioner between December 20, 1929, and March 24, 1932, other than those above set forth. The payments thus made to petitioner exceeded by $258,267.69866 the dividends credited to Mrs. Mitchell's account from the 18,300 shares of National City Bank stock. 20. The dividends from the 18,300 shares of National City Bank stock were not sufficient to meet the so-called "interest payments" from Mrs. Mitchell to petitioner. The first payment was made April 1, 1930. This payment in the amount of $59,810.50 was made out of Mrs. Mitchell's principal account in the City Bank Farmers Trust Co. and created an overdraft in that account of about $19,414.60. Two subsequent payments to petitioner, on July 1 and October 1, 1930, created overdrafts in her principal account. 21. In order to enable Mrs. Mitchell to meet the interest payments to petitioner without depleting her personal fortune petitioner made various payments and gifts of cash or other property to her from time to time during the period from December 20, 1929, to December 31, 1932, as follows: June 4, 1930, "as a wedding anniversary present" securities having a then market value of $42,500. July 1, 1930, $25,000. This amount was entered in Mrs. Mitchell's books of account as "Proceeds of loan at 4%." August 21, 1930, $22,500, given to Mrs. Mitchell on the occasion of867 her birthday. January 21, 1931, $25,000, given to Mrs. Mitchell as a Christmas gift. April 10, 1931, $30,000. June 30, 1931, $25,000. August 18, 1931, $5,000, deposited to Mrs. Mitchell's personal account. August 18, 1931, $10,000, birthday gift. October 6, 1931, $25,000, given to Mrs. Mitchell on the occasion of petitioner's birthday. 1104 December 24 1931, $1,000, deposited to Mrs. Mitchell's personal account. December 25, 1931, $30,000, Christmas gift. August 11, 1932, $5,000. December 24, 1932, $1,000, deposited in Mrs. Mitchell's personal account. 22. On July 1, 1931, the Trust Co. wrote to petitioner as follows: In compliance with your request we enclose a check drawn to your order for $49,033.84 and have debited a like amount to Mrs. Mitchell's Investment Management Account. 23. In order to ascertain how his "gifts to Mrs. Mitchell had checked up" and "how much of a burden she had really been under as a result of this purchase" of 18,300 shares of bank stock, petitioner requested his secretary to get from the City Bank Farmers Trust Co. a statement of the receipts and disbursements. As a result of this request the following memorandum868 was prepared and given to petitioner: OCTOBER 2, 1931. Re: Account E. Rend Mitchell1931ReceiptsJan. 2 - National City Co$18,300Jan. 22 - Recd. from Mr. Mitchell25,000Apr. 1 - National City Co18,300Apr. 10 - Recd. from Mr. Mitchell30,000June 30 - Recd. from Mr. Mitchell25,000July 1 - National City Co18,300Aug. 18 - Recd. from Mr. Mitchell10,000Oct. 2 - National City Co18,300$163,200DisbursementsJan. 2 - Paid Mr. Mitchell$49,572.67Apr. 2 - Paid Mr. Mitchell48,495.00July 1 - Paid Mr. Mitchell49,033.84Oct. 2 - Paid Mr. Mitchell49,576.67$196,678.18Difference due Mrs. Mitchell, $33,478.18. H. M. PETERSON, Asst. Trust Officer.On October 6, 1931, petitioner gave Mrs. Mitchell the sum of $25,000 on the occasion of his birthday. In 1932 petitioner requested his secretary to get from the City Bank Farmers Trust Co. a memorandum showing, from the first of January 1931, the amount of dividends received by Mrs. Mitchell; the total amount of gifts he had made to her; the amount of disbursements by her to petitioner and the amount of premiums paid by her on the life insurance869 policies. (In the years 1925 and 1926 the petitioner transferred to Mrs. Mitchell certain policies of insurance on his life and thereafter Mrs. Mitchell paid the premiums 1105 thereon.) On or about August 11, 1932, the following memorandum was furnished in compliance with petitioner's request: AUGUST 11, 1932. In Re: Account E. Rend MitchellThe figures given below include various receipts and disbursements for the above account - January 2, 1931 to date - including and supplemental to our memorandum of October 2, 1931. 1931ReceiptsJan. 2 - National City Co$18,300Jan. 22 - Recd. from Mr. Mitchell25,000April 1 - National City Co18,300April 10 - Recd. from Mr. Mitchell30,000June 30 - Recd. from Mr. Mitchell25,000July 1 - National City Co18,300Aug. 18 - Recd. from Mr. Mitchell10,000Oct. 2 - National City Co18,300Oct. 6 - Recd. from Mr. Mitchell25,000Dec. 29 - Recd. from Mr. Mitchell30,0001932Jan. 2 - National City Co18,300$236,500.001931DisbursementsJan. 2 - Paid Mr. Mitchell$49,572.67April 2 - Paid Mr. Mitchell48,495.00July 1 - Paid Mr. Mitchell49,033.84Oct. 2 - Paid Mr. Mitchell49,576.671932Jan. 2 - Paid Mr. Mitchell49,572.50246,250.68Difference$9,750.68870 H. M. PETERSON, Asst. Trust Officer.Premiums paid to date24,240.20$33,990.88Premiums due August 163,399.00Total disbursements$37,389.88On the same date, August 11, 1932, petitioner made gifts to Mrs. Mitchell in the amount of $10,000. 24. At the annual meeting of the stockholders of the National City Bank, in January 1930, a stockholder asked petitioner whether he had disposed of any of his stock in the National City Bank. Petitioner replied, "Not a single share, sir. As a matter of fact I am buying all I can possibly get and that I can possibly pay for." 25. After December 20, 1929, the market price of National City Bank stock rose until on February 14, 1930, it reached 255 bid and 1106 257 asked. Thereafter, the price declined until on March 24, 1932, it was 43 3/4 bid and 44 1/4 asked. None of the 18,300 shares here in question were sold at the higher price. 26. From time to time petitioner gave additional collateral to J. P. Morgan & Co. to secure the loan established by him on or about October 29, 1929, in connection with the purchase of National City Bank stock. This collateral included bonds and mortgages on real871 estate owned by petitioner. After December 20, 1929, the net worth of petitioner, which had approximated $30,000,000 in October 1929, declined until in or about February 1931 he advised Morgan & Co. that he had exhausted all his assets and was unable to furnish any further collateral. Thereafter, petitioner's financial condition became progressively worse and on March 24, 1932, he was insolvent by an amount in excess of $3,000,000. 27. With the decline of the market in 1931 petitioner's loan with Morgan & Co. became undermargined and by the summer of that year the collateral was worth less than the loan itself. Late in the summer of 1931 petitioner discussed this matter with Guy Cary, one of the senior partners of the firm of Shearman & Sterling, and sought to determine whether there was some basis for making a claim against the National City Co. and asking the company to relieve him from the situation in which he found himself as a result of the purchase of the 28,300 shares of National City Bank stock and the loan negotiated on account of that purchase. Cary suggested that petitioner seek the advice of independent counsel. Petitioner thereon consulted the firm of Cravath, 872 DeGersdorff, Swaine & Wood. As a result they wrote petitioner a letter dated March 5, 1932, in which the following paragraph appeared: We are therefore of opinion that The National City Company is under obligation to take up from the Morgan loan the 18,300 shares of National City stock at their net present cost with adjustment for interest charged and dividends received. The above letter recites the fact of the sale of 10,000 shares of National City Bank stock, but makes no mention of the sale of 18,300 shares to Mrs. Mitchell. Petitioner forwarded this letter, under date of March 11, 1932, to Hugh Baker, president of the National City Co. Baker caused it to be presented to the board of directors of that company at a meeting. Petitioner attended this meeting, but withdrew prior to the presentation to the board of the letter and was not present when the matter was under consideration. The matters referred to in the letter were the subject of conferences among the directors of the National City Co. and of the National City Bank, both before and after the submission of said letter 1107 to the directors of the National City Co., and petitioner attended certain conferences873 concerning his claim referred to in said letter. An informal committee of directors of the National City Bank and the National City Co. was appointed, to which petitioner's claim was referred. Petitioner discussed his claim with this committee but he did not inform the committee that he had sold the stock to Mrs. Mitchell. The committee secured the opinion of John W. Davis, a member of the New York Bar, to the effect that there was no legal basis for the claim. Thereafter, on June 29, 1932, petitioner wrote a letter to the president of the National City Co. in which he suggested that it "not be further considered now in the light of a claim" but await more favorable conditions in the affairs of the company. 28. In March 1932 petitioner was advised by Guy Cary, of the firm of Shearman & Sterling, who had some knowledge of petitioner's affairs, that a Federal gift tax was liable to be imposed by Congress which would further complicate petitioner's affairs in the event that he contemplated making a gift to Mrs. Mitchell by way of forgiveness of her debt to him. Thereafter, petitioner consulted his personal attorneys, Cravath, DeGersdorff, Swaine & Wood, and letters were prepared874 by the attorneys and exchanged between petitioner and his wife as follows: MARCH 24, 1932. DEAR ELIZABETH, You now hold 18,300 shares of the capital stock of The National City Bank of New York, together with certain claims against The National City Company in connection therewith, in respect of which you are now indebted to me in the sum of $3,924,862. This is to confirm my purchase from you of said shares and claims, in consideration of my releasing you of all liability on account of your present indebtedness to me in connection therewith. Therefore, please sign and deliver to me the enclosed bill of sale of stock, with the necessary tax stamps attached, upon receipt of which I hereby release you from any further obligation whatsoever in connection therewith. Please also sign and return to me the enclosed dividend order. Very truly yours, [Signed] C. E. MITCHELL. MRS. C. E. MITCHELL, 934 Fifth Avenue, New York, New York.MARCH 24, 1932. DEAR CHARLES, I confirm the sale mentioned in your letter of today and send you herewith, signed and with transfer stamps attached, bill of sale for 18,300 shares of stock of The National City Bank of New York. 875 The signed dividend order is also returned herewith. Very truly yours, [Signed] ELIZABETH R. MITCHELL. Mr. CHARLES E. MITCHELL, 55 Wall Street, New York, New York.1108 Mrs. Mitchell also executed the following bill of sale, to which revenue stamps were attached: NEW YORK, March 24, 1932.Sold to CHARLES E. MITCHELL eighteen thousand three hundred (18,300) shares of capital stock of The National City Bank of New York[Signed] ELIZABETH R. MITCHELL. Mrs. Mitchell also signed the following letter to Taff & Co.: MARCH 24, 1932. Messrs. Tefft & Company [sic] In Care of The National City Company, 20 Exchange Place, New York, New York.DEAR SIRS: Please hereafter pay to Charles E. Mitchell, 55 Wall Street, New York City, any and all dividends received by you subsequent to the date hereof on account of The National City Bank shares in your name represented by certificates numbered as per attached list. Very truly yours, [Signed] ELIZABETH R. MITCHELL To this letter was attached a list of the numbers of the certificates and the number of shares evidenced by each certificate, totaling the 18,300 shares of stock. The876 price named as a basis of the above transaction between petitioner and his wife was $212 per share, the same price named at the time of the first transaction between the parties. At the date of the last transaction the market price on the stock was approximately $45 per share. Mrs. Mitchell never paid to petitioner any part of the purchase price of the 18,300 shares of stock, and no cash was passed between them in either the transaction of December 20, 1929, or that of March 24, 1932. At this later date petitioner was insolvent in amount of $3,000,000. 29. On March 25, 1932, the day following the exchange of letters between petitioner and his wife, petitioner sent the following letter to Lindsay Bradford, vice president of the City Bank Farmers Trust Co.: MARCH 25, 1932. PERSONAL & CONFIDENTIAL DEAR MR. BRADFORD, You may want to put into a sealed envelope, to be carried in Mrs. Mitchell's files, the enclosed papers having to do with the passage of title of 18,300 shares of National City Bank stock and a release from debt thereon. You will note that from this time on there will be no interest payments due from her or dividend entries. A brief acknowledgment sent877 to me under confidential cover will be appreciated. Yours very truly, [Signed] C. E. MITCHELL. Mr. LINDSAY BRADFORD, Vice President, The City Bank Farmers Trust Company, 22 William Street, New York, New York.1109 The enclosures referred to in said letter were the original of petitioner's letter of March 24, 1932, to Mrs. Mitchell and a copy of Mrs. Mitchell's letter of that date to him. This letter was acknowledged by Mr. Bradford as follows: CITY BANK FARMERS TRUST COMPANY, 22 WILLIAM STREET, NEW YORK, March 25, 1932.PERSONAL AND CONFIDENTIAL DEAR MR. MITCHELL: This will acknowledge your letter of March 25, 1932, enclosing a certain letter from you to Mrs. Mitchell, together with other papers, all of them apropos of the transfer of title of 18,300 shares of National City Bank stock from Mrs. Mitchell to yourself. We have made due note of the fact that previous arrangements in regard to interest payments and dividend receipts are no longer in force. For your information, we have placed the papers which you enclosed in a sealed envelope and placed the envelope in Mrs. Mitchells files. Yours very truly, [Signed] LINDSAY878 BRADFORD, Vice President.Mr. CHARLES E. MITCHELL, 55 Wall Street, New York, New York.30. On February 8, 1921, the board of directors of the National City Co. adopted a resolution providing for additional compensation to certain of its officers as provided in the minutes of the meeting on that date creating a "management fund." Certain changes were made therein by resolution of the board of directors on January 24, 1927, and the plan so modified was in effect during the year 1929. The management fund plan provided that there be set up a reserve account out of current earnings. The term "current earnings" is defined as constituting the net operating income of the month, after current charges for depreciations or write-offs, taxes, or other reserves authorized by the board of directors. From the current earnings so determined there was first to be deducted each month an amount figured at 8 percent per annum on the average quarter year aggregate of capital, surplus, and undivided profits. An amount equal to 20 percent of the remainder of such current earnings for the month was then credited to the management fund. At the close of the current year or at any time, 879 or from time to time during the year, the executive committee was empowered to make distribution of the management fund to operating executive officers of presidential or vice presidential rank, one half "in accordance with fixed percentages to be forthwith established", the remaining one half to be distributed to executives of similar class "holding office at the close of the year, in such proportion as in the unrestricted judgment and discretion of the committee may seem wise and proper as representing the ratable contribution of 1110 each such executive to the development and progress of the company during the year." An exception was made as to the president in order that the executive committee might have the benefit of his unbiased opinion and advice with respect to the distribution of the fund referred to in the foregoing sentence. The percentage of the participation of the president in the entire fund was to be fixed forthwith. Petitioner was president of the company at the time of both resolutions and did not become chairman until 1929. 31. Distributions from the management fund were made semiannually as follows: DateAmountTotal7/13/21$196,351.5512/22/21400,000.00$596,351.557/5/22375,000.001/5/23615,000.00990,000.007/5/23150,000.001/8/24116,000.00266,000.007/8/24175,000.001/7/25785,142.92960,142.927/6/25305,000.001/5/26649,237.50954,237.507/1/26$186,000.001/5/27508,000.00$ 694,000.007/1/27540,000.001/4/281,010,000.001,550,000.007/2/28650,000.001/3/291,450,000.002,100,000.007/1/291,860,000.001,860,000.001/2/31140,938.98140,938.98880 32. At a meeting of the board of directors of the National City Co. held on January 2, 1929, the president reported that the figures with respect to the management fund and his recommendations for distribution thereof had been submitted to the executive committee and approved. Thereafter, on January 3, 1929, the National City Co. deposited $1,450,000 with the Bankers Trust Co. of New York for the account of the management fund, and a distribution of this sum was made as payments from the management fund. Of the amount so distributed petitioner received $483,333.33. After this distribution there remained in the management fund a balance of $140,938.98. 33. At a meeting of the board of directors of the National City Co. on January 8, 1929, the plan for the establishment of management funds as set forth in the board's resolution of January 25, 1927, was reapproved and adopted for the year 1929, "in each and every respect including method of distribution thereof", and the officers were "authorized and instructed to set up monthly reserves therefor." On the same date there was a meeting of the executive committee of the National City Co. At these meetings the percentage allotment881 of 1111 the president in the management fund for the year 1929 was definitely determined and fixed at 33 1/3 percent. 34. At a meeting of the board of directors of the National City Co., June 25, 1929, the chairman reported that the accumulation in the management fund for the first six months of the year 1929 would aggregate approximately $2,900,000, whereupon a resolution was passed authorizing a distribution from the accumulation according to the fixed percentages and the treasurer was authorized, upon the approval of the chairman and/or H. F. Mayer, vice president, to make disbursements to the eligible officers on July 1, 1929. On June 27, 1929, the chairman and vice president signed the following memorandum: JUNE 27, 1929 Mr. S. W. BALDWIN, TREASURER: In accordance with the resolution passed by The Board of Directors at the meeting held June 25, 1929, will you please make disbursement from the Management Fund at this time, of the following amounts: Mr. C. E. Mitchell$666,666.67Mr. H. B. Baker220,000.00Mr. R. M. Byrnes170,000.00Mr. G. K. Weeks110,000.00Mr. P. V. Davis80,000.00Mr. L. E. Olwell70,000.00Mr. S. A. Russell170,000.00Mr. G. S. Rentschler100,000.00Mr. G. D. Buckley73,333.33Mr. J. P. Ripley150,000.00Mr. W. R. Morrison50,000.00Total$1,860,000.00882 C. E. MITCHELL, Chairman.H. F. MAYER, Vice President.Thereafter, on July 1, 1929, the National City Co. deposited $1,860,000 with the Bankers Trust Co. for the account of the management fund and a distribution of this sum was made from the management fund. The amount received by petitioner was $666,666.67. 35. In computing the amounts available for payments to the participants in the management fund, computations were made at the end of each month and credited to the account kept for that purpose, entitled "Reserve for other deductions", in those months in which there were accretions to the fund. In those months in which the company suffered losses this account was correspondingly reduced. Credits were made to this account during every month of 1929 through the month of October. For the months of November and December there were no credits to this account, and the losses of the 1112 National City Co. during the said months exceeded the profits which it made during the first ten months of the year. 36. Sometime about the latter part of November 1929 petitioner asked R. M. Byrnes, a vice president of the National City Co., to make a study of the management883 fund for presentation to the board. On or about December 13, 1929, F. H. Mayer, vice president and comptroller of the National City Co., consulted Harry W. Forbes of the law firm of Shearman & Sterling. Forbes was familiar with the management fund only in a very general way and Mayer told him of the payment that had been made in the middle of the year, but owing to subsequent losses it was apparent that it was going to result in an overpayment and that he thought he ought to have some sort of voucher from the officers who had received the money, acknowledging it. Certain officers objected to such a procedure. Within a day or two thereafter Mayer called Forbes on the telephone and asked if he would get up a form of receipt which had been mentioned. Forbes told him that he would get up a receipt but would not attempt to pass on the effect of it. A form of receipt was drawn up by Forbes and transmitted to Mayer, December 13, 1929. Receipts in this form were signed by all of the participants in the distribution of the management fund of July 1, 1929. Petitioner signed a receipt in the following form: RECEIVED on July 1, 1929, from The National City Company $666,666.67, which884 represents an overpayment to me of my share for the year 1929 in the Management Fund, and which is to be repaid by me from future additions to the said Management Fund, before I become entitled to any further payments therefrom. C. E. MITCHELL. These receipts were placed in an envelope marked "Accounts Receivable S. W. Baldwin, Treasurer, Special Management Fund 1929", which envelope remained thereafter in the vaults of the National City Co. 37. At a meeting of the board of directors of the National City Co. held on December 30, 1929, petitioner, who was chairman of the board, discussed the management fund with particular reference to the distribution made of this fund July 1, 1929, and the status of the fund after the results of the whole year were taken into account. After discussion of the matter the following resolution was duly adopted: RESOLVED that the share which each of the executives of this Company received in the distribution of the first half of the Management Fund for 1929 be debited against each of such officers respectively on the books of this Company to be repaid by each of them out of any distributive share of the 1113 Management Fund which each885 of such officers may be entitled to receive in any year subsequent to the current year 1929. 38. As of December 30, 1929, there was set up on the accounts receivable and payable ledger of the National City Co. a debit to "Accounts Receivable and Payable" and a credit to "Reserve for other Deductions" in the amount of $1,860,000. This entry was carried forward to the year 1930. 39. At a meeting of the board of directors of the National City Co. January 9, 1930, the chairman discussed the management fund for 1930 and the following resolutions were passed: RESOLVED that the basis of division as between the executive officers with reference to the first half of the fund during 1929 be continued during 1930 as to those officers receiving advances from management funds in July 1929 and until rescinded and revised by this Board. Further RESOLVED that after the distribution made among the executive officers in July 1929 has been repaid to the Company out of the Management Fund accumulated and distributed subsequent to December 31, 1929, the Board again consider the Management Fund in all its phases and reestablish the basis for future distributions as at such time seems just886 and equitable. Thereafter, on or about January 18, 1930, petitioner sent a letter to each of the participants in the management fund distribution of July 1, 1929. This letter was in part as follows: The events of the last quarter year have wiped out the accumulation of the management fund, and accordingly you have been debited on the books with the amount advanced to you in July, and this debit will stand until it can be paid from distribution to you of future accumulations in management fund. 40. Prior to March 15, 1930, petitioner received the following memorandum from the National City Co., which he gave to Sweeney, his secretary, to be handed to F. W. Black, who was preparing petitioner's Federal income tax return: Confidential Memorandum for Mr. Mitchell We will report to the Commissioner of Internal Revenue, Washington, D.C., and to the New York State Income Tax Bureau, Albany, New York, that compensation in the amount of $510,629.28 was paid to you by this company during the year 1929. This is in compliance with the Income Tax Laws. This memorandum was handed by Sweeney to Black. The National City Co. on its Federal income tax return for the calendar year887 1929 did not deduct any part of the management fund distributed July 1, 1929, as compensation to its officers or otherwise. Without the benefit of such deduction the Federal income tax return of the National City Co. for 1929 showed a net loss of several million dollars in excess of $1,860,000, the amount distributed July 1, 1929. 1114 41. In January 1930, after the meeting of the board of directors of the National City Co. on December 30, 1929, Gerrard Winston, a director, and a member of the law firm of Shearman & Sterling, consulted Forbes of the same firm, concerning the matter of the 1929 midyear distribution from the management fund from the tax standpoint of the National City Co. A few days later Winston saw petitioner and stated to him that he and Forbes had come to the conclusion that the midyear payment made out of the management fund was, as a result of the action of the board at its December 30 meeting, not a proper deduction for the National City Co. to take from its income tax return; that the company should not report those payments as compensation to officers; and that it followed, from the fact that it was not a deduction from the company income, it was888 not income to the petitioner. 42. At the meeting of the board of directors of the National City Co. on December 30, 1930, the following resolution was adopted. RESOLVED, That the undistributed part of the Management Fund for the year 1928, amounting to $140,938.98, shall be distributed not later than January 2, 1931, to such officers as were eligible for participation at the close of the year 1928 and are still in the employ of the Company, and distribution thereof to individual officers shall be in the same proportion as the balance of such 1928 fund was distributed and the share of any officer not now eligible shall be also distributed in such proportion, as may be determined by a special committee consisting of Messrs. Swenson, Winthrop and Winston; FURTHER RESOLVED, That the payments made to eligible officers out of the Management Fund accruals in July 1929 shall continue to be considered as advances made from an expected accrual in Management Fund for the year 1929 which failed to materialize and that amounts so advanced will be continued as "debts owing" by the officers to whom such advances were made, payable only, however, from amounts which may be distributed to such889 officers from future accruals in Management Fund account, and FURTHER RESOLVED, That the Chairman is authorized to advise the officers of the foregoing, and to give assurance that, as early as may be found convenient in January 1931, this Board will adopt resolutions pertaining to the Management Fund for the year 1931, that in their judgment will be fair and of a reassuring character. Thereafter, on or before January 2, 1931, payments aggregating $140,938.98 were made from the management fund out of the account known as "Reserve for Other Deductions", this sum being the balance left in this account in January 1929 after all distributions had been made. The payments were made as follows: Mitchell$ 50,515.53Baker16,670.41Byrnes15,154.46Davis6,061.78Olwell5,556.47Russell13,639.51Rentschler$12,123.56Buckley6,061.78Ripley7,577.77Seboepperle4,546.82Sylvester3,030.89140,938.981115 No part of this distribution was applied against the payments made from the management fund July 1, 1929, and the share of G. K. Weeks, who had participated in the distribution of July 1, 1929, to the extent of $110,000 but was no longer890 connected with the company, was split up among the other officers. 43. At a meeting on January 9, 1931, the board of directors of the National City Co. adopted a resolution approving a balance sheet of the National City Co. as of December 31, 1930, which, according to the minutes of the meeting, shows, among other things, "reserves aggregating $10,256,072.28 set up against accounts and notes receivable which, based upon the study of the individual items represented, in the opinion of Vice President Mayer and the comptroller of the company, is sufficient to make the net figure a collectible amount." These reserves included the sum of $1,859,999, this figure being the amount ($1,860,000) distributed from the management fund on July 1, 1929, less $1. No investigation was made of the ability to pay of the officers to whom the distribution of July 1, 1929, had been made, and it was known that at the time of the meeting some of them had assets in substantial amounts. 44. At a meeting of the board of directors of the National City Co. December 28, 1931, the following resolution was passed: WHEREAS, this Company now holds the receipt of Mr. J. P. Ripley reading as follows: "Received891 on July 1, 1929, from The National City Company $150,000, which represents an overpayment to me of my share for the year 1929 in the Management Fund and which is to be repaid by me from future additions to the said Management Fund before I become entitled to any further payments therefrom. (Signed) J. P. RIPLEY" and WHEREAS, it is desirable to recognize the special services performed by J. P. Ripley during the current year in connection with the reorganizations in which The National City Company was interested; Now, THEREFORE, BE IT RESOLVED that, in recognition of such special services and in addition to his regular compensation, this Company does release J. P. Ripley from any further obligation to repay to the Company, out of any future additions to the Management Fund to which he might become entitled, the amount specified in the foregoing receipt, and do cancel and return said receipt to J. P. Ripley. Thereafter on December 31, 1931, on the books of the National City Co. accounts receivable ("Treasurer's Account Special") was credited, and "Surplus and Reserves" was debited in the sum of $150,000, the amount of Joseph Ripley's participation in the management fund distribution892 of July 1, 1929, thus reducing the "Treasurer's Account Special" as shown on the books, from $1,860,000 to $1,710,000. Adjustments were made on the books of the National 1116 City Co., "Supplementary as of December 31, 1931", to reduce the reserve set up on account of the management fund payments from $1,859,999 to $1,709,999. 45. At a meeting of the board of directors of the National City Co., October 10, 1932, the petitioner presented the following resolution: WHEREAS, Lee E. Olwell, formerly Vice President of this Company, has resigned and he is indebted to this Company for loans and advances made to him to the extent of $393,111.65, plus interest from July 1, 1932, which indebtedness is now carried on the books of the Company at $212,500 and is secured by certain collateral of a present market value of about $75,000; and WHEREAS, it is believed that if this indebtedness be reduced to $200,000 and interest is fixed at 3% Mr. Olwell in his new employment will be able to meet the interst payments and ultimately to pay the $200,000 principal of his indebtedness to this Company; NOW, THEREFORE, BE IT RESOLVED that this Company reduce the value on its books of Mr. 893 Olwell's indebtedness to $200,000, cancel all of said indebtedness in excess of said sum and receive from Mr. Olwell his note for $200,000 payable on or before two years from October 1, 1932, with interest at 3% per annum payable quarterly and secured by the same collateral as is now held as security for his existing indebtedness. The indebtedness of Lee E. Olwell, vice president of the National City Co., referred to above, represented moneys borrowed from the company and did not include $70,000 received by Olwell from the distribution from the management fund made in July 1929. Olwell withdrew from the National City Co. in 1932, and was not in its employ October 10, 1932. 46. At a meeting of the board of directors of the National City Co., December 27, 1932, at which petitioner presided, the following resolution was passed: RESOLVED, that the reserve of $1,709,999, now standing against an equal amount of Accounts Receivable on the books of the Company, representing obligations to the Company from participants in the Management Fund in 1929, be applied against such Accounts Receivable and that the obligations of participants in the Management Fund in 1929 be carried on the894 books of the Company at $1.00, without, however, in any respect releasing these participants from their obligations to the Company. Adjustments were made on the books of the National City Co. in conformity with this resolution, and the "Reserve for Doubtful Accounts" was charged with $1 to close the "Treasurer's Account Special." On December 30, 1932, after the "Treasurer's Account Special" had been written down to $1 and closed out of "Accounts Receivable and Payable", entries were made by Frank W. McGuire, assistant secretary of the National City Co., on a loose leaf memorandum book, as follows: Accounts Receivable - Management Fund 1929 DateNameDr.Cr.BalanceJuly 1929C. E. Mitchell$666,666.67H. B. Baker220,000.00G. S. Rentschler100,000.00G. D. Buckley73,333.33R. M. Byrnes170,000.00P. V. Davis80,000.00L. E. Olwell70,000.00Jos. P. Ripley150,000.00S. A. Russell170,000.00W. R. Morrison50,000.00G. K. Weeks110,000.00$1,860,000.00Dec. 28, 1931Resolution by Board of Directors for Special Services of Jos. P. Ripley, he is released from the obligation and the receipt returned to him$150,000.001,710,000.00Dec. 27, 1932Resolution by Board of Directors to establish these accounts at onedollar, without releasing in any way, the participants from their obligations to the Company Amount written down1,709,999.001.00895 1117 All of the above entries were made at the same time, aside from the receipts given by those who participated in the distribution, July 1, 1929, of the management fund. This was the only breakdown in the books and accounts of the National City Co. showing the items included in the "S. W. Baldwin Treasurer Special Account", or the names of the individuals involved. 47. From 1921 to 1930 inclusive, petitioner received a salary of $25,000 per annum from the National City Co. His salary from this company up to that time never exceeded $25,000 per annum. At a meeting of the board of directors of the National City Co. held on June 22, 1931, petitioner's salary was raised to $75,000 per annum. Other officers, besides petitioner, who had participated in the distribution of the management fund July 1, 1929, received increases in salaries. 48. During the year 1930 petitioner received a payment from the management fund of the National City Bank in the amount of $383,000. During the years from 1929 to 1933, inclusive, petitioner received the following sums from the National City Co.: YearSalaryManagement fund1929$ 25,000$ 1,150,000.00193025,0000.00193175,00050,515.33193275,0000.001933 for two monthsSame rate0.00896 1118 Subsequent to the year 1929 there were no further accumulations to the management fund of the National City Co. and no distribution was made from such fund, except the sum of $140,938.98, which sum remained in the management fund after the payment of the distribution made in January 1929. No portion of the distribution of $140,938.98 was applied against the payments made in July 1929 from the management fund. The National City Co. never demanded or received of, or from, any of the parties who received payments from the management fund distribution made in July 1929 any part of that distribution, except that action was taken in regard to Joseph P. Ripley as set forth in the minutes of December 31, 1931, and that on December 10, 1933, Gordon Rentschler voluntarily paid to the National City Co. $100,000, the amount which he had received from the distribution of July, 1929. No payment has been made by petitioner to the National City Co. of any part of the sum received by him from the July 1, 1929, management fund distribution. 49. With petitioner's knowledge and consent, F. W. Black, in preparing petitioner's Federal income tax return for the calendar year 1929, did897 not include the item of $666,666.67 which appeared in petitioner's books as having been received by petitioner from the management fund of the National City Co. on or about July 1, 1929. 50. Petitioner filed a false and fraudulent tax return for the year 1929 with intent to evade tax. The deficiency in tax, or part of it, is due to fraud with intent to evade tax. 51. On December 24, 1930, and prior thereto, petitioner was one of the directors of the Anaconda Copper Mining Co. John D. Ryan was chairman of the board of directors of the same company and had been a friend of petitioner for many years. Ryan was also a member of the board of directors of the National City Bank. 52. On December 24, 1930, petitioner owned 10,000 shares of Anaconda stock, which he had acquired between January 15, 1929, and June 18, 1929, at a cost of $1,163,104.38, or $116.31 per share. The market price of this stock in December 1930 was slightly less than $30 per share. 53. William D. Thornton in December 1930 was president of the Green Cananea Copper Co., a subsidiary of the Anaconda Copper Mining Co. Mr. Thornton was a friend and business associate for thirty years of John D. Ryan, and898 had known petitioner for some years. 54. In December 1930 petitioner determined to sell 8,500 shares of Anaconda stock because he had a substantial income that would be wiped out by "the registration of the loss" incident to the sale of such shares in that year. On or about December 20, 1930, petitioner saw John D. Ryan and discussed the matter with him. Ryan was 1119 disturbed because petitioner proposed to sell the stock in the open market and asked petitioner if he would be willing to sell the stock to a private buyer if he (Ryan) could find one for him. Petitioner told him he thought he would. 55. On December 24 petitioner consulted Forbes, of Shearman & Sterling, as to whether or not a sale of an active listed stock to a private individual rather than on the market would affect adversely the establishing of a loss for income tax purposes. Forbes advised him that a loss could be established by a private sale if an actual sale were made before the end of the year. While Forbes was in his office, petitioner called Ryan on the telephone and was informed by Ryan that W. D. Thornton would buy his stock. 56. About noon of December 24, 1930, Ryan came to petitioner's899 office and told him that Thornton would want to borrow some money to pay for the stock and inquired if the National City Bank would lend him the money on the security of the 8,500 shares of Anaconda and additional shares of the same stock which he was prepared to put up. Petitioner declined to make the loan because of his personal connection with it and agreed to ask J. P. Morgan & Co. to make the loan. Following this conversation with Ryan, petitioner telephoned to George Whitney of J. P. Morgan & Co. concerning a loan to Thornton from J. P. Morgan & Co. of $229,500, to be secured by 11,000 shares of Anaconda Copper Mining stock as collateral. Whitney agreed to make the loan and on December 26, 1930, petitioner wrote the following letter to Whitney, in longhand: 12/26. Dear George: This is as arranged with you on Wed. Thornton will send you signed loan agreement and 2500 sh additional probably today but certainly not later than Monday. Yours, [Signed] C.E.M. 57. On December 26, 1930, petitioner also wrote to J. P. Morgan & Co. as follows: DECEMBER 26, 1930. J. P. MORGAN & COMPANY, 23 Wall Street, New York City.GENTLEMEN: I have sold to and900 will ask you to deliver from collateral in my loan with you 8500 shares of stock of Anaconda Copper Mining Company to Mr. William D. Thornton, 25 Broadway, New York City upon payment by him of $229,500, which amount, less stock transfer tax, please apply to the reduction of my loan. Advice that this transaction has been completed will be appreciated. Very truly yours, [Signed] C. E. MITCHELL. 1120 On the same day petitioner wrote to Ryan as follows: DECEMBER 26, 1930. Mr. JOHN D. RYAN, 25 Broadway, New York City.DEAR JOHN: Pursuant to our conversation of Wednesday, I enclose a copy of a letter which I have addressed and delivered to J. P. Morgan & Company today. Also a draft of a letter for Mr. Thornton to send to J. P. Morgan & Company. Will you be so good to see that Mr. Thornton writes and signs this letter, and that it is sent with the loan contract agreement and the additional stock to J. P. Morgan & Company not later than next Monday. I appreciate very much indeed your own auspices in this matter. Very truly yours, [Signed] CHARLES. The enclosure referred to in petitioner's letter to Ryan was the letter to J. P. Morgan & Co. 901 , set out above, and the following draft of a letter to be written by Thornton to J. P. Morgan & Co.: DRAFT DECEMBER 26, 1930. J. P. MORGAN & COMPANY 23 Wall Street, New York City.Attention Mr. George Whitney GENTLEMEN: I have purchased from Mr. C. E. Mitchell, 55 Wall Street, 8500 shares stock of Anaconda Copper Mining Company and am advised that delivery will be made through you. In accordance with oral arrangements please accept delivery for my account, making payment therefor in the amount of $229,500. I hand you herewith 2500 shares of Anaconda Copper Mining Company stock which, with the 8500 shares covered by the first mentioned transaction, making a total of 11,000 shares, please place as collateral to the enclosed loan contract agreement. I would appreciate receiving word from you that the aforesaid transaction has been completed. Very truly yours, This draft was delivered by Ryan to Walter P. Adams, the accountant for both Thornton and Ryan, who caused a copy of it to be made, signed by Thornton and sent to J. P. Morgan & Co. 58. On December 26, 1930, the 2,500 shares of Anaconda Copper Mining stock referred to in petitioner's letter to Whitney902 of December 26 (set out above) and in the letter signed by Thornton and sent to J. P. Morgan & Co. (draft set out above) were sent to J. P. Morgan & Co. as additional collateral for Thornton's demand loan of $229,500. Said 2,500 shares were the property of John D. Ryan and stood in the name of Hornblower & Weeks and were endorsed in blank. 59. The rate of interest charged by J. P. Morgan & Co. on this loan was 5 percent per annum. In December 1930 Thornton had collateral loans with two banks. During the latter part of 1929 and the early part of 1930 the interest rate on these loans had been 6 percent 1121 and was thereafter reduced to 5 1/2 percent, 5 percent, and finally on June 20, 1930, and June 27, 1930, to 4 1/2 percent, which rate continued in effect through 1930. Prior to December 26, 1930, Thornton, individually, had never had any business with J. P. Morgan & Co. 60. Thornton had 17,000 shares of free Anaconda stock at Hornblower & Weeks and up to the time Ryan talked to him concerning the purchase of the 8,500 shares from petitioner he never thought of buying an additional large block of Anaconda. When Ryan suggested that he buy the Anaconda stock he immediately903 agreed. All the arrangements for the transaction were made with Thornton by Ryan. Petitioner did not see Thornton nor talk with him about the transaction in any way. 61. On December 26, 1930, J. P. Morgan & Co. wrote to Thornton as follows: DECEMBER 26, 1930. W. D. THORNTON, ESQ., 25 Broadway, New York, N.Y.DEAR SIR: We have today received for your account, from Mr. C. E. Mitchell, 8500 shares of Anaconda Copper Mining Company stock against payment of $229,500. To cover cost of the above-mentioned stock we have today made you a demand loan for $229,500. with interest at 5% and will hold the stock as collateral together with 2500 shares of Anaconda Copper Mining Company stock received from you today. Kindly advise us in what name you wish the 8500 shares of Anaconda Copper Mining Company stock registered. Your very truly, On the same date J. P. Morgan & Co. acknowledged receipt of petitioner's letter, advising him of the delivery of the 8,500 shares of Anaconda stock to Thornton and that they had used the $229,500, received from Thornton by paying $170 for stock transfer stamps and applying the balance of $229,330 as a credit upon petitioner's demand904 loan. 62. The Thornton loan, with the collateral of 11,000 shares of Anaconda stock, was set up on the books of account of J. P. Morgan & Co. On December 29, 1930, Thornton replied to the letter of J. P. Morgan & Co. of December 26, 1930, and asked that the 8,500 shares of Anaconda stock be registered in the name of Morgan's nominee. Thereupon J. P. Morgan & Co. had the 8,500 shares transferred to the name of their nominee, "C. S. Hawkins", and endorsed in blank by him. 63. In the latter part of January or the early part of February 1931, Ryan and Thornton left for California and did not return until the end of April 1931. 64. On February 16, 1931, J. P. Morgan & Co. received $5,312.50, representing a quarterly dividend of 62 1/2 cents per share on the 8,500 1122 shares of Anaconda Copper Mining Co. stock, which was applied on account of the principal of Thornton's demand loan. Morgan & Co. wrote to Thornton as follows: FEBRUARY 16, 1936. W. D. THORNTON, ESQ., 25 Broadway, New York City.DEAR SIR: We have today received check for $5,312.50 representing dividend on 8,500 shares Anaconda Copper Mining Company stock which we hold as part collateral905 to your demand loan dated December 26, 1930. As instructed we have applied the above mentioned check on account of the principal of your demand loan. Yours very truly, The same dividend on 2,500 shares of Anaconda Copper Mining Co. stock held by J. P. Morgan & Co. as collateral on Thornton's loan, but still registered in the name of Hornblower & Weeks, was received by Hornblower & Weeks and credited to the account of John D. Ryan. Ryan was advised by Hornblower & Weeks of this credit. On April 23, 1931, he advised Hornblower & Weeks to credit the quarterly dividend on his 2,500 shares of Anaconda stock, payable on May 18, 1931, to his account. 65. On March 28, 1931, J. P. Morgan & Co. was requested to increase the principal of the loan by the amount of the interest due. On March 31, 1931, J. P. Morgan & Co., wrote to Thornton that they had so increased the principal of his loan by $2,996.40 in lieu of payment of the interest. 66. During the period between December 26, 1930, and May 4, 1931, the market price of Anaconda stock on the New York Stock Exchange had a price range of 25 7/8 as the low and 43 1/4 as the high, the high point being reached on February 27, 1931, and906 the low point on May 4, 1931. At no time after December 26, 1930, and prior to May 1, 1931, did the stock sell as low as 27, which was the price of the stock to Thornton. Sometime prior to April 28, 1931, when Anaconda stock went up, Thornton discussed the matter of a sale with Ryan. He told Ryan he had a handsome profit, about $100,000 on the 8,500 shares, and suggested it would be a good time to take it. Ryan advised him not to sell at that time. About April 30, 1931, when Thornton returned to New York, he suggested to Ryan that the stock ought to be sold. It was agreed that the stock would be sent over to Hornblower & Weeks to be sold under Ryan's instructions. Thornton understood before Hornblower & Weeks sold the stock that petitioner wanted to repurchase it. 67. Shortly after Ryan returned to New York from California, in the latter part of April, Ryan talked with petitioner about bringing 1123 his Anaconda holdings up to his original 10,000 shares, calling his attention to the fact that the market had receded to a point very close to that at which petitioner had sold the 8,500 shares, and offering to furnish Anaconda stock for such additional collateral as907 might be necessary in making a loan for that purpose. When petitioner expressed apprehension that his order would put the market up against him unless he might be sure that the stock was there to meet the order, it was arranged that he would put the order through Hornblower & Weeks and Ryan would have the stock there to meet the order. Petitioner had never had business transactions with Hornblower & Weeks. 68. On May 4, 1931, Thornton signed the following letter to J. P. Morgan & Co.: MAY 4TH, 1931. Messrs. J. P. MORGAN & Co., 23 Wall Street, New York City.DEAR SIRS: Will you please deliver to Messrs. Hornblower & Weeks, 42 Broadway, New York City, for my account eleven thousand (11,000) shares of Anaconda Copper Mining Company stock which you are holding as collateral security for my loan, and receive from them $228,256.71, principal and interest due on my note. Thanking you, I am Very truly yours, [Signed] W. D. THORNTON. On the same day Thornton signed a letter to Hornblower & Weeks asking them to pay the sum of $228,256.71 to J. P. Morgan & Co., and to accept the 11,000 shares of Anaconda stock for his account. Both letters were prepared908 by Adams. Ryan told Thornton petitioner wanted to buy the stock back. 69. On May 4, 1931, J. P. Morgan & Co. delivered the 11,000 shares to Hornblower & Weeks, and received from Hornblower & Weeks the amount of Thornton's debit balance to J. P. Morgan & Co. in the sum of $228,256.71, which amount was charged to Thornton's account by Hornblower & Weeks. Certificates representing 2,500 of these shares were the same certificates which had been delivered to J. P. Morgan & Co. as part of the collateral for Thornton's loan, and such shares on May 4, 1931, were still the property of Ryan. 70. On May 4, 1931, Ryan placed an order with Hornblower & Weeks to purchase 8,500 shares of Anaconda stock for an account to be opened with Hornblower & Weeks for the petitioner, and at the same time to sell 8,500 shares of Anaconda stock for Thornton's account. Ryan and Thornton transacted most of their brokerage business through that firm. 1124 Both orders were executed on the floor of the New York Stock Exchange on May 4, 1931, at 26 5/8. The transaction was handled in accordance with the rules of the New York Stock Exchange, which required that cross orders be executed by offering909 the stock for sale on the market at one eighth of a point higher than the existing market price before such sale could be consummated at the market price. Such offers were public offers and might be accepted by any member of the Exchange under the rules of the New York Stock Exchange then in force. The sale of 8,500 shares of Anaconda stock at 26 5/8 was recorded on the ticker tape which reported transactions on the Exchange on said date. 71. On May 6, 1931, Hornblower & Weeks tendered delivery to petitioner of 11,000 shares of Anaconda stock to be taken up against the payment of the purchase price of 8,500 shares, aggregating $227,587.50. Petitioner advised Hornblower & Weeks that he did not have the money ready on that day to take up the stock, but that he would take it up the following day. The stock was thereupon returned to Hornblower & Weeks. 72. On May 6, 1931, petitioner arranged with the Guaranty Trust Co. for a loan of $200,000 against suitable collateral, and wrote the Guaranty Trust Co. as follows: MAY 6, 1931. GUARANTY TRUST COMPANY, 140 Broadway, New York City.Attention - Mr. W. P. Conway, Vice President. GENTLEMEN: Pursuant to our telephone910 conversation today, there will be delivered to you for my account tomorrow 11,000 shares Anaconda Copper Mining Company stock by Hornblower & Weeks, against which delivery please pay them $200,000, carrying said amount in loan for me. Yours very truly, [Signed] C. E. MITCHELL. The same day petitioner signed a loan application, in the usual form of the Guaranty Trust Co., as follows: NEW YORK, May 6, 1931.GUARANTY TRUST COMPANY OF NEW YORK Please loan the undersigned jointly and severally under the terms of agreement dated on file with you, $200,000 payable demand with interest at 4 per cent. secured by the following collateral: Eleven thousand (11,000) shares Anaconda Copper Mining Co. stock. [Signed] C. E. MITCHELL Petitioner also signed a power of attorney for the collateral. On the same date he also wrote to Hornblower & Weeks as follows: 1125 HORNBLOWER AND WEEKS, MAY 6, 1931. 42 Broadway, New York City.GENTLEMEN: Please deliver tomorrow, Thursday, to the Guaranty Trust Company for my account 11,000 shares of Anaconda Copper Mining Company stock against payment of $200,000. In addition to the above, I am enclosing my911 check to your order for $27,628.60, which represents payment of balance of my account. Yours very truly, [Signed] C. E. MITCHELL. With this letter petitioner enclosed his check for $27,628.60 to the order of Hornblower & Weeks. This sum represented the difference between $200,000 and the purchase price of the 8,500 shares of Anaconda stock. 73. In accordance with the petitioner's instructions of May 6, 1931, Hornblower & Weeks delivered 8,500 shares of Anaconda Copper Mining Co. stock, together with the 2,500 shares of Anaconda stock which were the property of John D. Ryan, to the Guaranty Trust Co. on May 7, 1931. The certificates for 2,500 shares so delivered to the Guaranty Trust Co. by Hornblower & Weeks were the same certificates that had been received by Hornblower & Weeks from J. P. Morgan & Co. for Thornton's account. The certificates for 8,500 shares so delivered were not the same certificates that had been received by Hornblower & Weeks from J. P. Morgan & Co. 74. On May 7, 1931, the Guaranty Trust Co. advised petitioner that it had received from Hornblower & Weeks 11,000 shares of Anaconda stock against the payment by it of $200,000, and on the same912 day Hornblower & Weeks advised petitioner of that delivery against $200,000, and acknowledged receipt of petitioner's check for $27,628.60, being the balance of the total purchase price of the 8,500 shares plus $41.10 interest. 75. On May 7, 1931, petitioner wrote the following letter to John D. Ryan: MAY 7, 1931. DEAR JOHN: This is to thank you sincerely for your loan to me of 2,500 shares of Anaconda Copper Mining Company stock, which was delivered by Hornblower and Weeks today, together with the 8,500 shares of stock which was purchased by them for my account. Your stock is, of course, loaned to me to be returned on your demand. Yours very truly, [Signed] C. E. MITCHELL. At the bottom of this letter appears the following notation in the handwriting of Ryan: This refers to a loan of 2500 Anaconda to C.E.M. without payment or consideration of any kind. May 8/31 J.D.R. 1126 76. On May 18, 1931, J. P. Morgan & Co. sent to Thornton their check for $3,187.50 covering a dividend of 37 1/2 cents a share on 8,500 shares of Anaconda stock, which dividend had been declared prior to May 4, 1931, and was not payable until May 18, 1931. On May 22, 1931, Thornton913 enclosed in a letter to Hornblower & Weeks his check for $3,415.02, the balance due on the account. 77. Prior to May 18, 1931, Adams, accountant for Thornton and Ryan, prepared a memorandum which was handed to petitioner by Ryan. This memorandum shows the gain or loss occasioned by the transaction and is as follows: J. P. Morgan & Co. Loan8500 Anaconda bought at 27$229,500.00Feb. 16th dividend5,312.50Mch. 31st interest2,996.40May 4th interest1,072.81Total$228,256.71Hornblower & Weeks W. D. Thornton a/c8500 shares recd for$228,256.718500 shares sold at 26 5/8$226,312.50Stamps - commission1,445.00224,867.50W.D.T. Loss$3,389.21Dividend on 8500 Anaconda to be received May 18, 1931 at 37 1/2 3,187.50W. D. T. Loss$201.71This memorandum was handed to petitioner by Ryan, and petitioner turned the same over to F. W. Black, who prepared petitioner's income tax returns. The memorandum remained in Black's possession. 78. In Thornton's Federal income tax return for the calendar year 1931, which return was prepared by Adams, Thornton reported a purchase of 8,500 shares of Anaconda stock on914 December 26, 1930, and a sale of 8,500 shares of Anaconda stock on May 4, 1931, resulting in a loss on the transaction in the amount of $201.71, after taking into account interest paid and dividends received. 79. In the calendar year 1930, dividends of $73,200 were paid on the 18,300 shares of National City Bank stock registered in the name of Taff & Co. and held by J. P. Morgan & Co. as collateral for petitioner's loan account. In his 1930 Federal income tax return petitioner reported $18,300 of this sum, being the dividend declared December 3, 1929, and payable January 1, 1930, to stockholders of record on December 7, 1929, and in her return for the calendar year 1930 Elizabeth R. Mitchell reported the balance of $54,900, as dividends received from 18,300 shares of National City Bank stock. For 1127 the same year Mrs. Mitchell deducted as interest paid to petitioner during said year the sum of $158,417.01. Petitioner did not report the item of $54,900 as dividends received in his return for 1930. 80. For the calendar year 1931 Mrs. Mitchell reported on her individual tax return the sum of $73,200 as dividends received from 18,300 shares of National City Bank stock. 915 For the same year Mrs. Mitchell deducted as interest paid to petitioner during the year the sum of $196,678.18. 81. Petitioner filed a false and fraudulent return for the year 1930, with intent to evade tax. The deficiency in tax, or part of it, is due to fraud with intent to evade tax. 82. On April 25, 1933, an indictment was returned against petitioner by a grand jury of the District Court of the United States for the Southern District of New York. The indictment contained two counts. The first count charged that petitioner "unlawfully, wilfully, knowingly, feloniously and fraudulently did attempt to defeat and evade an income tax of, to-wit, $728,709.84 upon his net income for 1929." The second count charged that petitioner "unlawfully, wilfully, knowingly, feloniously and fraudulently did attempt to defeat and evade an income tax of, to-wit, $121,719.84 upon his net income for the calendar year 1930." To both counts in that indictment petitioner entered a plea of not guilty. The item of $728,709.84 set out in the first count of said indictment and the item of $121,719.84 set out in the second count are identical with the deficiences asserted by the Commissioner for916 the years 1929 and 1930 and claimed by the respondent in this proceeding, but do not include the 50 percent penalty asserted here. Said items and deficiencies arose from the same transactions of petitioner, i.e., for 1929 the deduction of $2,872,305.50 as a loss sustained upon the sale on December 20, 1929, of 18,300 shares of the stock of the National City Bank to his wife, Elizabeth R. Mitchell, and the failure to include in his income for 1929 the sum of $666,666.67 received by petitioner from the management fund of the National City Co. on July 1, 1929; for 1930, the deduction by petitioner of the sum of $758,918.25 as a loss from the sale of 8,500 shares of Anaconda Copper Mining Co. stock to W. D. Thornton, and the failure of petitioner to include in income for 1930, $54,900 representing dividends upon 18,300 shares of National City Bank stock. 83. Thereafter, petitioner was tried upon the charges contained in the said indictment before Judge Henry W. Goddard and a trial jury in the said United States District Court, the trial commencing May 11, 1933, and terminating on June 22, 1933. 84. On June 22, 1933, a verdict of not guilty was returned by the jury on all counts917 of the indictment. 1128 OPINION. VAN FOSSAN: In this case the Government charges that for each of the tax years 1929 and 1930 petitioner filed a false and fraudulent return with intent to evade tax. The years stand separately. The establishment of fraud in the particular year is a prerequisite to further consideration of the case for that year. If there was no fraud, the statute of limitations has run against any deficiency for such year. If fraud be proven the case is before us on all issues for the year in question. Sec. 276(a), Revenue Act of 1928. Under the revenue laws every taxpayer is, in the first instance, his own assessor. He determines the amount of tax due. This privilege carries with it a concurrent responsibility to deal frankly and honestly with the Government - to make a full revelation and fair return of all income received and to claim no deductions not legally due. This responsibility is not properly discharged by resolving all doubts against the Government, or by giving effect to studied efforts to wipe out taxable income by secret and questionable practices. It is a maxim of our law that, in dealing with the Government, taxpayers must918 turn square corners. The responsibility of making a tax return is personal and rests squarely on the shoulders of the taxpayer. When he makes oath to the correctness of his return he assumes responsibility therefor. Only in rare instances can the consequences incident thereto be delegated to another. Section 293(b) of the Revenue Act of 1928 provides: SEC. 293. ADDITIONS TO THE TAX IN CASE OF DEFICIENCY. * * (b) Fraud. - If any part of any deficiency is due to fraud with intent to evade tax, then 50 per centum of the total amount of the deficiency (in addition to such deficiency) shall be so assessed, collected, and paid, in lieu of the 50 per centum addition to the tax provided in section 3176 of the Revised Statutes, as amended. To determine whether or not fraud exists, a case must be studied, not alone for conformity to definition, nor with a blind adherence to syllogistic reasoning. Fraud is a fact to be proven by clear and convincing evidence. Seldom does all the evidence point one way. There are usually facts that tend to support petitioner's theory of the case - that tend to clear him of any fraudulent intent; and there are other facts that point919 in the opposite direction and tend to prove fraud. Likewise, the proof of fraud by the citation of one single specific act is seldom possible. It is usually to be determined by viewing a whole course of conduct involving many acts and inferences. In this process of analysis the old illustration of the strength of a bundle of sticks is apt. Separate facts may be reasoned away 1129 and their force broken by plausible explanations, but when all of the facts in proof are bound together, the weak with the strong, they may create such an aggregate of strength as to defy refutation. Nor is the absence of fraudulent intent necessarily established by the protestations of innocence of the parties, however vigorous. ; affd., ; . It is to be gleaned from all the facts and the normal and reasonable inference therefrom. Though intent is a state of mind, its character is to be established, as other facts are established, by weighing all of the evidence and applying the proper measure of proof. In this situation the trier of the facts920 is charged with the responsibility of passing on the credibility of the evidence. This duty involves the winnowing of the wheat of truth from the chaff of untruth - the sorting of the real from the seeming. This duty is not without its inherent difficulty. In cases such as this, almost without exception, the taxpayer testifies categorically to the purity of his motives and the absence of fraudulent intent. And if, on the whole record, he convinces those charged with decision of his forthrightness of purpose, his innocence of improper motive, the impenetrable honesty of his position - if neither contradictory circumstance nor inherent lack of probability weakens his credibility, he must prevail. On the other hand, if, after listening to the taxpayer's protestations of innocence and hearing his explanations of his conduct, the trier of the facts is unable to give such protestations full weight and such explanations full credence, if on the whole record of fact, inference, and circumstance there abides in the mind of the trier a conviction, based on clear and convincing evidence, that fraud has been committed, then the decision must be against him. 921 ; . The specific items in controversy for the year 1929 are the alleged sale by petitioner to his wife and the failure to report as income the large payment from the management fund. The transaction with Mrs. Mitchell had its inception in an admitted desire and a purpose to reduce or obviate the payment of taxes. It has been said many times that there is nothing illegal or reprehensible in an honest effort to reduce taxes to the minimum required by law. ; ; . Theoretically, at least, there can be but one correct amount of tax due and it is in the ascertainment of this correct amount that most tax controversies have their origin. But the courts and the Board have also often said that a transaction solely designed to save taxes, 1130 especially one between husband and wife, will be subjected to strict scrutiny to determine whether the transaction is real or is merely a pretense. 922 ; ; . Before he took up with Mrs. Mitchell the question of a possible sale to her of the stock, petitioner had come to the conclusion, by whatever process of reasoning employed, that the payment of $666,666.67 received from the management fund was not income. There remained approximately $2,800,000 in income which he desired to wipe out. He determined to accomplish this end by "registering a loss" (to use his words) on the 18,300 shares of National City Bank stock. He decided on a sale to his wife, subject to getting the advice of his attorney. In this matter petitioner protests that he would not have gone ahead had his attorney advised against such procedure, but here we are unable to give full weight to his declarations. There are conceivable instances in which a taxpayer may shield himself behind the advice of counsel, but the facts in this case do not present such a situation. Petitioner was fully experienced in the business of making sales. It is not to be believed that he did not know the basic essentials of such a923 transaction, and that "A sale must rest on a genuine intention to dispose of property without reservation or evasion of mind." Moreover, despite his contention that he sought legal advice, intending to rely thereon, the record does not sustain such contention. Counsel told him the necessary requirements of a valid sale, and were these elements present in the facts we should hold the sale valid. However, petitioner did not reveal to counsel all of the necessary facts to enable him to advise definitely as to this particular sale, nor did counsel, with full knowledge of the facts, attempt or purport to advise petitioner to make the sale. By clear inference counsel suggested doubt as to the proposed sale. Moreover, petitioner did not choose to follow such advice as was given. Although counsel told him that a very carefully drawn agreement was necessary, petitioner determined to follow his usual practice and exchange letters with his wife. We are convinced that he had chosen his course of action and that he proceeded to follow it, notwithstanding the cautionary advice of counsel. "Advice of counsel" affords him no shelter from the consequences924 of his conduct under the facts in this case. The record reveals many facts of consequence. At the time of the alleged sale Mrs. Mitchell's total resources amounted to less than a million dollars. The sale price of the stock approximated four million dollars. The total amount of cash in Mrs. Mitchell's hands consisted of some $32,000. The so-called "interest" due to petitioner 1131 on account of the alleged sale amounted to approximately $196,000 per year. The dividends on the stock amounted to but $73,200 per year. The difference between these sums was furnished by petitioner to his wife, who in turn paid the same, and all money received as dividends, to petitioner. The stock was all pledged to secure a large loan with Morgan & Co.; therefore, no delivery was made or was possible. Though advised to notify Morgan & Co. of the alleged sale petitioner did not do so. Though advised that internal revenue stamps were required, no stamps were affixed. No bill of sale was executed. No payment on account of principal was ever made. There was no entry by Mrs. Mitchell on her books of any indebtedness to petitioner. Although Mrs. Mitchell claims to have bought in order925 to resell at a profit, she did not sell although the market improved to such an extent that she could have sold at a profit of three quarters of a million dollars, thereby nearly doubling her fortune. That petitioner deemed himself the owner of the stock at all times appears by clear inference in his efforts to have the National City Co. recognize the validity of his claim for relief and assume his obligation Co. recognize the validity of his claim for relief and assume his obligation business associates during these negotiations the alleged disposition of the stock nor suggest that the claim had been sold to his wife. The alleged repurchase corroborates the plain deduction from the above facts. Though the market had fallen to $45 per share, the price at which petitioner "reacquired" the stock was $212 per share, the price at the time Mrs. Mitchell was alleged to have bought. This transaction occurred at a time when petitioner was insolvent to an amount of $3,000,000. Had the sale been real, the relief of Mrs. Mitchell from the burden of interest could more simply have been accomplished by releasing Mrs. Mitchell from the alleged obligation to pay interest. Over against926 this array of circumstances, stand the protestations of petitioner that the entire transaction was bona fide; that the sale was actual; that title passed; and that the repurchase arose solely from petitioner's desire to protect his wife's separate estate. Explanations of some plausibility are offered of each step. But on the entire record of the transaction, according to each fact such weight as in our judgment it deserves, drawing such inferences as logically flow from each circumstance, we find ourselves impelled to the conclusion that petitioner never intended to part with title; that no real sale was made; and that at all times he was the true owner of the stock. We are of the opinion that the Government has proved by clear and convincing evidence that the transaction between petitioner and his wife was a sham, a mere pretense conceived and carried out for the fraudulent purpose of evading taxes. The petitioner sustained no loss on the 1132 transaction and the alleged loss is disallowed. See , and cases there cited; 927 . The other item in the 1929 situation is the failure to report for taxation the sum of $666,666.67 received as a distribution from the management fund in July 1929. The primary facts as to this item may be briefly summarized. The National City Co. in 1921 established a bonus system for certain officers of the company under the name "Management Fund." It was continued from year to year and payments or distributions were made therefrom. Under corporate resolution the fund was built up by monthly accretions from profits. At the close of the current year, or at any time, or from time to time during the year, the executive committee was empowered to make distributions from the fund to the beneficiaries, one half in accordance with fixed percentages, and the remaining one half at the close of the year in such proportion as the committee should fix. The percentage of the president was fixed at 33 1/3 percent of the entire fund and was not subject to the discretion of the committee. On January 3, 1929, the sum of $1,450,000 was distributed, petitioner receiving $483,333.33 of such sum. This was reported as income. There remained in928 the 1928 fund after such payment the sum of $140,938.98. On July 1, 1929, petitioner received a distribution of $666,666.67 from the 1929 management fund. There were additional accumulations in the fund through the months following, until November. There were no credits to the fund in November and December and the losses of the company during those months exceeded the profits earned during the first ten months of the year. After various conferences in December 1929, initiated by petitioner, concerning the status of the fund and the payments therefrom, the recipients, including petitioner, signed the so-called "receipts", by the terms of which the signer acknowledged that the payment "represented an overpayment * * * to be repaid from future additions to said management fund before [he became] entitled to any further payments therefrom." Book entries and corporate resolutions reflecting the action were made. Petitioner did not report the sum so received from the management fund in his 1929 return. On January 2, 1931, the sum of $140,938.98 remaining in the 1928 fund was distributed, petitioner receiving $50,515.53. This sum was not credited against the alleged overpayment929 for 1929. Subsequently the alleged obligation to repay was written down on the books of the company to $1. That the payment received by petitioner was taxable as income seems beyond question. It was paid not as a loan or advance (cf. 1133 ; ), but without apparent qualification or restriction. , and cases there cited. It was received and treated by the recipients as their own. It was not repaid during the taxable year or at any subsequent time. The changed condition in the finances of the company which led to the signing of the receipts was not anticipated and could not have been foreseen. The resolutions creating the fund and providing for its distribution did not provide for such a contingency. Nor did the signing of the receipts or the making of entries on the books of the company characterizing the payment as an overpayment subject to repayment out of future earnings alter the taxable character of the payment so received by petitioner. Its taxability was fixed at the time of payment. 930 , and cases cited therein; ; ; ; ; None of the cases cited by petitioner present parallel situations or are authoritative here. He lays special emphasis on the case of Gallin et al. v.National City Bank of New York et al., a case in the Supreme Court of New York County, New York, in which certain stockholders charged that the directors of the bank and the National City Co. had breached their statutory or common law duty in certain claimed respects, to the damage of the bank and the company. Among the alleged breaches were the establishment and distribution of management funds, it being claimed that the same resulted in the payment of exorbitant sums to officers and the waste and spoliation of corporate assets. Petitioner has culled certain expressions from the opinion of the court in that case which he claims sustain his position here in respect to the management fund. 931 Singularly enough, respondent also points to certain statements of the court as strongly supporting his position. We have examined the opinion with care and have come to the conclusion that it is neither pertinent nor authoritative in the case before us. There are expressions in the opinion which, taken from their context, seem to lend support to one side or the other in the present controversy but which, if read in their context and considered in the light of the questions involved and decided by the court, are found to be of no help in determining the taxability of the management fund payment. When the "receipt" is subjected to study, it is readily seen that it created no definite obligation to repay. Any repayment was dependent wholly on the continuance of the fund and its future earnings. But the fund existed only from year to year. It was subject to 1134 any corporate action that might be taken either extending it for another year, or, in corporate discretion, abolishing it entirely, The "receipt" was valueless without further action in its support, and was wholly dependent on future earnings. In no sense was it an enforceable, unqualified obligation to repay. 932 The conferences with counsel and other officers respecting the possibility of repayment, the signing of the receipts, the corporate action and the making of book entries were largely at petitioner's initiation and followed his own decision that the payment should not be considered as income. The springing into existence of these subsequently conceived facts in support of petitioner's determination already arrived at suggests the employment of deliberate artifice to give color to his action in not reporting the payment for taxation. They appear as mere gestures lacking in the spark of reality that distinguishes the genuine from the pretended. When all the facts pertinent to this item are considered and it is noted that petitioner's tax accounting for 1929 was characterized by an apparent indifference to the right of the Government to receive its toll in the form of taxes; that all doubts were resolved against the Government; that the taxpayer omitted from income a large payment received and enjoyed by him and failed to reveal to the Government the fact of such payment, although, as he testifies, he considered its taxability a close question, and now defends such concealment933 on the patently lame excuse of a possible obligation to repay - when such a review is made - there can be little doubt as to the intent of the taxpayer. The omission of the item was due to an intention to defraud the Government of taxes. ; ; ; . We conclude that the omission of the item of $666,666.67 from his tax return for 1929 was fraudulent. When we examine the proof respecting the sale in 1930 and repurchase in 1931 of Anaconda Copper Co. stock we find a very different situation from that obtaining in the transaction involving National City Bank stock heretofore discussed. Though the motive suggesting the sale was the reduction of taxes, as already pointed out, this motive alone does not condemn a sale. If the sale be actual, judged by the normal criteria of the law of sales, and there be nothing to indicate a lack of bona fides in the transaction, such a sale may give rise to a lawful deduction. The same law that requires the reporting of profit received on a sale of property allows the934 deduction of a loss suffered in such a transaction. The test is the reality of the claimed loss and the genuineness of the factors involved. 1135 Although there is a certain parallelism between some phases of the two transactions, there are vital differentiating elements. There was in each case an alleged sale for tax purposes and a subsequent repurchase at approximately the same price. In this the transactions are similar, but there the resemblance appears to end. In the 1929 "sale" the facts failed to integrate with the legal principles on which a sale must rest. In the 1930 sale there is a reasonable and satisfactory integration of the facts and governing principles. The evidence reveals that the several persons concerned in the 1930 sale were motivated by lawful impulses and that the design was to accomplish lawful ends. The repurchase likewise is found to rest on a reasonable and normal basis. It was colosed at the market. It is not shown by fact, circumstances, or inference to have been a part of a preconceived plan by which the semblance of reality was given to a transaction by the implicit terms of which title never was intended to pass. We find the sale935 of Anaconda Copper stock to have been bona fide and lawful. Petitioner was, therefore, entitled to deduction of the loss so sustained. It follows that the claim of loss on this item afforded no basis for a finding of fraud. We have indicated our conclusion that in 1929 petitioner conceived and carried out the alleged sale of National City Bank stock with the fraudulent purpose of evading taxes. This transaction involved various steps. On execution, each step became a part in a fraudulent plan and is stampted with the character of the plan. Among the steps taken were the arrangement to have the dividends paid to petitioner's wife and the return of the same by her for taxation. Since the stock was never sold these dividends at all times belonged to the petitioner. They should have been reported by him for taxation. Their omission from his return in 1930 in conformity with and in support of the fraudulent plan to evade taxes for 1929 is, in itself, fraudulent. Section 293(b) of the Revenue Act of 1928 provides that "if any part of any deficiency is due to fraud with intent to evade tax * * " the penalty shall apply to the whole of such deficiency. We conclude that the return936 of petitioner for 1930 was false and fraudulent with intent to evade tax. We come now to the final issue. Petitioner asserts that the identical matters here in controversy were involved in the case of United States v. Mitchell, in which he was acquitted by a jury in the Federal District Court for the Southern District of New York, and that the verdict in that case constitutes a bar against a decision in this proceeding. He argues, in effect, that the imposition of the penalties prescribed in section 293(b) of the Revenue Act of 1928, supra, would constitute a second punishment for the same offense for which he was 1136 indicted and of which he was acquitted under the provisions of section 146(b) of the same revenue act. 1937 A careful study of the two sections convinces us that they are basically different in character and were enacted for wholly different purposes. The language of the two sections differs widely and contemplates situations which may require entirely dissimilar proof. Section 146(b) is a statute defining a felony and establishing punishment and penalties for the commission of a crime. It is a punitive statute and prosecution thereunder is strictly a criminal proceeding initiated by the United States. Section 293(b) imposes an additional 50 percent of the deficiency if any part of the deficiency is due to fraud with intent to evade the tax. Proceedings thereunder are civil in character and are initiated by the taxpayer. The penalties contained therein are likewise civil and were inserted in the taxing statutes to aid in collecting revenue. ; ; . They become a part of the deficiency in tax and are collected in the same manner as the deficiencies. 938 ; . In , the situation resembled that now before us, with the exception that the indictment of the petitioner was quashed. We there said: Even if the quashing of the indictment in the criminal proceeding might be said to be a judgment of acquittal, it is not res judicata in this proceeding. It is not even admissible as evidence of the truth or falsity of the facts decided in the prior proceeding. See ; ; 34 Corpus Juris 971; 15 R.C.L. 1000-1003, and cases cited. Although the quoted statement was perhaps obiter in view of the question there presented, we believe it to be a correct statement of the law. . We are of the opinion that the indictment and acquittal of petitioner under section 146(b) in the Federal District Court do not stand as a bar to decision in this proceeding. The respondent, on brief, raises939 a question of the burden and necessity of proof as to the fraud charges, directing attention to the fact that the petitioner failed to file a reply to the charges of fraud until after the close of the hearing in chief and the filing of respondent's 1137 affirmative brief. In this situation he claims that the charges of fraud stand admitted under the pleadings and under the rules of the Board. Although our holding on the merits of the case probably makes this question academic, we deem it worthy of discussion. The hearing was held April 30 to May 4, 1934. No motion for judgment on the issue of fraud was made at any time and the hearing was had and evidence was produced by the parties as though a reply to respondent's charges had been filed. On July 2, 1934, respondent filed his affirmative brief, in which he took the position that in the posture of the pleadings the charges of fraud stood admitted by petitioner. On July 20, 1934, petitioner filed a motion for leave to conform the pleadings to the proof or, in the alternative, to file a reply nunc pro tunc. On August 6, 1934, hearing with argument was had on the motion, at the conclusion of which the Division hearing940 the case granted the motion of petitioner for leave to file his reply denying respondent's allegations. The reply was forthwith filed. We deem the action of the Division in permitting the filing of the reply to have been a proper exercise of its discretion and to dispose effectively of respondent's contention. The rules of the Board were thereby satisfied and the burden and requirement of proof rest normally. The burden of proving fraud rested on the Government. . Reviewed by the Board. Decision will be entered under Rule 50.BLACK, TRAMMELL, ARUNDELL, and LEECH concur in the result reached in the majority opinion and, while agreeing that the item of $666,666.67 received by petitioner as a distribution from the management fund in July 1929 constituted taxable income to him in that taxable year, do not agree that the evidence establishes fraud as to this item. MCMAHON (Concurring in part) SMITH, MCMAHON (Dissenting in part) MCMAHON, concurring in part and dissenting in part: I. The parties stipulated as follows: 105. On April 25, 1933, an indictment was returned against petitioner by a Grand941 Jury of the District Court of the United States for the Southern District of New York. (Ex. 59.) To both counts in that indictment the petitioner entered a plea of not guilty. 106. Thereafter, petitioner was tried upon the charges contained in said indictment before Judge Henry W. Goddard and a trial jury in the said United 1138 States District Court, the trial commencing May 11, 1933, and terminating on June 22, 1933. A copy of the court's charge to the jury is contained in Ex. 60. 107. On June 22, 1933, a verdict of not guilty was returned by the jury on all counts of the indictment. A copy of the docket entries is Ex. 61. They stipulated further upon the same subject: That the issues so actually tried were those disclosed by the averments of the indictment; that evidence was offered by the Government in support of each of those charges and by defendant against each thereof and was received upon the trial and that for the purposes of this case the Government will not at any stage thereof raise the objection that those issues were not sufficiently identified by the indictment, plea and charges. Further stipulations on this subject immediately following the942 foregoing last unnumbered stipulation are omitted herein the interest of brevity as they neither add to nor detract from the foregoing stipulations. The indictment and the plea of "not guilty" involve the same identical acts and intents of the petitioner and the same identical transactions and the same identical issues of fact as to whether the petitioner committed fraud, and the same identical, essential details and figures. It is obvious from the findings of the majority and the whole of the record in the instant proceeding that the trial of the issues of fact which were presented in the proceedings in the United States District Court followed the same lines as the trial of the issues of fact in this proceeding. Because of the development of the proof in the District Court, the parties were able to stipulate over 100 paragraphs of items of fact, consisting in the neighborhood of 35 pages of stipulated facts, nearly all of which were printed, and to this extent stipulations were received in evidence, with numerous voluminous exhibits, in addition. With the exception of the testimony of petitioner's wife, who testified in this proceeding but did not testify in the District943 Court, the proof there and here as to the vital facts was substantially the same; and in some instances testimony of witnesses called in the District Court was by stipulation offered in evidence in this proceeding without producing the witnesses. These stipulations of the parties in this proceeding enabled the Board to commence the taking of evidence in this proceeding on April 30, 1934, and complete it on May 4, 1934, whereas the trial in the District Court was commenced on May 11, 1933, and completed on June 22, 1933. The pleadings there and here and the charge of the District Court to the jury likewise show the close similarity of the issues of fact which were presented there as compared with the issues of fact which are presented here in respect to whether the petitioner committed fraud. 1139 The statute, section 146(b), Revenue Act of 1928, under which petitioner was indicted, tried and acquitted in the District Court provides that any one that "willfully attempts in any manner to evade or defeat any tax" is "guilty of a felony" and punishable by fine or imprisonment or both. The statute, section 293(b), Revenue Act of 1928, which the respondent involkes in this944 proceeding provides that if any portion of a "deficiency is due to fraud with intent to evade tax" 50 per centum of the total of the deficiency shall be imposed posed and paid in addition to the deficiency. The language "due to fraud with intent to evade tax" is comprehended by the language "willfully attempts in any manner to evade * * * tax." The language "in any manner" includes a fraudulent "manner." ; . Fraudulent manner comprehends that which is "due to fraud." The language "willfully attempts" comprehends "with intent." He who willfully "attempts" to do a thing does it "with intent." He can not attempt to do it without intending to do it. The words "to evade" are identical in both statutes. To charge a person with a deficiency in tax "due to fraud with intent to evade tax" is comprehended in a charge that he "willfully attempts in any manner to evade * * * tax." All of the charges made by the Government in the District Court and here upon the subject of fraud are to the effect that he is guilty of fraud "to evade tax." In the last analysis this is the945 issue with which we are confronted in this proceeding and it is the issue which the court and jury were confronted with in the District Court. The purpose "to evade tax" is common to the proceedings there and here and in the last analysis it is the determinative issue there and here. It was incumbent upon the Government there to prove the petitioner guilty of a purpose "to evade tax" and it is likewise incumbent upon the Government here to prove the same purpose. The purpose "to evade tax" is an essential element in the charges made there and here. It is plain that the Government could not have prevailed there without proving such purpose and the Government should not prevail here without proving such purpose. Without proof of such purpose here as well as there, even though all other elements embraced within both statutes be established, the Government should not succeed under either statute. The question there and here of the existence of such purpose involves the same "acts, attempts and intents" and "facts." The indictment charged the petitioner with fraudulently attempting "to evade tax", and the court instructed the jury to the effect that before finding him guilty they946 must be satisfied from the evidence that he did act fraudulently. 1140 No consequences can be visited upon any person under either statute without a finding of such purpose, by a jury in a United States District Court, or by the Board in a proceeding of this character. No such finding was made by the jury in the District Court and, as more fully pointed out herein, no such finding by the Board is justified by the record in this proceeding. When such finding of such purpose is justified and made and all other elements required by the statutes have been established the consequences that flow from such finding are somewhat different, as pointed out more fully herein; but any differences in such consequences are not determinative here, Coffey v.United States, infra.The real question here in this respect is as to whether the final adjudication of a court and jury exonerating petitioner of a purpose "to evade tax" is a bar against the making of a finding and adjudication by this Board to the contrary; in other words, whether the adjudication of the District Court with the aid of a jury operates as a bar by way of res judicata here; and under the principles as947 laid down and the reasoning therefor as expounded by the Supreme Court of the United States in , and elsewhere, as herein pointed out, the adjudication of the District Court with the aid of the jury is a bar by way of res judicata here. , involved an information filed by the United States against certain distilled spirits and distilling apparatus which were under seizure as being forfeited to the United States under the provisions of sections 3257, 3450, and 3453 of the Revised Statutes of the United States. Coffey filed a claim to all the property except one barrel of the spirits, and by way of answer set up, as a bar, the verdict of a jury finding him not guilty and the judgment of the court acquitting him in a criminal information involving the same acts and circumstances and the same statutes as are above referred to, and, in addition, sections 3256, 3296, and 3452 of the Revised Statutes. The Supreme Court, in holding that the judgment of acquittal operated as a bar to the suit for forfeiture, stated in part: The principal question is as to the effect of the948 indictment, trial, verdict and judgment of acquittal set up in the fourth paragraph of the answer. The information is founded on §§ 3257, 3450 and 3453, and there is no question, on the averments in the answer, that the fraudulent acts and attempts and intents to defraud, alleged in the prior criminal information, and covered by the verdict and judgment of acquittal, embraced all of the acts, attempts and intents averred in the information in this suit. The question, therefore, is distinctly presented, whether such judgment of acquittal is a bar to this suit. We are of opinion that it is. It is true that § 3257, after denouncing the single act of a distiller defrauding or attempting to defraud the United States of the tax on the spirits distilled by him, declares the consequences of the commission of the act to be (1) that certain specific property shall be forfeited; and (2) that the offender 1141 shall be fined and imprisoned. It is also true that the proceeding to enforce the forfeiture against the res named must be a proceeding in rem and a civil action, while that to enforce the fine and imprisonment must be a criminal proceeding, as was held by this court949 in . Yet, where an issue raised as to the existence of the act or fact denounced has been tried in a criminal proceeding, instituted by the United States, and a judgment of acquittal has been rendered in favor of a particular person, that judgment is conclusive in favor of such person, on the subsequent trial of a suit in rem by the United States, where, as against him, the existence of the same act or fact is the matter is issue, as a cause for the forfeiture of the property prosecuted in such suit in rem. It is urged as a reason for not allowing such effect to the judgment, that the acquittal in the criminal case may have taken place because of the rule requiring guilt to be proved beyond a reasonable doubt, and that, on the same evidence, on the question of preponderance of proof, there might be a verdict for the United States, in the suit in rem. Nevertheless, the fact or act has been put in issue and determined against the United States; and all that is imposed by the statute, as a consequence of quilt, is a punishment therefor. There could be no new trial of the criminal prosecution after the acquittal in it; and a subsequent950 trial of the civil suit amounts to substantially the same thing, with a difference only in the consequences following a judgment adverse to the claimant. * * * This doctrine [the doctrine of res judicata laid down in is peculiarly applicable to a case like the present, where, in both proceedings, criminal and civil, the United States are the party on one side and this claimant the party on the other. The judgment of acquittal in the criminal proceeding ascertained that the facts which were the basis of that proceeding, and are the basis of this one, and which are made by the statute the foundation of any punishment, personal or pecuniary, did not exist. This was ascertained once for all, between the United States and the claimant, in the criminal proceeding, so that the facts cannot be again litigated between them, as the basis of any statutory punishment denounced as a consequence of the existence of the facts. * * * [Emphasis supplied.] The Coffey case, while it may not be followed by some state courts, is binding upon all branches of the Federal Government until the Supreme Court overrules it or951 Congress enacts legislation to the contrary. In , which follows the Coffey case, it is stated: * * In later decisions by the Supreme Court the Coffey case has been referred to, but without modifying or departing from the rule which it established. See , 17 Sup.Ct. 778, 42 L. Ed. 127">42 L.Ed. 127. * * * The Coffey case was also followed in . In the instant proceeding we are concerned with a penalty, while in Coffey v.United States the Court was concerned with a forfeiture. However, there is no substantial difference between the forfeiture there involved and the penalty here involved. Both are of a penal nature. Both contain elements of punishment. They are sometimes 1142 used synonymously. The word "forfeiture" is defined in Black's Law Dictionary, 3d Ed., as follows: The incurring a liability to pay a definite sum of money as the consequence of violating the provisions of some statute, or refusal to comply with some requirement of law. 952 . A thing or sum of money forfeited. Something imposed as a punishment for an offense or delinquency. The word in this sense is frequently associated with the word "penalty". L.Ed.771; . Ann. Cas. 1915B 869; ; ; . In , the Supreme Court stated: The term "penalty" involves the idea of punishment, and its character is not changed by the mode in which it is inflicted, whether by a civil action or a criminal prosecution. [Emphasis supplied.] The case of , is not applicable to this proceeding. The distinction between that case and 953 , there made by the Supreme Court is as follows: The present action is unlike that against Coffey. This is not suit to recover a penalty, to impose a punishment, or to declare a forfeiture. The only relief sought here is a judgment for the value of property [timber on Government lands] wrongfully converted by the defendant. The proceeding by libel against Coffey, although civil in form, was penal in its nature, because it sought to have an adjudication of the forfeiture of his property for acts prohibited. It was, as we have seen, a case in which a punishment, denounced by statute, was sought to be inflicted as a consequence of the existence of facts that were in issue and had been finally determined against the United States in a criminal proceeding. * * [Emphasis supplied.] In , the Supreme Court stated: There are peculiarities about the character of the action now under consideration which, as will appear later, may bring it under the principles of 954 , rather than Stone v.United States (supra ) the indemnification here sought being a part of the punishment attached to the offense of which the defendant has been acquitted. In , the United States Supreme Court stated as follows: * * A "tax" is an enforced contribution to provide for the support of government; a "penalty", as the word is here used, is an exaction imposed by statute as punishment for an unlawful act. The two words are not interchangeable one for the other. No mere exercise of the art of lexicography can alter the essential nature of an act or a thing; and if an exaction be clearly a penalty it cannot be converted into a tax by the simple expedient of calling it such. That the exaction here in question is not a true tax, but a penalty involving the idea of punishment for infraction of the law is settled by * * . See also 955 , 1143 * . There is nothing in * , or , * * to the contrary. The first of these cases was a proceeding to forfeit an automobile because used in violation of law; the other was a suit in equity to enjoin the occupation and use of premises for a year because used in the commission of offenses under the National Prohibition Act, and to abate the maintenance as a nuisance. The distinction made by these four cases is that in the first two, the purpose of the proceedings was punishment; while as to the other two, the purpose in the first case was to enforce a simple tax, not one which had been, as here, converted, by a change of its nature, into a penalty, and in the second case the purpose was prevention. page 632 of 272 U.S. * * . [Emphasis supplied.] See discussion of "tax" in 956 . Section 146(b), supra, expressly provides that the penalties therein prescribed, fine or imprisonment or both, shall be "in addition to other penalties provided by law." (Emphasis supplied.) The only other penalty thus provided for any of that which is denounced in section 146(b) is the penalty of 50 per centum of the deficiency prescribed by section 293(b), supra. Both subsections deal with the same taxation and are a part of the statutory scheme of such taxation. The case of , is not in point. There was not involved in that case any penalty, punishment or forfeiture such as was involved in , and is involved in the instant proceeding. That case is analogous to , whereas the instant proceeding is analogous to Coffey v.United States.It was held in , that a prior acquittal of the maintenance of a nuisance under the National Prohibition Act was not a bar to a suit in equity957 for the abatement of a nuisance and an injunction, since the purpose of the latter "is prevention, not a second punishment that could not be inflicted after acquittal from the first." (Emphasis supplied.) Murphy v. United States and Stone v. United States, supra, each involved a civil suit, which is in the latter case distinguished from Coffey v.United States, a quasi criminal proceeding. The instant proceeding, like Coffey v.United States, though civil in form, is quasi-criminal. It involves the recovery of a penalty and as such "is unquestionably criminal in its nature." ; . In Black's Law Dictionary, supra, "quasi crimes" are defined as follows: This term embraces all offenses not crimes or misdemeanors, but that are in the nature of crimes, - a class of offenses against the public which have not been declared crimes, but wrongs against the general or local public which it is proper should be repressed or punished by forfeitures and penalties. This 1144 would embrace all qui tam actions and forfeitures958 imposed for the neglect or violation of a public duty. A quasi crime would not embrace an indictable offense, whatever might be its grade, but simply forfeitures for a wrong done to the public, whether voluntary or involuntary, where a penalty is given whether recoverable by criminal or civil process. . * * The case of , is distinguishable. There the acquittal of the taxpayer relied upon as a bar, under the doctrine of res judicata, to the imposition of fraud penalties with respect to original Federal tax returns, was an acquittal upon an indictment charging willful attempts to defeat and evade with reference to amended returns. As correctly pointed out by the court, there can be no estoppel by judgment where the former and subsequent case do not involve the same claim or demand, or the same point or question. A portion of the opinion of the court in Handy v. Commissioner, supra, deals with the doctrine of double jeopardy, a second question there presented; and is not applicable here, as we are not here confronted with a double jeopardy. 959 The fact that the present proceeding is an entirely separate proceeding from that against this petitioner in the District Court does not preclude the application of the doctrine of res judicata. The doctrine applies as to the facts, questions, rights or issues involved under the circumstances and conditions here, which are the same facts, questions, rights, or issues involved in that proceeding under the same circumstances and conditions. ; affd., ; and . It is sufficient if the evidence present in the instant proceeding was available in the criminal proceeding before the court. , supra, and Here there is no showing that any of the evidence presented in the instant proceeding was not available for presentation in the District Court. On the contrary, it appears that some of the testimony in the instant proceeding, but not in the record of the District Court, was just as available at the time of the trial in the District960 Court as at the hearing before the Board. Res judicata is a species of equitable estoppel. , and , supra. It embraces estoppel by judgment and by verdict. 34 C.J. 745. In , we stated in part as follows: The doctrine of res judicata, the matter adjudged, supposes the finality of the determination so that it may put an end to litigation of the same controversy. [Emphasis supplied.] 1145 In , the Supreme Court of the United States pointed out that this doctrine of res judicata "is peculiarly applicable to a case like the present, where in both proceedings, criminal and civil, the United States are the party on one side and this claimant the party on the other", and after expressly rejecting the contention that the doctrine should not be therein applied on the ground "that the acquittal in the criminal case may have taken place because of the rule requiring guilt to be proved beyond a reasonable doubt." 961 There may be something of a twilight zone between the rule requiring, of the party bearing the burden, proof of guilt of fraud beyond a reasonable doubt on the one side and the rule requiring, of the party bearing the burden, proof of guilt of the same fraud by a preponderance of evidence and by clear and convincing evidence on the other side. (, infra ); but in view of what the Supreme Court said on this subject in , it is unnecessary to here further explore such twilight zone, if any. All of the salutary, underlying principles of justice upon which the doctrine of equitable estoppel by res judicata are based, 34 C.J. 743, 744 and 15 R.C.L. 954, 955, and which are grounded in sound public policy, call for the application of that doctrine to the instant proceeding, in view of the record and undisputed facts and circumstances here, which, among other things, discloses fully the record in the District Court in United States v. Charles E. Mitchell, who was the defendant there and is the petitioner here. Upon the authorities heretofore pointed out and for the reasons962 heretofore indicated herein, I am constrained to respectfully dissent from the finding and holding of the majority to the effect that the adjudication of that court with the aid of a jury does not operate as a bar by way of res judicata in this proceeding. The authorities cited by the majority do not justify, much less require, the conclusion they have reached in this respect. No sound reasons have been advanced to justify not following , with all of its implications. It is elementary that taxation is eminently practical, we are here concerned only with tax statutes; and practical considerations require that when a controversy involving fraud under these statutes, such as was terminated by the District Court with the aid of a jury, is terminated, it remain terminated. The doctrine of res judicata is sometimes called the "doctrine of peace." 34 C.J. 744. It may not be amiss to observe that, if there had been an adjudication by the District Court with the aid of a jury convicting the petitioner 1146 of fraud, such adjudication likewise would have been a bar by way of res judicata here. Assuming such conviction963 and also imprisonment, and that, while he was serving his sentence, the Board, on substantially the same facts and circumstances upon which the jury convicted him and the court imprisoned him, found and held that he had not committed the fraud found by the jury, an incongruous situation would be presented. The doctrine of res judicata would avert that sort of thing. II. Under section 907(a) of the Revenue Act of 1924 the burden of proving fraud on the part of the petitioner in each instance rests upon the respondent; and this burden carries with it the obligation of proving such fraud, as set forth by the Board in ; affd., , as follows: * * A charge of fraud has always been regarded as a serious matter in the law. Not only is it never presumed, but the ordinary preponderance of evidence is not sufficient to establish such a charge. It must be proved by clear and convincing evidence. * * * Under all of the facts and circumstances presented by the record in this proceeding it can not, with justification, be found or held, as the majority in effect has found964 and held, that the petitioner was guilty of fraud in the respects stated by the majority, in view of the fact, which is also found as a fact by the majority, that a District Court of the United States, with the aid of a jury of his peers, 12 laymen, acquitted the petitioner of all of the same charges of fraud, upon substantially the same facts and circumstances as are presented here. The verdict of the jury at the very outset must give us pause; and with that verdict in the record, as we have it here, fortified by such facts and circumstances, it can not, with justification, be found and held that the petitioner has been proven guilty of fraud by such clear and convincing evidence as is required by the principles of the Kerbaugh case. These principles should be closely adhered to here; the penalty approved by the majority, in principal alone, for the one year 1929 is approximately 36 times as great as the maximum of the fine which the court could have imposed if there had been a conviction for fraud for that year. This is a drastic penalty. Too, the petitioner made out a stronger case here, due to the fact that his wife testified fully in the instant proceeding in corroboration965 of petitioner's testimony and otherwise. Contrary to her desires, she did not testify in the District Court, but she was just as accessible there as here. 1147 It is true that the author of the majority report is at an advantage over all the other members of the Board as now constituted in that the author heard the witnesses and had the advantage of observing them upon the stand, but the twelve jurors had the same advantage; and none of the witnesses was impeached, and considerable of the proof is in the form of stipulations and records; and, in view of the whole record, any advantage in this respect is of little consequence. So, irrespective of whether the adjudication of the District Court with the aid of a jury is conclusive upon the Board as a bar under the doctrine of res judicata, the respondent, in view of the exoneration of the petitioner of all fraud by the court and jury, has not, under all the facts and circumstances presented here, discharged his burden of proof that petitioner committed fraud by clear and convincing evidence, as required of respondent under the principles of the Kerbaugh case. III. I agree with the majority that there was no966 fraud committed by the petitioner in connection with the sale on December 26, 1930, of the 8,500 shares of Anaconda Copper Mining Co. stock to Thornton. As to this transaction the Board is unanimous in reaching the same result the District Court reached with the aid of the jury. If the vital evidence in that transaction be compared step by step with the vital evidence of the transaction between the petitioner and his wife through the repurchase by the petitioner, such comparison leads to the conclusion that the finding and holding that the petitioner committed fraud in connection with the sale to his wife of the 18,300 shares of National City Bank stock on December 20, 1929, is inconsistent with the finding and holding of the majority that the petitioner was free from fraud in the transaction with Thornton. There are no vital differences between these two transactions. Looking to substance and not to form, as we must do, the vital controlling determinative evidence as to the sale made by petitioner to his wife is similar to that as to the sale through his friend Ryan to their mutual acquaintance Thornton, whose attitude was friendly to both. Petitioner was a party to both transactions. 967 Both sales were made just before the close of taxable years for the purpose of establishing deductible losses by disposing of the stocks. As to each no questions are raised about the acquisition of the stock or the basis of the loss, which is actual cost in money. Both sales were at open market prices. As to each, for all practical purposes, before the sale a real depreciation readily measurable with certainty had been experienced by petitioner in the tax year before us, with the result that petitioner was out of pocket heavily with an asset on hand having a 1148 market value considerably below the money cost. Both purchases were made upon the credit of the purchasers. Neither purchaser paid out any unborrowed money of his or her own in payment of the purchase price. Both paid considerable interest at current rates on the amounts of the purchase prices. Both purchasers were owners, previously, of the same kind of stock. Federal stock transfer stamps were ultimately paid for on the transfers of both stocks. Both stocks were carried in the names of the nominees. As to each all dividends paid were paid to the nominees and by them paid over or fully accounted for to968 the purchaser as owner of the stock purchased. Each purchaser could have sold at a profit but did not choose to do so (and could not have been required to do so), obviously because of the expectation of a better rise in the market. As to each stock petitioner, long after the expiration of 30 days, repurchased the same number of shares of stock from the person to whom he had sold the stock, thereby relieving that person of the stock at a loss to such person. Both repurchases were on a basis whereby petitioner saved the purchasers nearly whole. Petitioner relied upon the advice of the same legal counsel in the making of both sales. Both sales were made with the mutual intention of transferring absolute title to the purchasers. Both sales were made for the purpose of enabling the purchasers to derive a profit therefrom. No bill of sale was used in either sale. Substantially similar formalities were resorted to in both sales; and notices were given to all who had a right to be notified. As to each it was not necessary to publicize the sales. As to both such publicity might have proven disastrous to the stockholders and creditors, including the depositors of the bank, of the corporations969 involved. All of the delivery of the shares that was possible or necessary was made in connection with each sale. Cf. . All of the control of each stock which petitioner possessed passed from petitioner to the purchaser. In each instance Morgan & Co. held the stock as collateral, and was at the time of the sale adequately secured. IV. In some respects the proof as to the bona fides of the sale to petitioner's wife is more favorable. Petitioner's wife reported as income all of the dividends received by her in 1930 and subsequently on the stock which he sold her. In her income tax returns for 1930 and subsequently she deducted all interest paid to him in that year on the purchase price of the stock. An entry of the sale under date of the sale was made in due course in her ledger. She paid him over a quarter of a million dollars on account of the sale made to her in 1149 excess of the dividends received by her on the stock and over $6,000 of this excess was exclusive of any gifts received by her from him. She had had numerous previous business transactions with petitioner over a considerable period of time, 970 and had taken losses as well as profits on them. She had had similar transactions with others. She was financially responsible. Her overdrafts upon her bank were covered by securities. Her agreement embodied in the letters to pay the purchase price were just as binding as if she had given promissory notes therefor. The sale of the 18,300 shares of National City Bank stock made by the petitioner to his wife on December 20, 1929, was a bona fide sale, and the loss resulting therefrom sustained by the petitioner is deductible under section 23(e) of the Revenue Act of 1928 upon the authority of the following cases: , affirming memorandum opinion of the Board rendered April 20, 1932; ; and . See ; ; ; ; and 971 . The instant proceeding is distinguishable from the following cases insofar as they bear upon the bona fides of the sales involved therein: ; ; ; ; ; ; ; ; and . Since the sale of December 20, 1929, was a bona fide sale, the petitioner did not commit fraud in the making of the sale. However, even if we assume for the purpose of this discussion that such sale was not a bona fide sale, there still remains the question as to whether or not the petitioner committed fraud in the making of the sale. The evidence in the record does not justify a finding or holding that the petitioner committed such fraud. As stated in 972 :Here fraud is not admitted. The mere fact that his return showed a net income for the taxable year 1929 in the sum of $40,424.66 and the respondent, in recomputing his tax liability, determined that the net income for that year was $73,435.38, by itself, does not establish fraud. If it did, then all taxpayers against whom deficiencies are determined would be guilty of fraud and subject to the imposition of a fraud penalty. Nor does the lack of evidence to sustain the petitioners' contentions prove fraud. As stated in , "both parties may fail through inadequate proof in their several issues, and thus the deficiency would be sustained and the penalty set aside." The burden of proving fraud is upon the respondent and his proof must be clear and convincing. * * * That 1150 a sale was made for the purpose of reducing income taxes does not invalidate such sale. It has been so held repeatedly by the Board and the courts. In , the court stated: We agree with the Board and the taxpayer that a transaction, otherwise within an exception of973 the tax law, does not lose its immunity, because it is actuated by a desire to avoid, or, if one choose, to evade, taxation. Any one may so arrange his affairs that his taxes shall be as low as possible; he is not bound to choose the pattern which will best pay the Treasury; there is not even a patriotic duty to increase one's taxes. * * ; * . To the same effect see , affirming ;; and The fact that the petitioner exchanged letters with his wife in the usual way indicates that he did not have fraud in his mind. Cf. The majority discredits the petitioner's statement that he would not have gone ahead with the sale to his wife had his attorney advised against it upon the assumption that he did not follow the advice of his counsel in some respects. His counsel assisted him in the preparation of the agreements in974 the form of letters, and the whole of the record discloses that his counsel finally concluded that it was not necessary for the petitioner to give notice of the sale to Morgan & Co. Furthermore, his failure to give such notice is fully explained and justified by the evidence. His failure to affix revenue stamps was due wholly to oversight. The undisputed proof is that he discussed with his attorney everything that it was necessary for him to discuss or to disclose so as to enable his attorney to render an opinion. While he did not state the precise amount of the net worth of his wife, he did state that she was financially responsible and his attorney accepted that as being true. Bearing in mind that the stock had a market value and that it was expected that the market value would increase, the financial responsibility of Mrs. Mitchell was sufficiently adequate to repel the charge of fraud as against the petitioner. It is common knowledge that property, real and personal, is frequently purchased on credit even by persons with considerably less resources, comparatively, all with the expectation of paying therefor out of future income or out of proceeds on resale; and this does975 not constitute fraud. A sale made on credit is as valid a sale as one made for cash. No bill of sale was necessary to validate the sale. The petitioner had the right to make gifts to his wife. He had also made gifts to her previous to the sale. In , the Board stated: * * If the transfer of funds from the petitioner to his wife were unexplained, that would not afford sufficient reason in this case for denying the1151 losses to the petitioner. . Here the parties have stipulated, however, that the petitioner made certain gifts of money to his wife. There is a companion case to this one wherein the wife is claiming deductions for losses under similar circumstances. The statement of facts in that case shows that she returned to her husband some of the amounts which he advanced to her and also at times transferred funds from her bank account to his bank account apparently for the purpose of enabling him to make contemporaneous purchases of securities. The fact that this husband and wife aided one another in this way is not, in view of the other facts in the case, a reason976 for denying the petitioner deductions for his losses. [Emphasis supplied.] See also ; and The stock was entered in Mrs. Mitchell's ledger. Whether or not the debt for the purchase price was entered is immaterial in view of the fact that it has not been shown that Mrs. Mitchell kept an elaborate system of books, showing all her liabilities, as well as her investments. Furthermore, it is elementary that the facts are controlling and not the presence or absence of book entries. The petitioner's further purpose in selling the stock to his wife was to give her an opportunity to make a profit and also to avoid dumping the stock on the market to the detriment of the bank and of the National City Co. He did not want her to sustain a loss and his repurchase at the same price at which he had sold it to her under all the facts and circumstances is such a natural act based upon human experience, that a charge of bad faith or fraud on that score is untenable. Mrs. Mitchell's failure to sell is founded upon her belief that the stock would regain more of its former value. That she waited too long977 is an error of judgment and is not indicative of bad faith or fraud on the part of the petitioner. The record discloses that the petitioner did inform some of his associate directors that he had sold the stock to his wife. Harry W. Forbes of the law firm acting as general counsel for the National City Bank and for the National City Co. knew of the sale and advised petitioner thereon. Guy Cary of the same firm also had knowledge of the sale, as appears from the findings of the majority that he advised the petitioner in reference to the debt of Mrs. Mitchell arising from such sale. Others were so informed. It is not customary and there was no legal obligation resting upon the petitioner to broadcast, or to keep all of his business associates informed, regarding his dealings with his wife or others. The fact that the petitioner presented a claim for a loss sustained on account of his purchase of the 18,300 shares of National City Bank stock to the National City Co. is not determinative here, under all the facts and circumstances. His financial affairs had become very much involved. In the first instance he merely presented the claim for 1152 consideration. His counsel978 advised him he had a valid claim. The company's counsel advised the company merely that he had no "legal" claim but did question the justice of his claim. Upon the legality of his claim being thus questioned he withdrew it. Furthermore he first discussed the matter of making such claim with Guy Cary, whom the petitioner had previously informed of the sale to his wife. The cases cited by the majority in support of its finding and holding that fraud was committed by petitioner are distinguishable upon the facts. Although petitioner repurchased the stock, this is no proof of fraud, nor does a repurchase invalidate a sale. Under the applicable revenue act losses from sales of stock are deductible even if repurchased, except where it appears that within thirty days before or after the date of such sale the taxpayer has acquired or has entered into a contract or option to acquire the same stock. Sec. 118, Revenue Act of 1928. The evidence discloses that the petitioner did not repurchase the stock within thirty days after its sale to his wife or, at any time previous to the repurchase more than two years later, agree to repurchase it. 979 That a loss sustained upon the sale of shares of stock constitutes a statutory deduction in the years involved in this proceeding can not be questioned even though the sale was made by a husband to his wife. ;; and No question has been raised here about the right of a husband to make sales to his wife or vice versa, under the laws of New York. This deductibility is further shown by the fact that Congress for the first time in the Revenue Act of 1934 provided that in computing net income no deduction shall be allowed in respect to a loss from sales or exchanges of property, directly or indirectly, between members of a family, which include brothers and sisters (whether by the whole or half blood), spouse, ancestors, and lineal descendants. Sec. 24(6)(A), (D), Revenue Act of 1934. The purpose of the enactment of this provision is stated in Report No. 558 of the Committee on Finance, 73d Cong., 2d sess., p. 27, as follows: Experience shows that the practice of creating losses through transactions between members of a family and close corporations has980 been frequently utilized for avoiding the income tax. It is believed that this provision will operate to close this loophole of tax avoidance. [Emphasis supplied.] This language discloses that sales between members of the same family had theretofore been regarded as valid to create deductible losses under the revenue acts and as made in tax avoidance, rather than in tax evasion or fraud. Since Congress had, under revenue acts prior to the Revenue Act of 1934, including those applicable 1153 here, permitted the deduction of losses resulting from the sale of stock without limitation as to the relationship of the seller and purchaser, except as to sales involving a repurchase within the thirty days, it was within the power of Congress, and that of Congress alone, to prohibit deductions of losses on sales made between husband and wife. Since there was no fraud committed in the sale of the stock on December 20, 1929, it follows that there was no fraud committed by petitioner in 1930 because of his failure to report as income the dividends paid on the 18,300 shares of National City Bank stock, the stock being the property of the petitioner's wife, and she, and not he981 being entitled to the dividends thereon. V. I agree with the concurring opinion of Members Black, Trammell Arundell, and Leech that the evidence does not establish fraud as to the item of $666,666.67 received by the petitioner as a distribution from the management fund in July 1929. In this view, the statute of limitations has run and hence it is unnecessary to pass upon the issue as to whether it was income to petitioner in 1929, as was concluded by them. Legal counsel, including a former (then recent) Under Secretary of the Treasury of the United States, relied on I.T. 2043, III-2, C.B. 94, in advising the National City Co. and the petitioner that this and other items of the same character were not deductible by it as expense in 1929 or includable in income for 1929 by him or other recipients of such items, on the ground, in effect, that this and other such items were overdrafts and hence debts due to the National City Co. from the recipients by the close of 1929, under all the facts and circumstances. Cf. . Their concurring opinion well illustrates the rule that acts may be unlawful but free from fraud, and the heavy982 burden that rests upon the respondent to prove fraud by clear and convincing evidence, which is more than a preponderance of evidence, even where such acts are unlawful. Even if it be assumed that this item was income to the petitioner and an expense to the National City Co., there is no evidence in the record which justifies a finding or holding that petitioner, in failing to include this item in his taxable income for 1929, committed fraud. The following by a client of a mistaken opinion of competent lawyers does not constitute fraud. The best of lawyers make mistakes of this character. A taxpayer is not required to disregard the advice of legal counsel at the peril of imprisonment or severe penalties for following it. Counsel here, after full investigation of the law and an exchange of 1154 views, concurred in the advice to the National City Co. and the petitioner to the effect that this item of $666,666.67 was not deductible by the former as an expense or includable in income by the latter; and it was not deducted by the former. Both had specialized in the field of Federal income taxation. It was conceded by counsel for983 the respondent at the hearing that the board of directors of the National City Co., of which this former Under Secretary of the Treasury was one, while not a recipient of any of the management fund, "were distinguished bankers and well-known in the community" and "men of large affairs in the business world." In at least two instances recipients of moneys from the management fund in 1929 who were in a position to do so have since made payment. The payment of the $140,438.98 is fully explained in the proof wholly in keeping with freedom from fraud on the part of petitioner as to the $666,666.67. VI. The proceedings of this Board are conducted in accordance with the rules of evidence applicable in courts of equity of the District of Columbia. Sec. 907(a), Revenue Act of 1924, as amended by sec. 601, Revenue Act of 1928. In , the Court of Appeals for the District of Columbia stated: * * * The law is that positive testimony uncontradicted and not inherently improbable, is prima facie evidence of the fact which it seeks to establish, and the jury is not at liberty to disregard it. 984 ; , L.Ed. 523; , 11 Sup. Ct. Rep. 733, 851; The City of New York (Alexandre v. Machan ) L.Ed. 84, 13 Sup. Ct. Rep. 211. To the same effect is . In , it was stated: The court is bound to give credence to uncontradicted testimony even from interested persons when it is substantiated as it was here, and is not inconsistent with well-known facts, experience, and reason. In (C.C.A., 2d Cir), the court said: * * When the evidence before the Board, as the trier of the facts, ought to be convincing, it may not say that it is not. (C.C.A. 8); (C.C.A. 1); 985 (C.C.A. 7). And the Board may not arbitrarily discredit the testimony of an unimpeached taxpayer so far as he testifies to facts. [Emphasis supplied.] To the same general effect as the foregoing cases are (C.C.A., 6th Cir.); (C.C.A., 8th Cir.); (C.C.A., 9th Cir.). 1155 See discussion at page 472 of the opinion in (C.C.A., 2d Cir.). The burden of proof is not discharged by presenting facts which are susceptible of conflicting inferences. ; ; and . Upon the foregoing authorities, and the authority of the Kerbaugh case, which requires that fraud shall be proven not only by a preponderance of the evidence but986 by clear and convincing evidence, the proof in this proceeding requires that petitioner be here exonerated of all of the charges of fraud, as the District Court and jury exonerated him of the same charges, and as the majority has exonerated him of one of those same charges, and all on substantially the same evidence, including his own. If his testimony is credible on one issue of fraud it should not be disregarded as to the others, in view of the whole record. The proof fully and satisfactorily explains everything that occurred in so far as explanation is essential to correct decision here, all wholly consistent with freedom from fraud on petitioner's part. There is no inherent or other improbability in the statements of petitioner or his witnesses and there is nothing in the record to discredit their testimony. They readily produced all the proof they had. The record does not indicate any concealment of any proof before or at the hearing. The respondent has not impeached or rebutted the vital, controlling, determinative full evidence produced by petitioner. Such evidence remains undisputed. The testimony of petitioner and his witnesses is corroborated by writings and voluminous987 exhibits, and by numerous written and oral stipulations. The testimony of petitioner, his wife and his other witnesses is comprehensive, clear, and consistent throughout. Their testimony is unequivocal and exhibits intelligence and earnestness. There is nothing in the record to show that any of them committed perjury. No adequate reason is given by the majority for discrediting any part of their vital testimony. On the contrary, nearly all of the findings of the majority are founded upon it, the writings produced by them and the stipulations; and the opinion of the majority indicates that at least some of the testimony of the petitioner may have been considered plausible on the issues in respect to which fraud is here found. If the theory of the respondent as to the facts in this proceeding is correct, then petitioner's wife and other credible witnesses, his friends and associates, were guilty of some elements of fraud, and petitioner deliberately involved her and them in the committing of fraud. Upon the whole record this is incredible. There is much that is commendable of petitioner in the record as heretofore revealed herein and by the majority. He was in 1929 a member988 of the board of directors, and of the executive committee 1156 thereof, of the Federal Reserve Bank of New York. He not only had the confidence of the community in which he lived to an unusual degree, but he was highly regarded elsewhere. He dauntlessly stepped into and, to the extent possible, saved a critical situation on October 29, 1929, against the advice of a friend and associate. That was the beginning of his reverses financially. He did this to support the market for the stock of his bank, the outstanding shares of which totaled 5,000,000, of which he owned but 35,000, after the National City Co., owned by all the stockholders of the bank, had exhausted its capacity to do more in this respect. If he had not done this there might have been a dumping of the stock of the bank coupled with a run on the deposits; and the bank might have been wrecked. He stayed with it all down to the end of the record in this proceeding. Notwithstanding that his large fortune was gone and he was insolvent by $3,000,000, he was not dismayed and he remained true to his creditors and all those who put confidence in his integrity. There is no evidence that he was even asking any consideration989 from his creditors. A man of that type is not apt to commit fraud, as charged here; and upon the whole record, and the applicable law, he should not be penalized for fraud as found and held by the majority. Too, the fact that he repurchased the stock from his wife is commendable. He had represented the stock to her for a good investment. It proved disastrous to her. He saved her practically whole and thereby relieved her of anxiety and embarrassment as he should have done. There is no correct test that requires that a husband do differently, notwithstanding the rule that requires close scrutiny of their transactions in question here. The fact that he became insolvent should not be permitted to militate against his repurchase. A man that could make $30,000,000 as he did can retrieve himself. It is common knowledge that this sort of thing has been done often. The findings of the majority quote from the testimony a portion of what was testified to upon the subject of what was said at the annual meeting of the stockholders of the National City Bank early in 1930 touching upon the subject of the sale of his bank stock. Petitioner does not deny that he made such a statement990 and it appears that he was then talking about his permanent investments of his own money in such stock, of which he then had 35,000 shares, which he did not sell. The incident is fully and satisfactorily explained by undisputed proof. It is obvious that he parried the question in so far as it touched the 28,300 shares which he had bought temporarily to protect the bank and the National City Co. If he had stated that he had recently bought and sold 28,300 shares to that comparatively large and somewhat panicky meeting of stockholders, 1157 it might have proved disastrous. Other evidence could have been set forth in the findings which would, with justification, account for what was said. He had told directors and others about the purchase and sales of the 28,300 shares. Early in 1931 he told his personal counsel about the sale to his wife when he gave him information for the basis of his last will and testament. Other evidence favorable to the petitioner on all other subjects could be fully pointed out and quoted in support of all of the conclusions here reached. For the numerous reasons hereinbefore set forth, I respectfully dissent from the findings and holdings991 of the majority to the effect that the petitioner has been proven guilty of fraud by clear and convincing evidence. All of the conclusions herein set forth are based on the undisputed proof in the record. In view of the conclusions herein reached, it is unnecessary to further consider any of the other phases of the questions presented by the parties or suggested by the record, except to state that I agree with the majority that the filing of petitioner's reply was properly allowed. SMITH, dissenting: I am of opinion that the acquittal by a jury of the petitioner of the charge of fraud in filing income tax returns for the tax years here in question is a complete bar to a finding by this Board of fraud in the filing of those returns. . Footnotes*. The cost of the garage and the par value of the mortgage participations are as stated above. The market value is unknown. ↩1. SEC. 146. PENALTIES. (b) Any person required under this title to collect, account for, and pay over any tax imposed by this title, who willfully fails to collect or truthfully account for and pay over such tax, and any person who willfully attempts in any manner to evade or defeat any tax imposed by this title or the payment thereof, shall, in addition to other penalties provided by law, be guilty of a felony and, upon conviction thereof, be fined not more than $10,000, or imprisioned for not more than five years, or both, together with the costs of prosecution. ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619754/	AMERICAN BANK & TRUST CO., EXECUTOR, ESTATE OF RICHARD A. HESTER, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.American Bank & Trust Co. v. CommissionerDocket No. 13580.United States Board of Tax Appeals14 B.T.A. 615; 1928 BTA LEXIS 2947; December 7, 1928, Promulgated 2947 G. B. Walton, C.P.A., for the petitioner. Brooks Fullerton, Esq., for the respondent. LITTLETON615 This proceeding arises as the result of a determination by the Commissioner of a deficiency in income tax for 1921 of $5,703.49. The issue involved is whether the income realized from a certain sale of land is returnable on the installment basis. The facts were stipulated. FINDINGS OF FACT. The petitioner is the executor of the estate of Richard A. Hester, who died in 1924 and who, until his death, was a resident of Pickens, S.C.On July 20, 1920, Richard A. Hester entered into an agreement in writing with T. R. O'Dell for the sale of 379 acres of land, with buildings, in Pickens County, South Carolina. This agreement is duly recorded in Pickens County, South Carolina. The total consideration for the land and buildings was to be $100,000. Under the terms of the agreement $10,000 was paid to Richard A. Hester on July 20, 1920, and $40,000 on January 1, 1921. The agreement provided for the payment of $10,000 on July 20, 1920, $40,000 on January 1, 1921, and the balance of $50,000 in five equal annual payments of $10,000 each, the said unpaid2948 balance of $50,000 on January 1, 1921, to be secured by a mortgage on the premises, deed having been made by Richard A. Hester to T. R. O'Dell January 1, 1921, and recorded in Pickens County, South Carolina, in accordance with the sales agreement. 616 OPINION. LITTLETON: The controversy as to whether the petitioner should be allowed to report the profit from a certain real estate transaction on the installment basis arises because of differences between the parties as to when the sale took place. The petitioner contends that the sale was made on July 20, 1920, when an agreement for sale was entered into and $10,000 paid on account of the purchase price, and that since the $10,000 payment is less than one-fourth of the purchase price, the profit may be reported on the installment basis. On the other hand, the respondent found that the sale took place on January 1, 1921, when the deed was made to the purchaser, and $40,000 was received on account of the purchase price, and since this payment was more than one-fourth of the purchase price, he refused to allow the petitioner the benefit of the installment sales provision. The agreement made on July 20, 1920, was not submitted*2949 in evidence, nor do we have other information than the meager facts set forth in our findings. In this state of the record we are certainly in no position to determine the correctness of the petitioner's contention, and accordingly must sustain the action of the Commissioner on the basis of its prima facie correctness. Judgment will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619755/	David A. Prophit, Petitioner v. Commissioner of Internal Revenue, RespondentProphit v. CommissionerDocket No. 1287-71United States Tax Court57 T.C. 507; 1972 U.S. Tax Ct. LEXIS 195; January 19, 1972, Filed 195 Decision will be entered under Rule 50. Petitioner was divorced from his wife by a German court in 1968. Under the decree the custody of two minor children of the marriage was granted to their mother, who continued to live in Germany. During 1968 she was "the parent having custody of a greater portion of the calendar year" for purposes of sec. 152(e), I.R.C. 1954. During 1968 petitioner contributed less than $ 1,200 altogether for the support of the children and less than $ 600 individually for each child. The decree of divorce contained no provision concerning entitlement to deductions under sec. 151, I.R.C. 1954. It was stipulated that petitioner furnished over one-half the support of the children in 1968. Held, the children were the dependents of petitioner during 1968 for purposes of sec. 152, I.R.C. 1954. David A. Prophit, pro se.Bruce A. McArdle, for the respondent. Tietjens, Judge. Simpson, J., concurring. Featherston, J., agrees with this concurring opinion. Tannenwald, J., dissenting. Atkins and Quealy, JJ., agree with this dissent. TIETJENS508 OPINIONThe Commissioner of Internal Revenue determined a deficiency197 of $ 283 in the petitioner's Federal income tax for the taxable year 1968. The petition was properly filed pursuant to section 7463 1 and Rule 36 of the Tax Court Rules of Practice, but on the parties' joint motion leave was granted to withdraw the case from consideration as a small tax case and to resubmit it as a fully stipulated case under Rule 30.As petitioner does not challenge the Commissioner's disallowance of claimed deductions for certain employee business expenses incurred as a salesman for LaSalle Extension University of Chicago, less than the entire amount of the deficiency is in controversy. The sole issue for our determination is whether petitioner is entitled to dependency exemptions for his two minor children.All of facts are stipulated and are so found.David A. Prophit is a single individual who resided in Baton Rouge, La., when the petition was filed. He filed an individual Federal income tax return198 for the calendar year 1968 with the district director of internal revenue, New Orleans, La.In September 1963 petitioner married Ursula Dahn in West Germany and resided in that country with her until their separation in April 1967. Thereupon petitioner returned to the United States. Two children, Thomas and Susanna, were born of the marriage. In June 1968 petitioner's wife obtained from a West German court a decree of divorce which provided for payments by petitioner for child support in the amounts of $ 40 per child per month commencing July 1, 1968. Ursula had custody of the children throughout 1968, and neither the children nor their mother have ever been in the United States.In 1968 each contributor of support gave an equal amount for the support of each child. The total expended for the support of each child that year was $ 813.50: 509 SourceAmountWest German Social Office$ 108.50Ursula Dahn Prophit0 Petitioner's relatives100.00Parents of Ursula Dahn Prophit60.00Miscellaneous12.50281.00Petitioner532.50813.50Petitioner claimed Thomas and Susanna as dependents in his Federal income tax return for the year 1968. The children199 were not claimed as dependents on any individual United States Federal income tax return for 1968 other than that filed by petitioner. The German decree of divorce had no provision concerning entitlement to a deduction under sections 151 and 152(e)(2)(A)(i).On its facts, and under section 152(a)(1) before its amendment in 1967 which added section 152(e), 2 this would be a simple case involving dependency exemptions. Here it is stipulated by the parties directly involved in this litigation that petitioner furnished more than half the support of his minor children whom he claimed as dependents. Clearly, under section 152(a)(1) before 1967 this would call for allowance of the claimed exemption, i.e., petitioner had furnished more than half of the support of his children.200 510 This leaves for consideration the effect of the amendment added by section 152(e) entitled "Support Test in Case of Child of Divorced Parents Et Cetera." This added section provides that children of divorced parents in the custody of the parent (in this case the wife) other than the petitioner shall be treated as dependents of the custodial parent.This section, if applicable, apparently would deny the husband the deductions because he neither provided at least $ 600 for the support of either of his children nor $ 1,200 or more for both. Neither did the decree of divorce provide that he should be entitled to any deduction. But we are concerned with whether the agreed-on facts here necessarily call section 152(e) into play at all.Petitioner in his pro se brief asks us to consider "the intent of the law, and not the 'letter' of it to use the words of the apostle Paul." In sum, he argues that under the law prior to January 1, 1967, he would have been entitled to the exemptions in these circumstances and that Congress did not mean a different result where it is agreed that petitioner provided more than one-half the actual support of his children. We agree.From the legislative201 history set forth in footnote 3 below and our note thereto the provisions of section 152(e) were not too long ago 511 incorporated in the Revenue Code to ameliorate troublesome controversies between competing taxpayers, each claiming the same dependents as exemptions. In such circumstances there is a serious question as to which claimant actually furnished more than half the support and the new section of the Code attempted to establish pragmatic rules by which such disputes could be decided.202 Certainly here there is no such controversy. Petitioner alone is claiming the exemptions. His divorced wife who had custody of the children made no such claim. The Commissioner has agreed that petitioner furnished more than half the support. In these particular circumstances we think the reasons for the enactment of section 152(e) are not present. Accordingly it is not necessary to call on its provisions to decide the case.In so concluding we have perhaps given heed to petitioner's request that we consider his case in the words of the Apostle Paul referred to above. We assume he refers to 2 Corinthians iii: 6: "Not of the letter, but of the spirit; for the letter killeth, but the spirit giveth life."Decision will be entered under Rule 50. SIMPSONSimpson, J., concurring: With the holding of the majority, I agree, but I wish to emphasize what I understand to be the reason for so holding. Our holding that section 152(e) is not applicable is not based on the stipulation as to the support furnished by the father; it is based on the fact that only the father was claiming the deductions and on the understanding that the mother was a nonresident alien and was not even a 203 potential claimant for such deductions. See secs. 871, 873, 512 I.R.C. 1954. Since the purpose for enacting section 152(e) was to provide a more satisfactory method of settling disputes when a dependency deduction was being claimed by both divorced parents, there is no need to apply the provision in this case. Because the mother was a nonresident alien who, so far as we understand, did not receive any income with respect to which dependency deductions would be allowable, she was not even a potential claimant for such deductions. Indeed, if section 152(e) were applied to this situation, the effect would be that no one would be entitled to the dependency deductions for the children. Thus, we hold that when there are not two potential claimants to a dependency deduction, section 152(e) is not applicable. In so holding, we take no position as to whether, when both divorced parents are potential claimants to the deduction, there may be circumstances under which section 152(e) is inapplicable. TANNENWALDTannenwald, J., dissenting: I think the majority decision flies in the face of section 152(e). That language expressly states that where a child receives over one-half of204 his support from his parents, who are legally divorced or separated under a decree or written separation agreement, and such child is in the custody of one or both parents "such child shall be treated, for purposes of subsection (a), as receiving over half of his support during the calendar year from the parent having custody for a greater portion of the calendar year" (emphasis added), unless the other parent meets certain specified conditions. It is undisputed that petitioner did not satisfy those conditions. I do not think it is possible to deal with this case under section 152(a) without regard to the express language of section 152(e). Granted that the difficulties stemming from conflicting claims between parents for dependency exemptions were the generating force for legislative action, the clear mandate of section 152(e) is not limited in application to situations where a conflict exists. The fact that the petitioner and respondent have agreed on the amounts of support involved is beside the point. A third party, namely, the other spouse, is usually involved in this type of situation, albeit, in this particular case, the petitioner's former wife was a nonresident205 alien during the taxable year and therefore not subject to United States tax. Footnotes1. All statutory references are to the Internal Revenue Code of 1954 unless otherwise stated.↩2. Sec. 152 provides in part as follows:SEC. 152. DEPENDENT DEFINED.(a) General Definition. -- For purposes of this subtitle, the term "dependent" means any of the following individuals over half of whose support, for the calendar year in which the taxable year of the taxpayer begins, was received from the taxpayer (or is treated under subsection (c) or (e) as received from the taxpayer): (1) A son or daughter of the taxpayer, or a descendant of either, * * (c) Multiple Support Agreements. -- For purposes of subsection (a), over half of the support of an individual for a calendar year shall be treated as received from the taxpayer if -- (1) no one person contributed over half of such support; * * *(e) Support Test in Case of Child of Divorced Parents, Et Cetera. -- (1) General rule. -- If -- (A) a child (as defined in section 151(e)(3)) receives over half of his support during the calendar year from his parents who are divorced or legally separated under a decree of divorce or separate maintenance, or who are separated under a written separation agreement, and(B) such child is in the custody of one or both of his parents for more than one-half of the calendar year,such child shall be treated, for purposes of subsection (a), as receiving over half of his support during the calendar year from the parent having custody for a greater portion of the calendar year unless he is treated, under the provisions of paragraph (2), as having received over half of his support for such year from the other parent (referred to in this subsection as the parent not having custody).(2) Special rule. -- The child of parents described in paragraph (1) shall be treated as having received over half of his support during the calendar year from the parent not having custody if -- (A)(i) the decree of divorce or of separate maintenance, or a written agreement between the parents applicable to the taxable year beginning in such calendar year, provides that the parent not having custody shall be entitled to any deduction allowable under section 151 for such child, and(ii) such parent not having custody provides at least $ 600 for the support of such child during the calendar year, or(B)(i) the parent not having custody provides $ 1,200 or more for the support of such child (or if there is more than one such child, $ 1,200 or more for all of such children) for the calendar year, and(ii) the parent having custody of such child does not clearly establish that he provided more for the support of such child during the calendar year than the parent not having custody.For purposes of this paragraph amounts expended for the support of a child or children shall be treated as received from the parent not having custody to the extent that such parent provided amounts for such support.(3) Itemized statement required. -- If a taxpayer claims that paragraph (2)(B) applies with respect to a child for a calendar year and the other parent claims that paragraph (2)(B)(i) is not satisfied or claims to have provided more for the support of such child during such calendar year than the taxpayer, each parent shall be entitled to receive, under regulations to be prescribed by the Secretary or his delegate, an itemized statement of the expenditures upon which the other parent's claim of support is based.(4) Exception for multi-support agreement. -- The provisions of this subsection shall not apply in any case where over half of the support of the child is treated as having been received from a taxpayer under the provisions of subsection (c).(5) Regulations. -- The Secretary or his delegate shall prescribe such regulations as may be necessary to carry out the purposes of this subsection.↩3. The report of the House Ways and Means Committee on H.R. 6056, the House-passed bill virtually identical to P.L. 90-78 (Aug. 31, 1967), which added sec. 152(e), states:"In many cases each parent honestly believes that he has contributed more than one-half of the support. The problem is compounded because of the ill will which sometimes exists between divorced or separated parents. In these cases the Internal Revenue Service finds itself in the position of an unwilling arbiter between the contending parents. In addition, in discharging its duties in administering this provision, the Service is hampered by the provisions of existing law which prohibit disclosure to either parent by the Service of information concerning the support (and the amount thereof) which the other claims to have contributed."The number of disputes involving this issue is so great that it has cast a serious administrative burden on the Service and has tended to clog the administrative machinery involved in bringing them to a conclusion. In fact, a disproportionate number of these cases are taken to the Tax Court for resolution. It has been estimated by the Service that during a recent year 5 percent of all income tax cases handled at the informal conference level of the administrative process involved this issue as the principal issue. The amounts involved in these cases, although significant to the taxpayers, are quite small. The costs to the taxpayers and the Government of resolving this issue in the administrative process and in the Tax Court are inordinate when compared with the amounts involved."H. Rept. No. 102, 90th Cong., 1st Sess., p. 3 (1967). See also S. Rept. No. 488, 90th Cong., 1st Sess., pp. 2-3 (1967); 113 Cong. Rec. 6611 (1967), remarks of Representative Mills.Also note the divorced taxpayer often has greater difficulty proving the necessary element of total support and his case for the exemption may fail for lack of proof that could show that he was clearly entitled to it. This Court has often noted "the exceedingly difficult, if not impossible, burden of establishing total support through the uncooperative mother." Allen F. Labay, 55 T.C. 6">55 T.C. 6, 9 (1970). See for example Charles S. Clary, T.C. Memo. 1970-222↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/203377/	538 F.3d 1 (2008) Sonny WIRATAMA, Petitioner, v. Michael B. MUKASEY, Attorney General of the United States, Respondent. No. 07-1149. United States Court of Appeals, First Circuit. Submitted April 7, 2008. Decided July 9, 2008. 2 Damon M. D'Ambrosio on brief for the petitioner. Jeffrey S. Bucholtz, Acting Assistant Attorney General, Michelle E. Gorden Latour and Kohsei Ugumori on brief for the respondent. Before LYNCH, Chief Judge, CUDAHY,[] Senior Circuit Judge, and TORRUELLA, Circuit Judge. CUDAHY, Senior Circuit Judge. Petitioner Sonny Wiratama, a native and citizen of Indonesia, appeals from a final order of the Board of Immigration Appeals (the Board), denying his applications for asylum, withholding of removal and protection under the Convention Against Torture (the Convention). In a brief order, the Board largely affirmed and adopted the decision of the immigration judge (IJ). The IJ had dismissed Wiratama's asylum application as untimely and dismissed his applications for withholding of removal and protection under the Convention as without merit after finding that Wiratama had failed to present "credible evidence" that he would likely suffer persecution if returned to Indonesia. Wiratama now challenges the IJ's adverse credibility determination. We agree with Wiratama that the IJ's adverse credibility determination does not find substantial support in the record and was not accompanied by cogent reasoning. In fact, we believe that portions of Wiratama's testimony have been inaccurately interpreted both by the IJ and by the government. We deny Wiratama's petition, however, because even if his testimony had been fully credited, he would have failed to establish that he had a reasonable fear of persecution. I. Wiratama is Roman Catholic; his ancestry is Chinese. Both of these attributes make him a minority in Muslim-dominated Indonesia. Wiratama fled Indonesia because he feared persecution on account of his race and religion. He entered the United States on March 8, 2001 as a non-immigrant visitor authorized to remain in the United States until September 7, 2001. On March 28, 2003, the Department of Homeland Security issued him a Notice to Appear, charging him with removability because he had stayed longer than permitted. On April 20, 2005, Wiratama applied for asylum, withholding of removal, protection under the Convention Against Torture and, in the alternative, voluntary departure. Wiratama's removal hearing was held on May 23, 2005. He testified that he had been subject to discrimination since his youth. It was apparently common for both classmates and teachers to play "cruel 3 jokes" on him and to make "ethnic slurs" in front of the entire class. He was frequently subjected to physical abuse by his classmates; school officials looked the other way. The situation became so bad that his parents were forced to place him in a private, Catholic school from 1992 to 1993. His parents then sent him to study in Australia from 1994 to 1996. Wiratama returned to Indonesia in 1997. In January 1998, Wiramata claims that he was stopped in traffic when a group of men, shouting racial epiteths, smashed his car window and pulled him from his car. The men beat Wiramata with their fists, tore his clothing, and "slashed" him on his right hand with a knife. The men then took his money and his cell phone and left Wiratama lying on the side of the road. Wiratama got back in his car and went to pick up his girlfriend at school; he then drove to this house, where his mother treated him with traditional Chinese medicines. Wiratama never went to the hospital. In May 1998, Wiratama was working at a jewelry store when a riot erupted outside the building. Cars were being set ablaze, and a mob of young native Indonesians was robbing and beating any ethnic Chinese they encountered. Wiratama was instructed to flee the building. He hid behind buildings and cars but he was eventually spotted and chased by the mob. They tried to grab Wiratama but he managed to get away. In October 1998, Wiratama was a passenger in a car that was involved in a traffic accident. A native Indonesian police officer present at the scene approached Wiratama and confiscated his driver's license. The officer demanded that he pay both the officer and the driver of the other car before allowing him to leave. Wiratama believes the officer hassled him because he was ethnic Chinese. Wiratama's wife, Milian Martami, also testified at Wiratama's hearing. She testified that, when Wiratama picked her up in January 1998, his car window was broken and he was "bleeding badly." It looked "like somebody stabbed him." On June 14, 2005, the IJ denied Wiratama's applications for withholding of removal and protection under the Convention but granted him voluntary departure. The IJ first ruled that Wiratama's asylum application was untimely; the IJ then denied his application for withholding of removal, finding that he had failed to present "credible evidence" that he would be subject to persecution. The IJ also denied Wiratama's application for protection under the Convention but granted his application for voluntary departure. The Board adopted and affirmed the IJ's decision in a brief order. II. Wiratama concedes that his asylum application was untimely, so our review is limited to his applications for withholding of removal and protection under the Convention Against Torture. Where, as here, the Board affirms and adds some of its own reasoning, we review the Board's reasoning and the underlying IJ decision. See Lin v. Gonzáles, 503 F.3d 4, 6-7 (1st Cir.2007). Withholding of removal is available if "the alien's life or freedom would be threatened in [the destination] country because of the alien's race, religion, nationality, membership in a particular social group, or political opinion." 8 U.S.C. § 1231(b)(3)(A). The "threat to life or freedom" under withholding of removal is identical to "persecution" under asylum, although the burden placed on the petitioner is higher. See Attia v. Gonzáles, 477 F.3d 21, 23 (1st Cir.2007). Persecution 4 "is defined as mistreatment that ... extend[s] beyond harassment, unpleasantness, and basic suffering." Id. Thus, to qualify for withholding, Wiratama "must demonstrate either that [he] has suffered past persecution on account of a protected ground (thus creating a rebuttable presumption that [he] may suffer future persecution) or that it is more likely than not that [he] will be persecuted on account of a protected ground if sent to the destination country." Heng, 493 F.3d at 48. These two methods of proof are commonly referred to as past and future persecution. Wiratama premised his withholding claim on the fact that he had been subject to past persecution on account of his religion and ethnicity. He relied heavily on two violent episodes that he experienced in 1998: the January 1998 beating and the May 1998 riot. While Wiratama also offered evidence of other alleged incidents of persecution,[1] these two events formed the core of his withholding claim. The IJ concluded, however, that Wiratama had not presented "credible evidence" to support his claims. The IJ stated that it was "incredible to believe that he was stabbed ... and did not go to the hospital[,] that he went to his home [] because his home was closer than the hospital[,] and his mother treated him with Chinese medicines for a stab wound." A.R. 50. The IJ also stated that it was "incredible to believe that if [Wiratama] had experienced what he claims to have experienced in Indonesia, he would have gone back to Indonesia, without fearing for his life." A.R. 49. The IJ added that neither Wiratama's siblings or parents have encountered "any difficulties" in Indonesia. A.R. 49-50. The IJ did not discuss the May 1998 riot, the October 1998 confrontation with the police officer or any of the other evidence offered by Wiratama. The IJ denied Wiratama's application, and the Board affirmed in a brief order. Although the IJ did not point to any contradictions, discrepancies or omissions in Wiratama's testimony, the parties agree that the IJ had made at least an implicit finding that Wiratama was not credible. The adverse credibility determination appears to have rested entirely on the implausibility of Wiratama's suffering a stab wound but not seeking treatment in a hospital. We treat credibility determinations "with great respect," and we will not overturn them unless we are compelled to do so. Ang v. Gonzáles, 430 F.3d 50, 57 (1st Cir.2005). At the same time, "[t]he fact that an IJ considers a petitioner not to be credible constitutes the beginning not the end of our inquiry." Aguilera-Cota v. INS, 914 F.2d 1375, 1381 (9th Cir.1990). Adverse credibility determinations must have "sturdy roots in the administrative record." Aguilar-Solis v. INS, 168 F.3d 565, 571 (1st Cir.1999). The IJ must also provide "specific and cogent reasons" why an inconsistency, or a series of inconsistencies, render the alien's testimony not credible. Hoxha v. Gonzáles, 446 F.3d 210, 214 (1st Cir.2006). These inconsistencies must pertain to material facts that are central to the merits of the alien's claims, "not merely to peripheral or trivial matters." See Bojorques-Villanueva v. INS, 194 F.3d 14, 16 (1st Cir.1999). Finally, where credibility determinations rest "on an analysis of the petitioner's testimony and not her demeanor, the finding may receive less than usual deference." Heng v. Gonzáles, 493 F.3d 46, 48 (1st Cir.2007). 5 After reviewing the record in this case, we are compelled to find that the IJ's adverse credibility determination was not supported by substantial evidence or by cogent reasoning. The supposedly "implausible" testimony did not come from Wiratama, and the dispute over whether Wiratama was "slashed" or "stabbed" was too peripheral to Wiratama's claim to discredit his entire testimony. First, the IJ's credibility determination was not adequately supported by record evidence. The determination was premised upon the fact that "[Wiratama] testified in these proceedings" that he had been stabbed but did not go to the hospital. A.R.50. It was this alleged testimony that appears to have formed the sole basis for the IJ's adverse credibility decision. Wiratama, however, never testified that he had been "stabbed." Wiratama consistently maintained that one of the attackers had "tried to attack [him] with a knife." A.R.92; see also A.R.114 ("He tried to stab me."). In an attempt to shield himself from the attack, Wiratama "tried to cover [his] eyes, [and] muffle [his] face." A.R.92; see also A.R.113 ("I just tried to cover my face ... it's better than if they have to scratch my face."). The attacker then "slashed" at him and cut his right hand. A.R.194. Wiratama consistently referred to the resulting injury as a "slash" or a "scratch" that left a "scar on [his] right hand." A.R.113, 114. Not once did Wiratama refer to this event as a "stabbing" or to his injury as a "stab wound." The Government's claim that Wiratama had "changed" his testimony, see Respondent's Br.22 & n. 6, is unsupported.[2] Wiratama's testimony at the removal hearing was not only internally consistent, but also consistent with the statement in his I-589 form. See A.R.194. The only possible conclusion to be drawn from Wiratama's testimony is that his attackers "slashed" at him with a knife and, while shielding his face from the attack, he sustained a cut on his right wrist or hand. (Of course, he also suffered bruises and swelling from the beating itself.) Wiratama himself downplayed the seriousness of the incident, so it is difficult to say that his testimony was implausible.[3] In fact, the only person who mentioned that Wiratama may have been "stabbed" was his wife, Milian Martami. She testified that when Wiratama came to pick her up he was bruised and it looked "like somebody stabbed him." See A.R. 46-50. Martami never testified that she was present at the scene of the attack; she only described the events that unfolded after Wiritama picked her up. It is apparent that the IJ conflated Wiratama's testimony 6 with Martami's testimony.[4] Even if Martami's testimony could be interpreted to constitute a material inconsistency, there is no reason why this inconsistency should be attributed to Wiratama or should impugn Wiratama's credibility.[5] Wiratama insisted that he was never stabbed, so his testimony is not implausible. Because this testimony was the sole basis for the IJ's adverse credibility determination, that determination has no firm support in the record. See Gailius, 147 F.3d at 44 (citing Universal Camera Corp. v. NLRB, 340 U.S. 474, 488, 71 S.Ct. 456, 95 L.Ed. 456). We also do not believe that the IJ provided a "cogent reason" for dismissing all of Wiratama's testimony. Hoxha, 446 F.3d at 214. Specifically, the IJ leapt from the conclusion that there was no credible evidence of a "stabbing" (something Wiratama himself does not deny) to the conclusion that there was no credible evidence that Wiratama had ever been "attacked." A.R. 50. This is simply not tenable. Wiratama testified at length that much of the harm suffered from the attack came from the beating; his clothing was torn, his face was swollen and he was left lying by the side of the road. His wife corroborated his testimony in all respects except in the one instance when she mentioned that it looked "like somebody stabbed him." The disagreement over whether Wiratama had been stabbed or merely slashed is also too immaterial to support a finding that no attack occurred at all. See Bojorques-Villanueva, 194 F.3d at 16. And it certainly does not support a broad credibility determination that would exclude the evidence involving the May 1998 riot, the October 1998 confrontation with the police officer and other events. In sum, our review of the record "compels" the conclusion that the IJ's adverse credibility determination was unfounded. III. The next question, then, is whether the IJ's decision can be affirmed on alternate grounds. See Gailius, 147 F.3d at 44. Of course, we cannot provide these alternate grounds ourselves; they must issue from the agency itself and not from the reviewing court. See SEC v. Chenery Corp., 332 U.S. 194, 196, 67 S.Ct. 1575, 91 L.Ed. 1995 (1947). We have held, however, that such grounds may be implicit in the IJ's decision. See Pulisir v. Mukasey, 524 F.3d 302, 308 (1st Cir.2008); Rotinsulu, 515 F.3d at 72-73. While the IJ explicitly stated that Wiratama had not demonstrated a well-founded fear of persecution, the IJ did not make specific findings regarding Wiratama's evidence of past persecution. As we have previously 7 explained, the failure to make specific findings as to past persecution "unnecessarily complicates our review." Yatskin v. INS, 255 F.3d 5, 9 (1st Cir.2001). While it is clear in this case that the IJ implicitly rejected the evidence of past persecution, it is less clear whether this decision was based solely on the adverse credibility determination or whether the IJ also found that the mistreatment alleged did not amount to "persecution" under the statute. Nevertheless, upon closer examination, we believe that the IJ made an implicit alternate finding that, even if Wiratama's testimony were deemed credible, the evidence he presented did not support a finding of past persecution. The IJ acknowledged that Wiratama's central fear was that he would be subjected to "robbery" and "beatings" upon return to Indonesia. A.R.48. The reference to "robbery" and "beatings" is almost certainly a reference to the January 1998 beating (during which Wiratama was robbed) and the May 1998 riot (during which Wiratama was almost beaten). The IJ also acknowledged that "Christians have been discriminated against and persecuted in Indonesia." A.R.51. This is almost certainly a reference to the documentary evidence, provided by Wiratama, on general conditions in Indonesia. More importantly, the IJ noted that, "[a]ssuming that what he stated is true, ... [Wiratama] would not be in danger, in that his life or freedom would not be threatened, because he is ethnic Chinese and Roman Catholic." A.R.48-49. The IJ does not use the term "past persecution." But Wiratama presented no independent evidence of a probability of future persecution; his application rested almost entirely on evidence of past persecution. In this context, we believe that the IJ's statement fairly "subsumes the question of past persecution." Rotinsulu, 515 F.3d at 72. We now review this alternate holding for substantial evidence. See Gailius, 147 F.3d at 44. We find that Wiratama has failed to show that he suffered from past persecution and thus failed to show a clear probability that he would be subject to persecution upon return to Indonesia. Most of the incidents cited by Wiratama in support of his claim require little discussion. His maltreatment at school, which included being the target of name-calling and being roughed up by fellow students, may be discriminatory but it does not rise to the level of persecution. See Kho v. Keisler, 505 F.3d 50, 58 (1st Cir.2007). Wiratama's confrontation with the police officer, during which Wiratama was apparently forced to pay a bribe, may be a classic example of harassment but it is not persecution. See Bocova v. Gonzáles, 412 F.3d 257, 263 (1st Cir.2005). Wiratama's experiences during the May 1998 riots were certainly frightening but he did not suffer any physical harm. See Susanto v. Gonzáles, 439 F.3d 57, 60 (1st Cir.2006). Finally, while the January 1998 beating was severe, it did not require hospitalization. More importantly, we have held that isolated beatings, even when rather severe, do not establish the systematic mistreatment needed to show persecution. See Journal v. Keisler, 507 F.3d 9, 12 (1st Cir.2007); Attia, 477 F.3d at 23-24; Topalli v. Gonzáles, 417 F.3d 128, 132 (1st Cir.2005); Bocova, 412 F.3d at 263. These incidents, even when taken together, do not rise to the level of persecution under our case law. Wiratama thus failed to show past persecution. Finally, as the Board noted in its brief order, the evidence also undercuts any finding that Wiratama has a reasonable fear of future persecution. See Aguilar-Solis, 168 F.3d at 572. Both the IJ and the Board correctly emphasized the fact that Wiratama's parents continue to 8 live safely in Indonesia; this fact undermines the reasonableness of his fear of persecution. See, e.g., Nikijuluw v. Gonzáles, 427 F.3d 115, 122 (1st Cir.2005); Zheng v. Gonzáles, 416 F.3d 97, 101 (1st Cir.2005). Unfortunately, we again note a factual error. The IJ stated that Wiratama's parents and siblings continue to remain unharmed in Indonesia. See A.R. 49-50. Actually, Wiratama's sister now lives in Singapore, and his brother lives in Australia.[6] Nevertheless, it clear that Wiratama's mother and father still live in Indonesia. While this fact is "[not] enough, by itself, to render a fear of persecution unreasonable," it does undermine the reasonableness of Wiratama's fear. See Eduard v. Ashcroft, 379 F.3d 182, 193 & n. 12 (5th Cir.2004). Both the IJ and the Board also noted that, "notwithstanding the incidents that he encountered in Indonesia, [Wiratama] left Indonesia and returned to Indonesia." A.R.49. Again, such facts can "undermine" the reasonableness of an alien's fear of persecution. See Jean v. Gonzáles, 461 F.3d 87, 91 (1st Cir.2006). The record makes clear that even if Wiratama's testimony were taken to be entirely credible, he has failed to establish that he was a victim of past persecution or that he is likely to be persecuted upon return to Indonesia. His claim for withholding of removal thus fails. We also note that Wiratama's claim for relief under the Convention is underdeveloped and without merit. See Makhoul v. Ashcroft, 387 F.3d 75, 82 (1st Cir.2004); Aguilar-Solis, 168 F.3d at 574. IV. For the reasons discussed above, the petition for review is denied. NOTES [*] Of the Seventh Circuit, sitting by designation. [1] Wiratama also testified that he was harassed at school as a child, that he was harassed by a police officer in October 1998, and that his friends and neighbors have suffered persecution. [2] The Government's brief contains the following inaccurate statement: "Wiratama later changed his claim to `Not stab, but scratch... [h]e tried to stab me.' (A.R. 114)." As we have explained, the record does not reflect that Wiratama ever testified that he had been stabbed, so he could not have changed his story. Further, the portion of the record cited by the Government actually demonstrates that Wiratama resisted characterizing the attack as a stabbing even when this characterization was pressed upon him: Q. Did the men stab you any where [sic] with this knife, sir? A. He tried to stab me, but I tried to avoid it. [] Q. But did he stab you, sir. Did you receive stab wounds? A. Not stab, but scratch. Q. So, no stab wounds, it [sic] that correct, sir? A. He tried to stab me. Q. But you had no stab wounds, other than the scratch on the wrist, is that correct? A. No, just that. A.R. 114; see also, infra, n. 4. [3] Indeed, when Wiratama was asked why he did not go to the hospital, he stated that he did not seek treatment at a hospital "[b]ecause it's just like a small scratch." A.R.113. [4] The Government also conflates Wiratama's testimony and Martami's testimony. Its brief contains a misleading statement: "Wiratama and his wife had testified that Wiratama drove his car to pick up his then-fiancee from school after he was `slashed' and `like ... stabbed.' (See A.R. 46, 91-93, 107-108, 113-14, 194)." The construction of this sentence and the citations used to support it suggest that both Wiratama and his wife testified that he had been stabbed. In fact, Wiratama testified only that he had been "slashed," see A.R.91-93, 107-108, 113-14, 194, while Wiratama's wife testified that it looked "like someone stabbed him," see A.R.46. This is particularly disturbing because whether Wiratama testified that he was "stabbed" is a central issue here. We assume, of course, that any confusion surrounding the statement was unintentional. [5] The IJ's summary of Martami's testimony also briefly suggests that Wiratama had told Martami immediately after the incident that he had been stabbed. See A.R.46. Because Martami's testimony is not in the record, we do not know if the words used were hers. Further, the IJ never suggests that Wiratama had any reason to lie about the incident. [6] The IJ's treatment of the issue is internally inconsistent. Compare A.R.36 ("[Wiratama has siblings, [a] sister in Singapore and a brother in Australia"]) with A.R.48 ("[Wiratama] has siblings, living in Indonesia"). The Government makes no attempt to resolve this inconsistency. Compare Respondent's Br.9 ("Wiratama also testified that his siblings no longer live in Indonesia") with Respondent's Br.25 ("Wiratama's ... siblings have continued to live unharmed in Indonesia").	01-04-2023	02-07-2011
https://www.courtlistener.com/api/rest/v3/opinions/4619756/	JOHN J. PASCOE, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Pascoe v. CommissionerDocket No. 9174.United States Board of Tax Appeals6 B.T.A. 931; 1927 BTA LEXIS 3365; April 21, 1927, Promulgated 3365 In the absence of evidence of the cost of the petitioner's interest in property, or the value thereof on March 1, 1913, the Board is unable to determine what amount, if any, the petitioner is entitled to deduct from gross income in its income-tax return for 1921 for exhaustion or depletion. M. J. Kennedy, Esq., for the petitioner. Joseph Harlacher, Esq., for the respondent. SMITH 931 This is a proceeding for the redetermination of a deficiency in income tax for the year 1921 in the amount of $407.77. The only questions in issue are (1) the right of the petitioner to deduct from gross income in his income-tax return a reasonable amount for depletion, and (2) the amount of such depletion deductible, if any. FINDINGS OF FACT. The petitioner is a resident of Ishpeming, Mich. He is a practical man, having been foreman, shift boss, miner, pump man, and engineer. In 1912 he entered into a partnership agreement with Charles D. Fournier, Jr., for the purpose of handling iron ore properties. These individuals believed that a certain quarter section in Gogebic County, Michigan, was underlaid with a vein of iron ore. Under the partnership agreement3366 the petitioner was to endeavor to interest 932 certain mining men and mining companies in prospecting for ore upon the tract in question. Fournier was to show parties interested over the property and to point out to them the petitioner's and his own belief with respect to the trend of an ore vein. The petitioner succeeded in interesting certain mine operators in the property, one of whom was A. B. Coates, and another George P. Tweed. These individuals on November 19, 1912, took an option for a mining license or lease. Coates and Tweed agreed to pay Fournier the sum of $1,250 in cash and a royalty of 1 1/4 cents per gross ton upon all ore mined and removed under the said mining lease and an interest in the net profits resulting to Coates and Tweed from the explarations and operations under the option for a mining lease and under the mining lease itself amounting to a one twenty-fourth interest in the profits. The mining property in question was owned by John Hanousek and Anne Hanousek, his wife, of Ramsey, Mich. The lease to the property was executed by them in favor of Coates and Tweed and was dated March 15, 1913, and recorded May 3, 1913. The petitioner because of3367 his services to the partnership existing between himself and Fournier became entitled to one-half of whatever Fournier might receive out of the transaction. He thus became entitled to $625 in cash paid to Fournier on March 15, 1913, and one-half of Fournier's interest in certain contracts made between Coates and Tweed and other parties relating to the leased property. The petitioner was compelled to bring suit to recover his one-half of the interest in such cash payment and contracts which suit was decided in favor of the petitioner. This decree was made and entered in the Circuit Court for the County of Marquette, in Chancery, February 9, 1916. The decree of the court evidences the existence of a partnership between petitioner and Fournier and the one-half interest of the petitioner in all the "moneys, profits, royalties and contracts realized and received therefrom [Hanousek transaction] by the defendant, Charles D. Fournier, Jr." The decree further recites that: * * Defendants, A. B. Coates and George P. Tweed and the Savannah Iron Mining Company, a corporation under the laws of the State of Minnesota and the defendants, Edward J. Pearce, Charles D. Fournier, Jr. and Albert3368 J. Rough entered into two certain contracts dated November 19, A.D. 1912 and January 15th. A.D. 1914 and that under and by virtue of said contracts and the mining leases hereinbefore referred to, the defendant, Charles D. Fournier, Jr., received the sum of twelve hundred fifty dollars ($1250.00) and that in and by said contracts it was further agreed that so long as said leases remain in force and effect the said Charles D. Fournier, Jr. should receive and be paid a royalty of one and one-quarter cents (1 1/4c) per gross ton of twenty-two hundred forty pounds (2240 lbs.) upon all iron ore mined and removed under said mining leases upon the premises above described which amounts are payable quarterly on the 20th. Days of January, April, July and October of each year for the three calendar months preceding the day of payment and that in and by said agreements relating to said mining leases the 933 Savannah Iron Mining Company further agreed to pay to said Charles D. Fournier, Jr. an interest in the net profits resulting to said A. B. Coates and Georage P. Tweed and the Savannah Iron Mining Company from the explorations and operations carried on under said option for a mining3369 lease and under the mining leases described in this decree, namely, one twenty-fourth (1/24th) interest in said profits. It was further provided that Fournier was to account to the petitioner for one-half of the payment of $1,250 with interest thereon at 5 per centum per annum from March 15, 1913, and that he should transfer and set over to the petitioner one-half of his interest in the contracts above referred to. Subsequent to the entering of the decree by the court, Pascoe assigned an undivided one-fourth interest of all moneys received or to be received and of all rights, profits, and privileges secured to Pascoe by the decree and by the contracts between Fournier and Coates and Tweed to M. J. Kennedy, the petitioner's attorney. Thereafter and on September 2, 1916, Coates and Tweed and the petitioner entered into an agreement under which the petitioner assigned to Coates and Tweed all of his remaining rights, title, and interest to the contracts, profits, and royalties acquired under the decree, and received from Coates and Tweed an agreement that so long as the mining leases remained in force and effect they would pay the petitioner a royalty of 1 1/2 cents per gross ton3370 upon all iron ore mined and removed under the lease. These amounts were payable quarterly and a minimum royalty of 100,000 tons per year was provided for whether the amount was mined and shipped or not. The agreement provided that all such payments of royalty and of minimum royalty should be made at the times and in the manner and with the same force and effect in every respect as provided in said mining lease with reference to the payment of royalty and minimum royalty. Such minimum royalty was to be computed from and began to run on July 1, 1916. The agreement further provided that all agreements contained in the contract should bind the heirs, executors, administrators and assigns of the respective parties to the contract and that the provisions contained in such contract should be construed as covenants running with the land. The petitioner performed no service and engaged in no business for gain for the taxable year 1921 for these royalties. The holders of the mining option and lease having acquired property of great prospective value were willing to pay Fournier for his services in bringing the property to their attention. The payment was to take the form of a royalty3371 upon ore mined. As the ore was mined from the property the petitioner became entitled through the agreement of September 2, 1916, to receive 1 1/2 cents per ton royalty. The decree of the court recites the leases executed by the fee owners to A. B. Coates and George P. Tweed, the agreement by the lessees, 934 Coates and Tweed and the Savannah Iron Mining Co., to pay to Fournier and others under two certain contracts dated November 19, 1912, and January 15, 1914, certain moneys, royalties, and profits upon all iron ore mined and removed under said mining leases from said premises. The mining of ore under the lease commenced in 1916. The following table shows the ore mined from the property and the year in which it was mined down to and including the taxable year 1921. Year.Tons.1916330,4261917658,3251918816,5101919366,2561920696,5541921428,112Total3,296,183In February, 1914, when the drilling records were completed, the petitioner estimated the tonnage of the mine at 14,000,000 tons. The petitioner was an experienced mining man and his estimate has been verified to a large extent by subsequent exploration and development. 3372 OPINION. SMITH: Although the petitioner received $9,121.47 in royalties in the year 1921 he did not report any part of this amount as net taxable income by reason of having deducted therefrom the full amount for depletion. The deduction of the depletion was disallowed by the respondent upon the ground that - * * It is held by this office [Commissioner's office] that since you [the petitioner] are neither the lessor nor the lessee and have no interest in the mining lease, no depletion is allowable. The income received from the operation of mining property is not subject to depletion deductions based upon the value of an alleged equity in the mining lease and the entire amount received by reason of the assignment of the option constitutes taxable income for the year in which received. The petitioner submits that he is entitled to deduct from gross income in his income-tax return for 1921, a reasonable amount for depletion and submits that - The unit value is the present worth on March first, 1913 of 1 1/2??, and the depletion allowance for the year is the unit value multiplied by the tonnage mined [paid for, namely, 608,058]. Section 214 of the Revenue Act of3373 1921 permits an individual to deduct from gross income in his income-tax return, among other items: 935 (8) A reasonable allowance for the exhaustion, wear and tear of property used in the trade or business, including a reasonable allowance for obsolescence. In the case of such property acquired before March 1, 1913, this deduction shall be computed upon the basis of its fair market price or value as of March 1, 1913; * * * (10) In the case of mines, oil and gas wells, other natural deposits, and timber, a reasonable allowance for depletion and for depreciation of improvements, according to the peculiar conditions in each case, based upon cost including cost of development not otherwise deducted: Provided, That in the case of such properties acquired prior to March 1, 1913, the fair market value of the property (or the taxpayer's interest therein) on that date shall be taken in lieu of cost up to that date * * . The basis for a deduction for exhaustion or depletion under the provisions of the Revenue Act of 1921 is the fair market price or value as of March 1, 1913, where the property was acquired before that date and the cost where acquired after that date. 3374 In the case at bar, the record discloses that the petitioner acquired his interest in the property in question as a result of services performed for a partnership. No evidence has been introduced from which the Board can determine the value at the date of acquisition of the petitioner's interest, or at March 1, 1913, assuming that petitioner had an interest on that date. Upon the record, the action of the Commissioner in disallowing any deduction for exhaustion or depletion for 1921 must be and is sustained. Judgment will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/625641/	UNPUBLISHED UNITED STATES COURT OF APPEALS FOR THE FOURTH CIRCUIT No. 11-7433 UNITED STATES OF AMERICA, Plaintiff - Appellee, v. MARCUS DORAN BARLEY, Defendant - Appellant. Appeal from the United States District Court for the Middle District of North Carolina, at Greensboro. N. Carlton Tilley, Jr., Senior District Judge. (1:07-cr-00200-NCT-17; 1:10-cv- 00666-NCT-PTS) Submitted: March 15, 2012 Decided: March 19, 2012 Before DUNCAN and FLOYD, Circuit Judges, and HAMILTON, Senior Circuit Judge. Dismissed by unpublished per curiam opinion. Marcus Doran Barley, Appellant Pro Se. Sandra Jane Hairston, Michael Francis Joseph, Angela Hewlett Miller, Assistant United States Attorneys, Greensboro, North Carolina, for Appellee. Unpublished opinions are not binding precedent in this circuit. PER CURIAM: Marcus Doran Barley seeks to appeal the district court’s order adopting the recommendation of the magistrate judge and denying relief on his 28 U.S.C.A. § 2255 (West Supp. 2011) motion. The order is not appealable unless a circuit justice or judge issues a certificate of appealability. 28 U.S.C. § 2253(c)(1)(B) (2006). A certificate of appealability will not issue absent “a substantial showing of the denial of a constitutional right.” 28 U.S.C. § 2253(c)(2). When the district court denies relief on the merits, a prisoner satisfies this standard by demonstrating that reasonable jurists would find that the district court’s assessment of the constitutional claims is debatable or wrong. Slack v. McDaniel, 529 U.S. 473, 484 (2000); see Miller-El v. Cockrell, 537 U.S. 322, 336-38 (2003). When the district court denies relief on procedural grounds, the prisoner must demonstrate both that the dispositive procedural ruling is debatable, and that the motion states a debatable claim of the denial of a constitutional right. Slack, 529 U.S. at 484-85. We have independently reviewed the record and conclude that Barley has not made the requisite showing. Accordingly, we deny a certificate of appealability and dismiss the appeal. We dispense with oral argument because the facts and legal contentions are adequately 2 presented in the materials before the court and argument would not aid the decisional process. DISMISSED 3	01-04-2023	03-19-2012
https://www.courtlistener.com/api/rest/v3/opinions/4619757/	Joseph Darsky v. Commissioner.Darsky v. CommissionerDocket No. 6396.United States Tax Court1946 Tax Ct. Memo LEXIS 61; 5 T.C.M. (CCH) 861; T.C.M. (RIA) 46244; October 14, 194661 Joyce Cox, Esq., and S. E. Wilcox, Jr., Esq., for the petitioner. D. Louis Bergeron, Esq., for the respondent. TURNER Memorandum Findings of Fact and Opinion TURNER, Judge: The respondent determined a deficiency of $15,929.72 in the petitioner's income tax for 1941. The only matter in controversy is whether the petitioner was domiciled in Texas during 1941 and therefore entitled to report his income on the community property basis. Findings of Fact The petitioner filed his 1941 income tax return with the collector for the First District of Texas on March 16, 1942. The petitioner, a naturalized citizen of the United States and the son of N. H. Darsky, was born in Russia. He came to the United States when he was three years old and, with his family, settled in Youngstown, Ohio. He has one brother, Julius Darsky, and one sister, Mrs. Carl Lockshin. For more than 10 years prior to 1936, N. H. Darsky was the sole proprietor of a soft drink bottling and distributing enterprise with his principal place of business at Youngstown. From 1931 to 1936, the petitioner, his brother and their brother-in-law, Carl Lockshin, as employees continuously devoted their entire62 time to the enterprise. In 1936, Julius Darsky was manager of the enterprise and assistant to his father. Lockshin was sales manager for the Youngstown area. Petitioner was manager of a branch of the enterprise in the Canton, Ohio, area and resided in Canton. Before the end of 1936, N. H. Darsky had purchased real estate in Akron, Ohio, for use as a branch of the enterprise to be established there. On December 30, 1936, N. H. Darsky, Julius Darsky, Lockshin and the petitioner formed a partnership known as Golden Age Ginger Ale Company with its principal place of business in Youngstown, to carry on the soft drink business theretofore carried on by N. H. Darsky as a sole proprietorship. In 1937, the partnership agreement was amended to permit N. H. Darsky to limit his partnership activities to those of a supervisory character. Until near the end of 1939, the partnership operations were confined to the State of Ohio, with Lockshin in charge at Youngstown, Julius Darsky at Akron, and the petitioner at Canton. At a bottlers' convention in San Francisco, California, in November 1939, the petitioner and Julius Darsky learned from officials of the Pepsi-Cola Company that it would shortly63 place its Houston, Fort Worth and Dallas, Texas, franchises on sale. Having talked the matter over with the other partners, the petitioner and Julius Darsky visited the three cities, after which it was concluded that they desired the Houston franchise. Negotiations were then conducted in New York City and the Houston franchise was acquired by the partnership late in November 1939. The franchise was granted with the understanding that one of the partners would move to Houston and manage the plant. It was agreed by the partners that petitioner was the one who should go to Houston and manage the partnership operations there. On December 26, 1939, the petitioner, his wife and child arrived in Houston where for a few weeks they lived at a hotel and later in leased houses. The petitioner joined a fraternal organization in Houston in June 1941. Although retaining his church affiliation in Youngstown, the petitioner joined a church of the same faith in Houston. The petitioner organized the partnership's Houston branch and managed it until March 1, 1942. Operations for the 10 months ending October 31, 1940, the date on which the partnership's fiscal year ended, resulted in a net loss of64 approximately $43,300. Operations for the year ended October 31, 1941 resulted in a profit of about $4,000. The J. F. Giering Bottling Company, a corporation in which the petitioner owned a small amount of stock, conducted operations in Youngstown. About September 1940, the wives of the four partners in Golden Age Ginger Ale Company acquired a majority of the stock of the J. F. Giering Bottling Company. About November 1944, the four wives formed a partnership, in which they had equal interests, to take over the business of the corporation. Early in 1942, Lockshin, who was manager of the Golden Age Ginger Ale Company's operations in Youngstown, suffered an illness and his wife was not able to manage the operations alone. After employing a manager for the Houston branch, the petitioner, accompanied by his child and his wife, left Houston on March 1, 1942 for Youngstown. Upon reaching Youngstown the petitioner took charge of the partnership operations there. In addition, the petitioner in 1942 acted as executive, at a salary of $8,000, of J. F. Giering Bottling Company. In 1942 and 1943 he also served as trustee of the Darsky Foundation, a family charitable trust operating in Youngstown, 65 and to which he made contributions of $5,000 and $10,000, respectively, in said years. During the winter months of 1943 the petitioner, in addition to his other activities, worked as a foreman for the Republic Steel Corporation in Youngstown after his draft board had advised him that he would either have to get a defense job or enter the army. After working a short time he quit the defense job and took an examination for the army but, so far as disclosed, never entered the service. In December 1944, the petitioner returned, with his family, to Houston where he resumed the management of the partnership branch and where he has since purchased a house. During the period between the petitioner's departure from Houston on March 1, 1942 and his return in December 1944, the Houston branch was managed by Abe Margolen until his entry in the army in March 1944, and theretafter by Pete Hindman who had been with the branch since 1941 or 1942 and who was familiar with the equipment During the period between petitioner's departure from and return to Houston, he spent a considerable portion of his time traveling in an effort to obtain supplies and materials for the partnership business and went66 to Houston as often as possible. On an undisclosed number of occasions he spent as much as 30 days at a time there. On other occasions Julius Darsky went to Houston. During the years 1939 through 1943, the partnership employed several different Ohio accounting firms to audit its books, including those of the Houston branch, and to prepare the income tax returns of the partnership. They also prepared the returns of the partners, including those of the petitioner. For these years the petitioner's returns were prepared in Youngstown and were filed under the addresses and with the collector for the districts as follows: YearAddress GivenDistrict1939705 St. Bernard St., Houston, Texas18th Ohio1940705 St. Bernard St., Houston, Texas1st Texas1941705 St. Bernard St., Houston, Texas1st Texas19422343 Selma Ave., Youngstown, Ohio18th Ohio19432343 Selma Ave., Youngstown, Ohio18th OhioThe 705 St. Bernard St. address was that of the partnership's plant in Houston. The 2343 Selma Ave. address was that of the petitioner's residence in Youngstown. During the years 1939 through 1942, the petitioner's wife had no separate income of her own. 67 Of the returns filed by petitioner for the years 1939 through 1943, the returns for all years except 1941 were filed on the basis of the petitioner's distributive share of the income of the partnership being his separate property. For 1941, the petitioner and his wife filed separate returns in which each reported as community income one-half of his distributive share of partnership income which was his sole source of income for that year. In an audit of the petitioner's return for 1940, the respondent determined a small deficiency on the basis of the return as filed. That deficiency, although covered by the deficiency notice involved in the present proceeding, was subsequently paid by petitioner and is not here controverted. In an audit of the petitioner's 1941 return the respondent determined that the entire amount of the petitioner's distributive share of partnership income was taxable to petitioner and determined a deficiency for that year which is controverted in the instant proceeding. Opinion The petitioner contends that during 1941 he was domiciled in Texas and that, therefore, his distributive share of the partnership income for that year was community income, one-half68 of which was taxable to him and one-half to his wife. The respondent contends that the petitioner has failed to establish that he was domiciled in Texas during 1941 and that the determination of the deficiency accordingly should be sustained. When three years old the petitioner came to the United States with his parents and family who settled in Youngstown, Ohio. So far as disclosed, the parents at all times since have lived in Ohio. Likewise, so far as shown, the petitioner continued to live in Ohio at all times prior to December 1939. Therefore, on the showing here, Ohio appears to have been the State of petitioner's domicile late in December 1939 when he departed for Houston, Texas, and when it is contended that he changed his domicile to Texas. To effect a change of domicile there must be an actual abandonment of the first domicile, coupled with an intention not to return to it, and there must be a new domicile acquired by actual residence in another place with the intention of making the last acquired residence a permanent home. Lee Rosenberg, 10 B.T.A. 601">10 B.T.A. 601, aff'd., 37 Fed. (2d) 808. There is a presumption in favor of the original domicile and since69 an abandonment or change of domicile is a matter of a very serious nature, to establish an intention to make such a change requires clear and convincing proof. In case of doubt the presumption is that the domicile has not been changed. Mere evidence alone of residence in the new place is neither conclusive nor sufficient evidence of a change of domicile. Samuel W. Weis, 30 B.T.A. 478">30 B.T.A. 478. The petitioner testified that when he went to Houston in December 1939, it was with the intention of residing there permanently and that throughout the period from his departure on March 1, 1942 until his return in December 1944, it was his intention to return to Houston as quickly as he could possibly do so. The petitioner's witness, Allen M. Green, a Houston business acquaintance of long standing, testified that in conversations with petitioner as to his plans to remain in Houston "It was more or less generally agreed he had come here to stay and to be a Houstonian", and respecting the petitioner's return after his departure on March 1, 1942, "it was my understanding that this was only a temporary move pending his brother-in-law's return to good health". In further support of his contention70 that he changed his domicile to Texas in 1939, the record shows approximately 26 months' residence in Houston, coupled with the fact that in June 1941 petitioner joined a fraternal organization there and at some undisclosed time prior to March 1, 1942, he affiliated with a Houston church, meanwhile retaining his membership in a church of the same faith in Youngstown. On the other hand, the petitioner lived in rented quarters all the time to March 1, 1942. He stayed in Houston scarcely longer than was necessary to get the branch organized and established on a profitable basis. In 1940, he and his wife acquired interests in another bottling enterprise in Youngstown for which he worked upon his return there. All the petitioner's income tax returns were prepared by Ohio accountants who were auditors for the partnership. The reason advanced for petitioner's departure from Houston on March 1, 1942, and his remaining in Youngstown for upwards of three years, was Lockshin's illness and the inability of his wife to carry on the partnership operations alone. Although the petitioner took charge of the partnership operations in Youngstown he engaged in other extensive activities there which71 were not shown to be related to the affairs of the partnership. Furthermore, the record is silent as to the duration of Lockshin's illness or as to the time of his recovery. To the extent these factors have a bearing, they tend to negative an intention on the part of the petitioner to change his domicile to Texas. Other matters which would tend to throw light on the petitioner's intention as to domicile are where he paid his personal taxes, where he voted and where he registered for the draft. The record is entirely silent as to all these. It may well be that he did all these in Ohio. After a careful consideration of the evidence, we think that the petitioner has failed to establish that at any time prior to the end of the taxable year 1941 he had abandoned his Ohio domicile and acquired a domicile in Texas. Accordingly, the respondent's determination that the entire amount of the petitioner's distributive share of partnership profits for 1941 is taxable to petitioner is sustained. In reaching the foregoing conclusion we have not considered, nor do we make any decision with respect to, the question whether if the petitioner had been domiciled in Texas during 1941, such domicile72 would have been sufficient to cause his distributive share of the partnership income to be community income taxable one-half to him and one-half to his wife. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619760/	BERNARD JASKE AND PAULINE JASKE, Petitioners, v. COMMISSIONER OF INTERNAL REVENUE, RespondentJaske v. CommissionerDocket No. 41977-84.United States Tax CourtT.C. Memo 1986-454; 1986 Tax Ct. Memo LEXIS 150; 52 T.C.M. (CCH) 573; T.C.M. (RIA) 86454; September 18, 1986. 150 P purchased equipment from the estate of her deceased father who had used the equipment in his sole proprietorship trucking business. After the property was purchased, P used it in her separate sole proprietorship trucking business. P claimed an investment credit on her jointly filed Federal income tax return. The 1979 return was filed on January 29, 1981. R disallowed the claimed investment credit. Held, the equipment does no qualify as "used section 38 property" since the property was previously used by P's father. Sec. 48(c)(1) and sec. 179(d)(2)(A). Heldfurther, R's determination that Ps are liable for an addition to tax under section 6651(a)(1) is sustained. James O. Vollmar, for the petitioners. Sheldon M. Kay, for the respondent. PANUTHOSMEMORANDUM OPINION PANUTHOS, Special Trial Judge: This case was heard pursuant to the provisions of section 7456(d) and Rules 180, 181 and 182. 1Respondent determined a deficiency in petitioners' Federal income tax for the taxable year 1979 in the amount of 151 $6,100 together with an addition to tax under section 6651(a)(1) in the amount of $1,525. There are two issues for decision: whether petitioners are entitled to an investment credit for the purchase of two used tractors and trailers under section 38, and whether petitioners are liable for an addition to tax under section 6651(a)(1) for failure to file timely their 1979 Federal income tax return. This case was submitted fully stipulated pursuant to Rule 122. The Stipulation of Facts and exhibits attached hereto are incorporated herein by this reference. At the time of the filing of their petition in this matter, petitioners resided in New Berlin, Wisconsin. Petitioner Bernard Jaske operated Bud's Truck and Repair. Petitioner Pauline Jaske (hereinafter Pauline) operated a sole proprietorship trucking company known as PJ Trucking Company. Pauline's father, Russell Trupke, operated a trucking company as a sole proprietor until he died intestate on September 21, 1979. In his trucking operation, Russell Trupke used, among other items, two tractors and two trailers. These assets became part of the Estate of Russell Trupke upon his death. The estate was processed by an "informal 152 administration" in the Wisconsin Circuit Court. On September 30, 1979, Pauline purchased the tractors and trailers from the Estate of Russell Trupke by assuming liabilities of the Estate. The liabilities assumed were $24,800 owed to Bud's Trucks and Repairs, and a $71,748.18 loan from Waukeska State Bank for which the tractors and trailers were collateral. Pauline used the two tractors and two trailers in her trucking business, PJ Trucking Co., from their date of purchase through the remainder of the taxable year. Prior to the due date of their return, petitioners filed an Application for Automatic Extension of time to file to June 15, 1980. Prior to June 15, 1980, petitioners filed an Application for Extension of time to file until September 15, 1980. There is no evidence in the record as to whether the second application for extension was acted upon by respondent. On January 29, 1981, petitioners filed their joint Federal income tax return for the taxable year 1979. On the return Pauline claimed an investment credit for the two tractors and two trailers in the amount of $6,100. 2153 In his statutory notice of deficiency issued on September 24, 1984, respondent disallowed the investment credit in full relating to the two tractors and two trailers. Section 38 allows for a credit against income tax for investment in qualified property. Property qualified for investment credit is referred to as "section 38 property" and is defined in section 48, which distinguishes between new and used "section 38 property." The specific requirements for qualification as "used section 38 property" are set forth in section 48(c) as follows: (c) USED SECTION 38 PROPERTY.- (1) IN GENERAL.-For purposes of this subpart, the term "used section 38 property" means section 38 property acquired by purchase after December 31, 1961, which is not new section 38 property. Property shall not be treated as "used section 38 property" if, after acquisition by the taxpayer, it is used by a person who used such property before such acquisition (or by a person who bears a relationship described in section 179(d)(2)(A) or (B) to a person 154 who used such property before such acquisition). Thus, in order to qualify for the investment credit, the property must (1) be acquired by purchase, and (2) not be disqualified by prior use by the taxpayer or by a related person as defined in section 179(d)(2)(A) or (B). 3155 Both tests must be satisfied for property to qualify for the investment credit. Crawford v. Commissioner,70 T.C. 46">70 T.C. 46 (1978). Since respondent agrees that petitioners have satisfied the first requirement, we need only decide whether the property is disqualified by its prior use. Accordingly, if the tractors and trailers were used by Pauline's spouse, or an ancestor or lineal descendant prior to acquision by Pauline, such use would disqualify the property for investment credit. Section 179(d)(2)(A). Pauline's father, Russell Trupke, used the tractors and trailers in his sole proprietorship trucking operation prior to his death in 1979. His assets passed to his estate and Pauline purchased the equipment from the estate. Pauline used the tractors and trailers in her sole proprietorship trucking operations for the remainder of 1979 and thereafter. Petitioners argue that (1) the purchase of the property from the intervening estate and (2) the use of the property by the father's business and then by Pauline's business removes the property from disqualification. We do not agree.We have previously decided that the existence of an intervening owner does not affect the test of prior use by a prohibited family member. See Crawford v. Commissioner,supra at 49. While the purchase of the property from the estate may assist petitioners in the first test of qualification ("acquired by purchase"), it does not assist them in the second test. Crawford v. Commissioner,supra at 49. Petitioners argue that we should look at the father's business and Pauline's business as the "persons" that used the property. 156 They cite Holloman v. Commissioner,551 F.2d 987">551 F.2d 987 (5th Cir. 1977), affg. a Memorandum Opinion of this Court, in support of the position that the reference to "use" by a person in section 48(c)(1) does not mean the individual person who actually physically used the equipment, but refers to the legal entity which used the equipment. Holloman,supra at 989. While we agree with this theory, petitioners' argument that there was no prior use by a prohibited family member fails. Both businesses were sole proprietorships. For tax purposes a sole proprietorship has no separate legal identity from the proprietor. 4157 Accordingly, Pauline and her father are the "persons" referred to by section 48(c)(1). Therefore, Russell Trupke was the person who used the equipment, and after its purchase from his estate Pauline was the person who used the equipment. A father-child relationship is disqualifying for the purposes of section 179(d)(2)(A), and, therefore, the two tractors and two trailers do not qualify as "used section 38 property" under section 48(c). Crawford v. Commissioner,supra at 49. 5The next issue for decision is whether petitioners are liable for an addition to tax for failure to file timely their 1979 income tax return. Petitioners bear the burden of proving that their failure to file timely was due to reasonable cause and not to willful neglect. Section 6651(a)(1) and section 301.6651-1(a)(1), Proced. 158 & Admin. Regulations; Kindred v. Commissioner,669 F.2d 400">669 F.2d 400 (6th Cir. 1982), affg. by order a Memorandum Opinion of this Court; Rule 142(a).6Petitioners filed an Application for Automatic Extension of Time to File their 1979 income tax return until June 15, 1980, and before this extension expired they filed a request for extension of time to file until September 15, 1980. The record does not indicate whether or not this request was approved. Petitioners did not file their 1979 joint income tax return until January 29, 1981, some four and one half months after September 15, 1980. 7There is no evidence in the record upon which we can make a finding that the failure to file timely was due to reasonable cause and not to willful neglect. Petitioners have not met their burden of proof in this matter and, accordingly, are liable for the addition to tax under section 6651(a)(1) as determined by respondent. To reflect the foregoing, Decision will be entered for the respondent.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated. All rule references are to the Tax Court Rules of Practice and Procedure.↩2. The total purchase price of the two tractors and two trailers was $96,548.18 (the total of the assumed debt). The basis used for determination of the claimed investment tax credit was $61,000. The amount of the claimed investment tax credit is not at issue.3. [Sec. 179(d)] (2) PURCHASE DEFINED. * * the term "purchase" means any acquisition of property, but only if- (A) the property is not acquired from a person whose relationship to the person acquiring it would result in the disallowance of losses under section 267 or 707(b) (but, in applying section 267(b) and (c) for purposes of this section, paragraph (4) of section 267(c) shall be treated as providing that the family of an individual shall include only his spouse, ancestors, and lineal descendants), * * *4. In Holloman v. Commissioner,551 F.2d 987">551 F.2d 987 (5th Cir. 1977), affg. a Memorandum Opinion of this Court, the court considered the question of whether partnership property should be treated as being used by each partner for purposes of section 179(d)(2)(A). The court recognized that a pertnership is a separate legal entity, for purposes of section 48(c). See also section 7701(a)(1); Moradian v. Commissioner,53 T.C. 207">53 T.C. 207 (1969); Kipperman v. Commissioner,T.C. Memo. 1977-32, affd. on another issue 622 F.2d 431">622 F.2d 431↩ (9th Cir. 1980). 5. Although this particular transaction may not be one of the tax abuse situations that Congress had in mind to prevent when enacting the investment credit provisions, the father to child transaction is unquestionably one of the disqualifying relationships delineated by Congress. See H. Rept. No. 1447, 87th Cong., 2d Sess. (1962), 3 C.B. 405">1962-3 C.B. 405, 411-420, 521-522; S. Rept. No. 1881, 87th Cong., 2d Sess. (1962), 3 C.B. 707">1962-3 C.B. 707↩, 716-727, 864.6. See also Swan v. Commissioner,T.C. Memo. 1985-521↩, on appeal (7th Cir., May 5, 1986).7. Thus, even if the second extension request had been granted the return would be untimely.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619761/	JAMES F. LUTHER AND CLAUDIA L. LUTHER, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentLuther v. CommissionerDocket No. 21078-80.United States Tax CourtT.C. Memo 1982-244; 1982 Tax Ct. Memo LEXIS 500; 43 T.C.M. (CCH) 1299; T.C.M. (RIA) 82244; May 4, 1982. James F. Luther, pro se. Daniel T. Ramthun, for the respondent. DRENNENMEMORANDUM FINDINGS OF FACT AND OPINION DRENNEN, Judge: This case was assigned to and heard by Special Trial Judge Daniel J. Dinan pursuant to the provisions of section 7456(c) of the Internal Revenue Code1 and Rules 180 and 181, Tax Court Rules of Practice and Procedure.2 The Court agrees with and adopts his opinion which is set forth below. 501 OPINION OF THE SPECIAL TRIAL JUDGE DINAN, Special Trial Judge: Respondent determined a deficiency in petitioners' Federal income tax for 1977 in the amount of $ 954.48. The issue for decision is whether petitioners must recapture on their 1977 Federal return a new residence tax credit taken by them on their 1975 return. FINDINGS OF FACT Petitioners, husband and wife, filed a joint Federal income tax return for 1977 with the Internal Revenue Service at Fresno, California. At the time of filing their petition in this case, they resided in Redding, California. In May, 1975, petitioners purchased a new residence located at 1351 South State Street, Porterville, California. The purchase of that residence qualified petitioners for the "new principal residence" tax credit provided for in section 44. On their 1975 Federal income tax return, petitioners properly claimed a "new principal residence" tax credit in the amount of $ 954.48. On November 14, 1975, petitioners sold their residence in Porterville, California, on which they had claimed the "new principal residence" tax credit. On or about November 17, 1975, petitioners purchased a residence in Sparks, Nevada. The502 use of that residence did not originate with petitioners. In July, 1977, petitioners moved to Redding, California, where they rented a home until April, 1978; in April, 1978, they purchased a new residence. In his notice of deficiency, respondent informed petitioners that, since they did not buy or build a new residence to replace the residence on which they claimed the "new residence credit" within eighteen (18) months from the sale of their "new" residence, they were required to recapture the credit on their 1977 return. OPINION Section 44 allowed a taxpayer as a tax credit "an amount equal to 5 percent of the purchase price of a new principal residence purchased or constructed by the taxpayer." The credit was subject to recapture if the residence was disposed of within 36 months after it was acquired and if the taxpayer did not purchase a new principal residence within 18 months from the date of sale of the first new principal residence. After selling the "new residence" on which they claimed the credit, petitioners purchased another home on November 17, 1975, which was approximately 20 years old. That home was also sold by petitioners and they did not purchase another*503 "new residence" until April of 1978, a date clearly outside of the 18-month period within which petitioners could have purchased the second "new residence" in order to avoid the recapture provisions of section 44(d). The recapture provisions of section 44(d) are clear and unambiguous. Since petitioners did not purchase another "new residence" within an 18-month period from November 14, 1975, when they sold the "new residence" on which they claimed the credit, they are required to recapture the credit in 1977. Decision will be entered for the respondent.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated. ↩2. Pursuant to the order of assignment, on the authority of the "otherwise provided" language of Rule 182, Tax Court Rules of Practice and Procedure↩, the post-trial procedures set forth in that rule are not applicable in this case.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619763/	APPEAL OF READY AUTO SUPPLY CO.Ready Auto Supply Co. v. CommissionerDocket No. 3539.United States Board of Tax Appeals2 B.T.A. 730; 1925 BTA LEXIS 2299; September 30, 1925, Decided Submitted July 17, 1925. 2299 Promissory notes executed by the owners of all of the common stock of a corporation and by them paid in to it in satisfaction of a duly authorized assessment upon such stock, upon which no cash payments ever were made, and which were not discounted by the corporation but were canceled at maturity, the amount of each note being charged to the personal account of the maker, held, in the light of the evidence concerning the financial standing of the makers, not to have been bona fide paid in, either for the stock or on account of an assessment constituting a paid-in surplus. Appeal of Hewitt Rubber Co.,1 B.T.A. 424">1 B.T.A. 424, distinguished. Albert L. Clothier, Esq., for the taxpayer. Ellis W. Manning, Esq., for the Commissioner. JAMES730 Before JAMES, SMITH, and LANSDON. This is an appeal from the determination of deficiencies in income and profits taxes for the years 1919 and 1920 in the amounts, respectively, of $606.90 and $520.55. 731 FINDINGS OF FACT. The taxpayer is a New Jersey corporation with its principal office in Brooklyn, N.Y.During the period June 21, 1916, to September 30, 1917, the Ready2300 Auto Supply Co., a partnership, was engaged in the business of selling automobile accessories. This partnership was owned by L. C. Heller and M. I. Steinhardt. The net income of the partnership for the period June 21, 1916, to December 31, 1616, amounted to $2,439.97, and for the period January 1, 1917, to September 30, 1917, amounted to $4,163.66. The taxpayer was incorporated September 15, 1917, and took over the business and assets, including good will, of the partnership as of September 30, 1917. Stock in the amount of $35,500 was issued on November 12, 1917, in exchange for the assets of the partnership. The certificates of stock were issued as follows: CommonPreferredLudwig C. Heller13818Mortimer I. Steinhardt6818Alan H. Heller49Louis Steinhardt80Fanny Heller15I. N. Heller5Total210145The assets of the partnership as of September 30, 1917, were as follows: Cash$571.88Accounts receivable, merchandise9,506.40Accounts receivable, personal556.80Notes receivable196.37Automobiles357.18Furniture and fixtures1,765.93Inventory - accessories17,285.76Tires and tubes6,401.02Unexpired insurance101.87Total assets36,743.21Accounts payable, merchandise11,732.59Notes payable2,500.00Interest payable46.00Depreciation reserve: Furniture and fixtures$1,243.11Automobile117.881,360.99Capital paid in by partners and members of partners' families14,500.00Surplus6,603.63Total liabilities36,743.212301 732 Preferred stock in the amount of $14,500 was issued to the members of the partnership and members of their families who had loaned money to the partners. This stock was issued in the same proportion as the capital advance. Common stock in the amount of $20,600 was issued to L. C. Heller and M. I. Steinhardt. The common stock of $400 issued to Alan H. Heller was owned in equal amount by L. C. Heller and M. I. Steinhardt, so that these individuals held the beneficial title to 140 and 70 shares, respectively. The proportion 2 to 1 was orally agreed upon as the amount of their respective interests in the partnership business and was used as the basis for the division and issue of the common stock. At the time of the first directors' meeting, November 12, 1917, the directors authorized an assessment of 100 per cent upon the common stock. This assessment was effected as of January 1, 1919, at which time notes in the total amount of $12,000, executed by L. C. Heller, and $7,000, executed by M. I. Steinhardt, were paid in to the corporation. A credit of $2,000 was made in the personal account of L. C. Heller on December 31, 1918. This item represented salary2302 for the year 1918 and was treated as in payment of $2,000 of common stock. On August 1, 1919, I. N. Heller purchased the 70 shares of common stock from M. I. Steinhardt, paying $6,000 therefor and assuming the obligation of $7,000 in notes due the corporation by M. I. Steinhardt and the interest accrued on this amount for the period January 1 to August 1, 1919. I. N. Heller on August 1, 1919, executed notes in the amount of $7,000. The notes executed by M. I. Steinhardt were canceled and regarded as paid. The notes executed by L. C. Heller and paid in to the corporation were as follows: Date.Amount.Payable.Interest.Per cent.Jan. 1, 1919$1,000Apr. 30, 19196Do1,000Aug. 30, 19196Do1,000Dec. 31, 19196Do1,000Apr. 30, 19206Do1,000Aug. 30, 19206Do1,000Dec. 31, 19206Do1,000Apr. 30, 19216Jan. 1, 1919$1,000Aug. 30, 19216Do1,000Dec. 31, 19216Do1,000Apr. 30, 19226Do1,000Aug. 30, 19226Do1,000Dec. 31, 19226Total12,000The notes executed by I. N. Heller and paid in to the corporation were as follows: Date.Amount.Payable.Interest.Per centAug. 1, 1919$1,000Oct. 31, 19196Do1,000Dec. 31, 19196Do1,000Apr. 30, 19206Do1,000Aug. 31, 19206Do1,000Dec. 31, 19206Aug. 1, 1919$1,000Apr. 30, 19216Do1,000Aug. 31, 19216Total7,0002303 733 During the years 1919, 1920, 1921, and 1922 the notes due for these years were charged to the personal accounts of L. C. Heller and I. N. Heller, and any unpaid salary outstanding at the close of the year was credited in these accounts. DECISION. The determination of the Commissioner is approved. OPINION. JAMES: The taxpayer relies upon the , in its claim for invested capital on account of notes alleged to have been paid in as an assessment upon the common stock of the taxpayer and virtually in payment thereof. The facts in the , were that Hewitt actually delivered his note for $1,000,000 for $1,000,000 par value of the stock of the company; that within a year the entire $1,000,000 was paid as the requirements of the corporation for funds dictated and that at all times Hewitt was fully able to meet an instant demand upon him for the entire amount of the notes. These facts were stressed in the opinion as indicating the complete Bona fides of the transaction both from the standpoint of the actual payment in of property and from the standpoint of2304 placing a real and valuable asset in the hands of the corporation for its use. The testimony of L. C. Heller, offered as a witness on behalf of the taxpayer, presents quite a different picture in this appeal. After direct and cross examination the following examination took place on the part of the Board: Mr. LANSDON: Was any use ever made of these notes? Did you just take them in on this assessment and put them in your safe, or what did you do with them while they were in the possession of your company? You are setting up a claim here that they should be included in your invested capital. Invested capital is something that is used in the prosecution of the business. The WITNESS: Yes, sir. Mr. LANSDON: Were these notes used in any way? The WITNESS: No, sir, they were not used, for the simple reason that at that time it was not necessary to discount them or make use of them until the due dates. Mr. LANSDON: They never were paid; that is, no cash payments were ever made on them. When they fell due they were simply cancelled and the amount 734 of each note was charged then to the book account of the person who gave the note, as I understand it. The WITNESS: 2305 Yes, sir. Mr. LANSDON: Let me ask you a question. I want to know what these credits were charged against. You say they were charged against the personal accounts of the persons who had given the notes. They resulted at the end of the period in what kind of a balance as to these personal accounts? After the notes were cancelled and charged to the personal account, the individual then owed on the personal account what he had theretofore owed on notes, did he? The WITNESS: He had paid the interest. Mr. LANSDON: I suppose he paid interest on the notes, and was he not charged interest on the personal account after the note was transferred to the personal account? The WITNESS: Yes, sir. Mr. LANSDON: The personal accounts have never been paid, they are still on the books, are they? The WITNESS: The personal accounts are still on the books, yes, sir. Considerable testimony was taken as to the financial standing of the parties who were the makers of the notes in question. The testimony so given only strengthens the general impression that the notes were not given in good faith in payment either of the stock or of an assessment constituting a paid-in surplus. The Board*2306 is not disposed to extend what it believes to be the sound rule indicated in the , to cases generally involving indebtedness of stockholders to corporations on account of their stock. Only transactions clearly evidencing good faith may be so recognized. ARUNDELL not participating.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619767/	Mabel M. Blackett v. Commissioner.Blackett v. CommissionerDocket No. 25689.United States Tax Court1951 Tax Ct. Memo LEXIS 91; 10 T.C.M. (CCH) 949; T.C.M. (RIA) 51282; September 28, 195191 Preston D. Orem, Esq., 756 S. Broadway, Los Angeles 14, Calif., for the petitioner. H. A. Melville, Esq., for the respondent. JOHNSON Memorandum Opinion JOHNSON, Judge: Respondent has determined a deficiency in income tax for the calendar year 1945 in the amount of $4,753.96. The sole question for determination is whether respondent erred in disallowing as an ordinary and necessary business expense petitioner's community half of the total sum of $11,242.65 expended by her and her husband for the acquisition of a renewable on-sale liquor license. All of the facts were stipulated and are so found. [The Facts] At all times during the calendar year 1945, Mabel M. Blackett, the petitioner, and John R. Blackett, were husband and wife, residents of San Diego, California, and all taxable income of the husband and wife was community income under the laws of the State of California. Petitioner and her husband each filed separate income tax returns for the calendar year 1945 with the collector of internal revenue for the sixth district of California. During January, 1945, John R. Blackett and petitioner bought "Tony's Bar" in San Diego, California, paying $9,608.6592 for the good will and $11,242.65 for the transfer of a renewable on-sale general liquor license granted by the Board of Equalization of the State of California for the calendar year 1945, and expiring on December 31, 1945. The amount of $11,242.65 was debited to "Prepaid Licenses" by journal entries dated January 31, 1945. The annual fee which the seller of Tony's Bar had paid to the Board of Equalization for the liquor license for the year ended December 31, 1945, was $525. John R. Blackett and petitioner, on their income tax returns for 1945, made no claim for the amortization of the $9,608.65 paid for good will, but they did claim an expense deduction for the amortization during 1945 of the entire amount of $11,242.65 paid for the liquor license. The Commissioner disallowed this claimed deduction and the allegation that he erred in doing so presents the only issue involved in this case. [Opinion] On-sale liquor licenses are limited by the State of California to not more than one for each 1,000 inhabitants of each county, and because of this limitation persons wishing to engage in the business of selling alcoholic beverages for consumption on the premises were willing to*93 pay a premium in order to acquire such a license from a licensee. John R. Blackett and petitioner acquired nothing in return for the $11,242.65 which they paid to the seller in 1945, except an on-sale liquor license for the calendar year 1945, together with the privilege of applying for a renewal of the license each calendar year thereafter. The $11,242.65 which petitioner and her husband expended in the acquisition of a renewable on-sale general liquor license was a capital expenditure for an asset having an indeterminate useful life beyond the taxable year. We have here the identical question passed adversely to petitioner's contention in Morris Nachman, 12 T.C. 1204">12 T.C. 1204 (on appeal, C.A., 5th Cir.). Cf. Tube Bar, Inc., 15 T.C. 922">15 T.C. 922. We adhere to our holding in that case and accordingly hold, as we have found, that the $11,242.65 which petitioner and her husband expended in the acquisition of a renewable on-sale general liquor license was a capital expenditure for an asset having an indeterminate useful life beyond the taxable year and was not deductible in 1945. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619733/	Estate of Michael Samuels, Deceased, Sam Samuels, Executor v. Commissioner. Sam Samuels v. Commissioner. Isadore Samuels v. Commissioner.Estate of Michael Samuels v. CommissionerDocket Nos. 21688, 21689, 21690.United States Tax Court1950 Tax Ct. Memo LEXIS 249; 9 T.C.M. (CCH) 196; T.C.M. (RIA) 50063; March 14, 1950249 Frederick E. Weinberg, Esq., for the petitioners. William F. Evans, Esq., for the respondent. VAN FOSSAN Memorandum Opinion VAN FOSSAN, Judge: The respondent determined deficiencies in income tax and penalties for the year 1944, as follows: Docket No.NameDeficiency50% Penalty21688Estate of Michael Samuels$1,099.29$4,049.6521689Sam Samuels1,052.144,026.0721690Isadore Samuels1,052.134,026.07The deficiencies originally determined were in larger amounts than those above stated, whereupon petitioners each paid $7,000 on account of such deficiencies to stop the running of interest. The net deficiencies and penalties finally determined are shown above. The penalties represent 50 per cent addition to the tax as originally found by the respondent. Petitioners complain of two alleged errors: (1) the addition to income of each petitioner of $5,500 representing one-third of $16,500, alleged purchases of a partnership known as the Empress Undergarment Company, of which the three men were members, and which purchases were disallowed for lack of substantiation, and (2), the finding of fraud. Petitioners admit that respondent250 correctly determined that the sales of Empress Undergarment Company were understated in the amount of $17,418.61, resulting in an understatement of income of each petitioner of one-third of such amount. As to this item, petitioners plead as a defense against the finding of fraud that the accountant who prepared their returns was incorrectly informed as to the amount of accounts receivable at the opening of the taxable period. Petitioners claim that the item of $16,500, alleged purchases, the disallowance of which, for lack of substantiation, resulted in an understatement of income, is proven by the record. We disagree. Petitioners' entire defense against the finding on this item is that it represented cash purchases made in the black market by the deceased member of the partnership and that - "* * * substantiation was unavailable to these petitioners. Since the sellers of the merchandise had been engaged in violating the law (which was, in fact, the very reason why they had insisted upon payment in cash in the first place), they could hardly be expected to come forward with testimony. Nor, for obvious reasons, were petitioners in a position to 'finger' them for the purposes of251 this controversy, even if they were willing to do so." * The record in these cases is marked by a welter of words and a paucity of proof. The evidence adduced fails utterly to prove that respondent erred. E contra, if it proves anything, it justifies his finding of the deficiencies. We approve the deficiencies for failure of proof of error. To establish fraud on the part of a taxpayer, it is necessary to prove by clear and convincing evidence an intent on the part of such taxpayer to defraud the Government by filing a false return. Although intent is a state of mind, it is nevertheless a fact to be proven, as other facts are proven. It may appear from certain overt acts, or from a course of conduct calculated to deceive. If, after the hearing of a case, there exists in the mind of the trier thereof a clearly defined conviction that fraud has been proven, it is his duty in such premises to find fraud. In the instant case we are fully convinced that the taxpayers deliberately, and with a fraudulent intent, understated their income in their tax returns for 1944 and that this was done for the purpose of evading their just taxes due the Government. We sustain the Commissioner's252 finding of fraud in all three cases. ; ; affirmed . The charge of fraud persists despite the decease of Michael Samuels, and is enforceable against his estate. ; affirmed (CA-1) (February 2, 1950); and ; affirmed (CA-6) (February 17, 1950). The amount of fraud penalty is not reduced by the fact that after filing false and fraudulent returns the taxpayers paid part of the deficiency originally determined by respondent. The penalty attaches to the entire deficiency. , and . Decisions will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619734/	The Columbia Title Insurance Company, Petitioner, v. Commissioner of Internal Revenue, Respondent. The Real Estate Title Insurance Company, Petitioner, v. Commissioner of Internal Revenue, RespondentColumbia Title Ins. Co. v. CommissionerDocket Nos. 2211, 2212United States Tax Court3 T.C. 1099; 1944 U.S. Tax Ct. LEXIS 89; July 17, 1944, Promulgated 89 Decision will be entered for the respondent. A corporation the stated purpose of which is to insure titles, but the income of which is less than half derived from title insurance, the operating income being more than half derived from the issuance of certificates of title "according to the record," held not an insurance company within section 204, Internal Revenue Code. Louis M. Denit, Esq., for the petitioners.Philip A. Bayer, Esq., for the respondent. Sternhagen, Judge. STERNHAGEN 1099 The Commissioner determined deficiencies of $ 431.94 and $ 498.29 in income taxes for the fiscal year ended November 30, 1940, holding 1100 that petitioners were not entitled to file returns as insurance companies under section 204, Internal Revenue Code.FINDINGS OF FACT.The petitioners are corporations organized under the General Incorporation Law of the District of Columbia. The Real Estate Title Insurance Co. was incorporated December 6, 1881, and the Columbia Title Insurance Co. on February 2, 1887. The object of each is stated in its certificate of incorporation to be "to insure titles to real estate situate in the District of Columbia, and generally to transact90 and perform all business relating to said object." They have operated under joint responsibility since March 1902.Their business consists, among other things, of issuing certificates of title and title policies or policies of title insurance. They maintain a settlement department for closing transactions involving titles of real estate, sales, exchanges, and loans. They make different charges for certificates of title and for title insurance policies. The charges for a title insurance policy are in addition to regular certificate rates. Other charges are made for settlements, noting, identifications, preparing deeds, preparing releases, preparing trusts, and running down construction loans.The gross income for 1940 was as follows:Real Estate Co.Columbia Co.Certificates of title and titleinsurance policies (at least50% of this amount was derivedfrom cases in whichonly certificates of titlewere issued)$ 72,739.08$ 72,739.08Conveyancing$ 10,305.00$ 10,305.00Noting607.50607.50Settlements10,787.5010,787.50Identification of notes387.25387.2522,087.2522,087.2594,826.3394,826.33Income from investments14,609.5112,711.93Total109,435.84107,538.2691 OPINION.In their income tax returns for the fiscal year ended November 30, 1940, the petitioners for the first time claimed to be insurance companies within the purview of section 204, Internal Revenue Code. Since 1902 they have operated jointly and the operating income of each for 1940 was the same. They contend that since 76.6 percent ($ 72,739.08) of the operating income ($ 94,826.33) was derived from the operation of the title insurance business they must be recognized as insurance companies under the statute. Because at least one-half of the $ 72,739.08 operating income was derived from 1101 the issuance of only certificates of title, the Commissioner denied the statutory classification, holding that only 38.3 percent of petitioners' operating income, or one-third of their total income, was derived from insurance. If insurance was not petitioners' principal business, they were not entitled under section 204 to file returns as insurance companies. Bowers v. Lawyers' Mortgage Co., 285 U.S. 182">285 U.S. 182; National Commercial Title & Mtg. Guar. Co. v. Duffy, 132 Fed. (2d) 86; Empire Title & Guarantee Co. v. United States, 101 Fed. (2d) 69;92 Lincoln Mortgage & Title Guaranty Co. v. Commissioner, 79 Fed. (2d) 585; Dallas Title & Guaranty Co., 40 B. T. A. 1022.The petitioners contend that the certificates of title which they issue are insurance contracts.The title policy of petitioners provides in part that they "Do Hereby Covenant to forever insure, warrant, guarantee and defend * * title to the real estate described * * * from and against any and every claim, lien, incumbrance or defect whatsoever * * * and to pay * * * the amount of all loss, cost and damages suffered or sustained thereby." In the certificate of title they "do hereby certify * * * that according to the record the title * * * is, at the date hereof, good in fee simple." In some of the certificates of title the liability was expressly limited to a stated amount.That the "title policy" is an insurance contract there can be no doubt; but in our opinion, the certificate of title is not. In Couch's Cyclopedia of Insurance Law title guaranty insurance is defined as a contract (sec. 49):whereby one agrees for a consideration to protect another's title to real estate. More specifically93 it insures against all loss or damage, not in excess of a specified sum, which assured may sustain by reason of existing defects in or unmarketableness of title to a described estate, mortgage, or interest, or because of leases and encumbrances changing the same, as of the date of the policy, or by reason of defects in the title of a mortgagor to the mortgaged estate, or mortgaged interest. A contract guaranteeing a title is one of insurance rather than of suretyship, so that it is governed for purposes of construction by the rules applicable to other insurance contracts. And although a contract of title insurance is much in the nature of a covenant of warranty, or a covenant against encumbrances, it is in fact essentially and solely a contract of indemnity, and not a wagering policy, or even an expression of opinion backed by a forfeiture, it being well established that it is a contract of indemnity.and as a contract (sec. 1228):of insurance and of indemnity, the sole object and purpose of which is to cover possibilities of loss through defects that may cloud or invalidate titles; that is, to protect or save insured harmless from loss consequent upon defects, liens, or encumbrances94 that may burden his title when it is taken.The word "certify" does not mean to insure or to guarantee. It means "to give certain information of," "to verify," "to attest authoritatively," 1102 and "to testify to in writing." Webster's New International Dictionary (2d Ed.) 1940.The certificate of title contains no covenant or agreement of insurance, warranty, guaranty, or defense of title; it contains no agreement of indemnity. It is merely a report and opinion as to the title as shown by the records. On the other hand, a title policy is a declaration of opinion of the issuer, "backed by an agreement to make that opinion good, in case it should prove to be mistaken, and loss should result in consequence to the insured." Foehrenbach v. German-American Title & Trust Co., 217 Pa. 331">217 Pa. 331; 66 Atl. 561. A company which certifies title is not a guarantor of title and is liable only as an attorney would be for negligence or want of skill. Such liability may be limited by agreement. Glyn v. Title Guarantee & Trust Co., 117 N. Y. Supp. 424; Bridgeport Airport v. Title Guaranty & Trust Co., 111 Conn. 537">111 Conn. 537;95 150 Atl. 509.None of the cases cited by the petitioners supports their contention that the certificate of title issued by them is an insurance contract. Purcell v. Land Title Guarantee Co., 94 Mo. App. 5">94 Mo. App. 5; 67 S.W. 726">67 S. W. 726, was an action on a policy of title insurance. The title company not only guaranteed the correctness of the certificate, but also guaranteed the title. The following is from the opinion:The principal contention upon the part of the defendant is that the writing in suit is not a guaranty of title, -- only a guaranty of the correctness of the certificate. This contention is based upon the following recitation in the certificate, viz.: "And the said Land Title Guarantee Company, for the consideration of forty dollars, makes this certificate to John Purcell and Pierce Beresford, their heirs and assigns, and guaranties the same to be correct." Standing alone, there could be no construction put upon it, other than that it was merely a guaranty of the correctness of the certificate, for that is its plain meaning. It would not be a debatable point. * * * In the next clause of said96 writing, among other things, we find the following language: "Said guarantor shall not be liable for damages beyond five thousand dollars, and shall at its own cost defend said guaranties, and heirs and assigns, in every suit or proceeding on any claim against or right to said land, or any part thereof, adverse to the title hereby guarantied," etc. [Italics ours.] If the defendant was only contracting for the correctness of the certificate, wherein the rule of damages would be very different from that in a case of guaranty of title, why was it deemed necessary to insert a provision in the contract guarding the rights of the defendant so closely as to require of plaintiffs, if any proceedings were instituted, or claim against or right to the land, to give it written notice, in order that it might protect its interest to be affected by said proceedings, or such claim adverse to the title guarantied? And the language used, "adverse to the title hereby guarantied," seems to be just as explicit as that in the former clause, wherein the correctness of the certificate is guarantied. And further it is provided that if loss is occasioned by any proceedings, or claim or right97 established against the property, "if less than the whole of the land, then the liability of the guarantor," shall be proportionate. Thus not only is there a provision guarding the rights of the defendant in case of proceedings against the property, or claims or rights asserted against it, but a rule is provided by which the extent of the defendant's liability is to be ascertained 1103 in case of loss. And the succeeding clause provides that, "if the guarantor shall at any time pay any claim under this certificate and guaranty," it shall be subrogated to all the rights of the guarantee, and shall be entitled to an assignment of all such rights. If the defendant's undertaking was only as to the correctness of the certificate, it would not have to answer for loss occasioned by any proceedings against the property, or by reason of the assertion of any claim or right against it, in which event the said two last clauses of the instrument would be wholly unnecessary as a part of the same. Further, what meaning are we to attach to the words, "adverse to the title hereby guarantied," except what they plainly import -- that the defendant was a guarantor of the plaintiffs' title? 98 There are no other words used in the entire instrument that are in the least in conflict with them, or the meaning attached to them. The fact that the defendant in the first instance guarantied the correctness of the certificate is in no sense inconsistent with a guaranty of title also. In fact a certificate of title is in effect only a corollary of a guaranty of title. It seems to us that the writing, looking at it as a whole, in all its provisions, should be construed as a guaranty of title.Obviously that case is distinguishable upon the facts, for the instant petitioners' certificate of title contains no guaranty of title and no agreement to answer for any loss.Title Ins. & Trust Co. v. City of Los Angeles, 61 Cal. App. 232">61 Cal. App. 232; 214 Pac. 667, is also distinguishable. In that case it was held that a city license tax upon the business of issuing certificates of title which did not insure was not applicable to a corporation issuing certificates guaranteeing the title as it appeared from the record. After defining title insurance as "an agreement whereby the insurer, for a valuable consideration, agrees to indemnify99 the insured in a specific amount against loss through defects of title to real estate," and quoting from the California Civil Code, section 2527: "Insurance is a contract whereby one undertakes to indemnify another against loss, damage, or liability, arising from an unknown or contingent event," the court held that the title company's guaranty certificate was an insurance contract and not a mere contract for an opinion after search of the record.United States v. Home Title Ins. Co., 285 U.S. 191">285 U.S. 191, was a case in which the title company issued two kinds of guaranty contracts, and it was held that the issuance of contracts in which the company guaranteed the payment of mortgage loans did not require a decision that the company was not an insurance company. The question whether the issuance of certificates of title was the business of insurance was not touched upon. The case of Dallas Title & Guaranty Co., 40 B. T. A. 1022, is also not helpful. It was stipulated that the company was engaged in the title insurance business, 65 percent of its gross income being premiums. Since insurance was the company's principal business, 100 it was held to be within the statutory classification of insurance company. Whether or to what extent the company issued certificates of title without guaranty does not appear and was not discussed.*1104 Although there are two types of title insurance, one being a guaranty limited to the record title and the other an absolute guaranty, the certificate of title issued by petitioners carries no guaranty whatever and does not fall within either class.Since the certificate of title issued by petitioners is not an insurance contract and most of their business is not insurance, they are not entitled to make returns as insurance companies under section 204, Internal Revenue Code.The determination of the respondent is sustained.Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619735/	ROBERT W. BRADFORD, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentBradford v. CommissionerDocket Nos. 12973-80, 12974-80.United States Tax CourtT.C. Memo 1984-601; 1984 Tax Ct. Memo LEXIS 75; 49 T.C.M. (CCH) 105; T.C.M. (RIA) 84601; November 19, 1984. Robert W. Bradford, pro se. Gerald J. Beaudoin, for the respondent. GOFFE MEMORANDUM FINDINGS76 OF FACT AND OPINION GOFFE, Judge: The Commissioner determined deficiencies in petitioner's Federal income tax and additions to tax as follows: Additions to TaxYearDeficiency6653(b) 166541973$14,020$7,0101974174,74187,371$5,5721975212,579106,2909,1791976185,73292,8666,915197757,81328,90721,058After concessions by the parties, the issues for decision are: (1) the amount of income petitioner failed to report with respect to his laetrile distribution activities during the years in issue; and (2) Whether petitioner is liable for the additions to tax sought by respondent. FINDINGS OF FACT Some of the facts have been stipulated. The stipulation of facts and accompanying exhibits are so found and incorporated herein by reference. Petitioner resided in Redwood City, California, when he filed his petitions. Petitioner was employed at the Stanford Linear Accelerator Center of Stanford77 University in Stanford, California, as an engineer for the taxable years 1973, 1974, 1975 and 1976. Petitioner joined Stanford University in 1966 as a full staff member after receiving an honorary degree in engineering based largely upon practical experience obtained in the armed forces and private sector employment. While associated with Stanford University, petitioner published several papers pertaining to engineering physics and obtained several patents in the areas of plasma physics and pulse modulator circuits. Later, in conjunction with his work at Stanford University, petitioner entered the medical electronics field and was part of the team which developed the first linear accelerator for the treatment of human cancer at the Stanford Medical Center. In 1972, petitioner was asked to review a report written by two Stanford University physicians supporting the California Department of Health's ban on laetrile. 2 Until various court decisions in the mid-1970's, discussed hereafter, infra note 4, the Food and Drug Administration (hereinafter referred to as the "FDA") also banned the importation of laetrile into the United States because its medical use had not78 been approved. Laetrile is derived from apricot pits and bitter almonds and is believed by many to be useful in the treatment of cancer. The medical community is divided concerning its therapeutic abilities. Cancer patients either ingest laetrile tablets or inject it intraperitoneally, intramuscularly or intravenously. Although, in 1972, petitioner had not formed an opinion concerning the efficacy of laetrile as a cancer treatment, he published a paper strongly criticizing the report prepared by the Stanford University physicians as a poor piece of research. In the following months, petitioner became convinced that laetrile possessed some therapeutic value in the treatment of cancer. 3 When an Albany, California, physician was arrested in 1972 for dispensing laetrile to his patients, petitioner met with the physician to offer research assistance and political79 support and to help him raise funds for his legal defense. In July 1972, petitioner and several other individuals in the Los Altos, California, area formed the Committee for Freedom of Choice in Cancer Therapy, Incorporated (hereinafter referred to as the "Committee"), to raise funds for the Albany, California, physician's legal defense. Petitioner was President of the Committee. The Committee's activities later expanded to include a vast informational network concerning the efficacy of laetrile as a cancer treatment. The Committee generally believed that various groups in the United States including major pharmaceutical companies, the American Medical Association, the American Cancer Society and the FDA had vested interests in traditional cancer therapies, i.e., chemotherapy, radiation and surgery. According to Committee members, these groups unjustly suppressed the use of laetrile as an effective and relatively cheap alternative cancer therapy; hence, Committee members characterized80 this deception "Cancergate" in reference to the infamous political intrigues of the early 1970's. During the years in issue, the Committee published the monthly periodical "Choice," produced a movie, issued literature, assisted in the publication of several books and conducted numerous well-attended symposiums throughout the United States. The Committee's informational activities were addressed to both the medical community and lay persons. Petitioner usually attended the Committee's seminars and frequently made presentations or acted as the master of ceremonies. At the end of these symposiums, announcements were usually made indicating that the speakers would discuss with interested individuals how they might obtain laetrile. The Committee gave out individuals' names for further information on laetrile. The Committee did not, however, actively participate in the distribution of laetrile to interested persons, although several Committee members (including petitioner) subsequently formed and operated a huge laetrile distribution system in their individual capacity. By early 1973, the Committee refocused its energies away from its public education program to a national political81 movement whose goal was the legalization of laetrile.Although the Committee continued its public education activities, it now held strategy sessions and organizational meetings to garner support for its legalization efforts which were to be conducted on a state-by-state basis. In mid-1973, the Committee learned that several American physicians whose patients were taking laetrile were encountering increased difficulty in obtaining the necessary laetrile. Petitioner traveled to Mexico, a leading source of this material, to further investigate the matter. He eventually located a major laetrile factory which had ample supplies of the product. Soon thereafter, petitioner decided to begin smuggling laetrile into the United States from Mexico for distribution to sympathetic physicians. The decision to distribute the laetrile only to physicians was based upon a conscious effort to enlist the support of the established medical community which petitioner felt was essential for the achievement of the Committee's legalization goal. In 1973, petitioner approached Frank Salaman, a local businessman who was also sympathetic to the Committee's cause and later became vice president82 of the Committee, for assistance in his laetrile smuggling endeavors. A partnership was formed whereby Mr. Salaman would help petitioner fund and administer their importation activities and they agreed to divide the profits equally. An elaborate distribution system was soon established involving "mules," i.e., individuals hired to carry the contraband across the borders, and regional distributors who would purchase the laetrile and resell it to physicians. This smuggling operation eventually expanded to supply approximately 1,200 physicians with laetrile. Most of the partnership's transactions were made with cash in accordance with the parties' desires. In response to increased laetrile smuggling into the United States from Mexico, the U.S. Customs Service formed a task force in 1975. Petitioner's name surfaced frequently in this investigation. In December 1975, an informant alerted authorities to a shipment of $3,900 vials of laetrile which were to be smuggled across the border near San Ysidro, California. Customs officials permitted the laetrile to enter the United States on December 19, 1975, and kept this shipment under surveillance. On December 20, 1975, petitioner83 and two other individuals rendezvoused with this shipment in Gilroy, California, and took possession of the laetrile. As Customs agents followed petitioner and the laetrile, he fled and a high-speed chase ensued. Eventually, petitioner's automobile was stopped and he was arrested. A search of petitioner's automobile revealed: 3,900 vials of laetrile; numerous books and records relating to laetrile transactions for the taxable years in issue and a loaded nine-millimeter pistol with additional ammunition. The agents also seized approximately $12,000 from petitioner and $17,000 from another occupant of the car. Despite his arrest on laetrile smuggling charges, petitioner continued to illegally import laetrile during 1976 while awaiting trial. At the same time, several terminally ill cancer victims throughout the United States instituted suit against the FDA challenging its ban on the use of laetrile as a cancer treatment. The results of these suits were generally mixed and limited to the specific plaintiffs until April 1977 when Judge Bohanon of the U.S. District Court for the Western District of Oklahoma 4 issued a class action order enjoining the FDA and other governmental84 agencies from impeding or preventing the importation and subsequent interstate transportation of laetrile to any terminally ill cancer victim for his own personal use provided a practicing physician submitted an appropriate affidavit. Thereafter, pursuant to this affidavit procedure, laetrile could be legally imported and distributed to terminally ill cancer victims. In early 1977, petitioner, Frank Salaman and two other individuals (including the Albany, California, physician whose arrest prompted the formation of the Committee) were tried in U.S. District Court for the Southern District of California on various laetrile smuggling charges.5 After a lengthy trial, all were convicted of conspiracy and smuggling charges. Petitioner was fined $40,000 and received three years probation. The remaining defendants also were fined and placed on probation. In addition to the U.S. Customs Service's task force investigation of petitioner's laetrile smuggling activities, the FDA was apprised of petitioner's involvement in similar matters by mid-1976 as the85 result of other independent investigations. Thereafter, petitioner and other individuals in his organization were kept under surveillance as the FDA began to trace their laetrile shipments.In a later effort to document these laetrile shipments, the FDA began to intercept these goods when they were delivered to common carriers for shipment. In accordance with the appropriate procedures, FDA investigators opened these shipments; examined, photographed and inventoried the contents; repackaged the goods and allowed them to continue toward their destination. This interception program began in January 1977 and continued until July of that year. During this time period, the FDA inspected approximately 25 percent of the partnership's total laetrile shipments. The vast majority of these intercepted shipments originated from Frank Salaman's home or one of his businesses. Finally, the FDA supplemented its investigation of this particular smugggling enterprise by removing discarded documents from trash receptacles at the Committee's headquarters and Frank Salaman's residence. In May 1977 and in response to the class action order in Rutherford v. United States, No. CIV-75-0218-B, 86 petitioner and Frank Salaman formed Cyto Pharma, U.S.A., a California corporation based in Los Altos, California, to legally import laetrile for distribution to physicians participating in the affidavit program. They posted the necessary import bonds with the U.S. Customs Service. The corporation filed a Federal corporate income tax return for the taxable year 1977 reporting gross sales of $673,362 over a seven-month period. Yet, before the close of this calendar year, petitioner established that Frank Salaman was still smuggling laetrile into the United States outside of the affidavit program and selling directly to cancer victims. Petitioner believed such activities would jeopardize both the importation bond they had posted and their current probation; hence, he forced Salaman to terminate his participation in Cyto Pharma, U.S.A. Petitioner later accused Salaman of embezzling approximately $50,000 from the firm and filed suit to recover same. After these incidents, all relationships between these individuals were severed. During the years in issue, petitioner and Frank Salaman's laetrile distribution partnership had the following gross receipts, cost of goods sold and net87 profits: GrossCostofNetYearReceiptsGoods SoldProfits1973$166,809$155,916$50,8931974590,833308,707282,1261975600,747291,210309,53719763,436,5971,813,4921,623,1051977852,440449,833402,607During the years in issue, petitioner used a portion of his distributive share of these partnership profits for various Committee expenses. Petitioner did not maintain books and records of such expenditures. During the taxable years 1974, 1975 and 1976, petitioner received the following wages from the Stanford Linear Accelerator Center: YearAmount1974$18,88419757,34819761,229During 1975, petitioner sold his Hawthorne Avenue residence and did not purchase another residence within 18 months of the sale. On January 9, 1974, petitioner submitted a Form W-4, "Employees Withholding Exemption Certificate" to his employer, Stanford Linear Accelerator Center, claiming 22 exemptions. On January 9, 1975, he submitted another Form W-4 to this employer claiming 30 exemptions. Petitioner timely filed a Federal individual income tax return for the taxable year 1973. On said88 return, he correctly reported all of the wages he received from Stanford Linear Accelerator Center but did not report any income or expenses from his laetrile distribution activities. For the taxable years 1974, 1975, 1976 and 1977, petitioner did not file any Federal individual income tax returns. Petitioner knew he was required to file Federal individual income tax returns for the taxable years 1974, 1975, 1976 and 1977 and was advised by his attorney to file returns for these taxable years. Petitioner had filed Federal individual income tax returns for the previous 26 taxable years. Finally, petitioner failed to cooperate with agents of respondent in their attempt to determine his taxable income for the years in issue. In a notice of deficiency (the date of which does not appear in the record) pertaining to the taxable year 1973, the Commissioner determined that petitioner was engaged in the trade or business of distributing laetrile and related products. The Commissioner also determined that during this taxable year, this business had gross receipts of $166,809, cost of goods sold of $155,916 and a resulting net profit of $50,893. Based upon these calculations, the Commissioner89 determined a deficiency in petitioner's 1973 Federal income tax in the amount of $14,020 and also determined that the imposition of a civil tax fraud addition to tax pursuant to section 6653(b) in the amount of $7,010 was warranted. In a notice of deficiency dated April 15, 1980, the Commissioner again determined that petitioner was engaged in the trade or business of distributing laetrile and related products during the taxable years 1974, 1975, 1976 and 1977. With respect to these taxable years, the Commissioner made the following determinations of gross receipts, cost of goods sold and net profits for the years in which petitioner failed to file returns: GrossCost ofNetYearReceiptsGoods SoldProfits1974$590,833$308,707$282,1261975600,747291,210309,5371976614,169324,092290,0771977228,860120,769108,091In making these determinations, the Commissioner attributed all of the net profits from the laetrile distribution business that both petitioner and Frank Salaman were engaged in only to petitioner. As of the date of trial, the Commissioner had not determined any deficiencies in income with respect to90 Frank Salaman and his laetrile distribution activities. The Commissioner also determined that the imposition of additions to tax for civil tax fraud and failure to pay estimated taxes pursuant to sections 6653(b) and 6654, respectively, was warranted.The Commissioner's determinations in his April 15, 1980, notice of deficiency resulted in the following deficiencies and additions to tax: Additions to TaxYearDeficiency6653(b)66541974$174,741$87,371$5,5721975212,579106,2909,1791976185,73292,8666,915197757,81328,90721,058Total630,865315,43423,724In his opening statement at trial, respondent announced his intention to seek increased deficiencies and additions to tax for the taxable years 1976 and 1977 resulting from petitioner's stipulation that he was in the laetrile distribution business for these entire taxable years. Immediately after trial, respondent filed a Motion for Leave to File Amendment to Answer to Conform Pleadings to Proof and an amendment to his answer on August 23, 1983, seeking increased deficiencies and additions to tax. In the amendment to his answer, respondent alleged that91 petitioner had the following new total gross receipts, cost of goods sold and net profits for the taxable years 1976 and 1977: GrossCost ofNetYearReceiptsGoods SoldProfits1976$3,436,597$1,813,492$1,623,1051977852,440449,833402,607The alleged increased net profits result in the following new total deficiencies and additions to tax for the taxable years 1976 and 1977: Additions to TaxYearDeficiency6653(b)66541976$1,119,002$559,501$41,6251977263,974131,9879,382On September 6, 1983, we granted respondent's motion to amend his answer to conform with the proof presented at trial. Petitioner specifically denied the allegations set forth in respondent's amended answer in his amended reply. On July 2, 1984, respondent notified this Court that jeopardy assessments were made against petitioner on June 13, 1984, for the following taxable years and amounts: TaxableAdditions to TaxYearTax6653(b)6654Total1974$ 174,741$ 87,3715,572$ 267,6841975212,579106,2909,179328,04819761,119,934559,50141,6251,721,0601977265,278131,9879,382406,647Totals$1,772,532$885,149$65,758$2,723,43992 In the Notice of Jeopardy Assessment dated June 13, 1984, respondent set forth the following reasons for this action: (1) petitioner's failure to file Federal income tax returns for the taxable years 1974, 1975, 1976 and 1977; (2) petitioner's admission that he was engaged in the illegal importation of laetrile during these taxable years and his extensive cash dealings associated with these activities; (3) the apparent lack of property within the United States in petitioner's name with which to satisfy the deficiencies in tax and additions to tax both determined by the Commissioner and also sought as increased deficiencies; and (4) a belief that petitioner was purchasing substantial amounts of gold, other rare metals, and property outside the United States. OPINION We initially note that pursuant to section 6861(c), we have jurisdiction to redetermine the amount of the deficiencies and additions to tax already assessed by the Commissioner pursuant to the jeopardy assessment provisions. For organizational purposes, we will discuss the income and addition to tax issues separately. Issue 1. IncomeThe first issue for decision is the amount of income93 petitioner failed to report with respect to his laetrile distribution activities during the years in issue. In the notices of deficiency mailed to petitioner, the Commissioner determined that petitioner failed to report the following amounts of laetrile distribution income: YearAmount1973$50,8931974282,1261975309,5371976290,0771977108,091At trial, it was established that, for the years in issue, respondent has attributed all of the laetrile distribution income resulting from the operation petitioner was associated with (exclusive of the activities of Cyto Pharma, U.S.A.) to petitioner; no other individual or entity was alleged to have laetrile distribution income. The Commissioner's determinations are presumptively correct, Welch v. Helvering,290 U.S. 111">290 U.S. 111, 115 (1933), and petitioner bears the burden of proving them to be erroneous. Rule 142(a). At the commencement of trial, respondent announced his intention to seek increased deficiencies for the taxable years 1976 and 1977 as the result of additional laetrile distribution94 income that petitioner allegedly received. After trial, we granted respondent's motion to amend his answer to conform with the proof presented at trial and respondent now contends that petitioner failed to report the following new total amounts of income from his laetrile distribution activities for the following years: YearAmount1976$1,623,1051977402,607With respect to these taxable years, respondent bears the burden of proving that petitioner had any laetrile distribution income in excess of the amounts set forth in the notice of deficiency. Rule 142(a). Petitioner freely admitted that he was engaged in the business of distributing laetrile for the years in issue. He, however, vehemently disagrees with the Commissioner's determinations in several respects. First, petitioner contends that a partnership existed between Frank Salaman and himself with respect to their laetrile distribution activities and any profits resulting therefrom were divided equally. Second, petitioner asserts that his resultant share of these partnership profits were greatly overstated in the Commissioner's determinations and this was largely due to the Commissioner's95 failure to allow numerous offsets for expenses incurred with respect to Committee activities as they traveled across the United States promoting the efficacy of laetrile. Further, with respect to the gross amounts of unreported laetrile distribution income, petitioner, citing Helvering v. Taylor,293 U.S. 507">293 U.S. 507 (1935), and other cases, contends that he has clearly shown the Commissioner's determinations to be erroneous; hence, such determinations lack their traditional presumption of correctness. In support of this latter argument, petitioner relies heavily on: (1) various alleged defects in respondent's proof supporting the determinations; (2) his own testimony concerning his laetrile distribution activities; and (3) the testimony and books and records reconstruction of Beverly Newkirk, a former Committee member. Respondent initially contends that the record clearly supports his determination that any and all profits resulting from the laetrile distribution activities engaged in by petitioner are attributable solely to petitioner. He further asserts that while his revenue agents gave petitioner the benefit of the doubt with respect to any business expenses96 when they reconstructed his books and records for the years in issue, petitioner is not entitled to any additional business expense offsets due to lack of substantiation. Finally, respondent contends that the record amply supports both the Commissioner's determinations set forth in the notices of deficiency and the increased deficiencies sought in his amended answer. With respect to the initial question of whether petitioner's laetrile distribution activities were conducted in equal partnership with Frank Salaman, we note that under California law, a partnership need not be evidenced by writing. Calada Materials Co. v. Collins,184 Cal. App. 2d 250">184 Cal. App. 2d 250, 7 Cal. Rptr. 374">7 Cal. Rptr. 374 (2d Dist. Ct. App. 1960). In resolving this matter, we must discount the testimony of the two alleged partners. After observing the demeanor of these individuals while testifying and examining their testimony in light of the record, we have grave doubts concerning their veracity. We can, however, resolve this issue on the basis of the entire record. Several individuals knowledgeable about petitioner's laetrile97 distribution activities, including David Gill, petitioner's counsel at his laetrile smuggling trial, Beverly Newkirk, a Committee member, and Duane Sincerbox, who was approached by petitioner and Frank Salaman to assist them in their partnership, all corroborated petitioner's partnership claims. Further, the books and records seized incident to petitioner's December 1975 arrest, which respondent relied upon to reconstruct petitioner's income, also indicate numerous and substantial cash distributions to Frank Salaman. Mr. Salaman was unable to satisfactorily explain the bases for such distributions. We, therefore, hold that petitioner has carried his burden of proving that he was in an equal partnership with Frank Salaman with respect to their laetrile distribution activities during the years in issue. Rule 142(a). Accordingly, only 50 percent of the laetrile distribution partnership's net profits are taxable to petitioner for the years in issue. From our holding that petitioner's laetrile distribution activities were conducted in partnership with Frank Salaman, we must now ascertain the partnership's total net profits during the years in issue. As noted earlier, 98 petitioner contends that he has clearly shown the respondent's determinations to be erroneous; hence, they have lost their traditional presumption of correctness. Respondent, in turn, asserts that the record amply supports both the Commissioner's determinations and the increased deficiencies set forth in his amended answer. With respect to the parties' presentations concerning the partnership's net profits during the years in issue, petitioner's proof primarily consisted of reconstructions of the income prepared by Beverly Newkirk, a former Committee member, and the testimony of petitioner. Ms. Newkirk, however, had no accounting background and had never performed similar reconstructions of income. Further, her income analyses were flawed in several major respects due to the reliance upon incorrect assumptions concerning unit costs of laetrile products. Petitioner's testimony was self-serving and we seriously question petitioner's veracity. Respondent's presentation, on the other hand, was as thorough and exhaustive as could be expected under the circumstances.Richard Raker, a U.S. Customs Service employee and Joseph Reader, a revenue agent, painstakingly reconstructed99 the partnership's gross receipts, cost of goods sold and resulting net profits for the taxable years 1973, 1974 and 1975 from the records seized from petitioner incident to his December 1975 arrest. Their conservative analyses, which afforded petitioner every reasonably benefit of the doubt, took months to complete. For the taxable year 1976, Mr. Reader again utilized the partnership's books and records, albeit for a 63-day period at the end of the year, in order to project the laetrile distribution income for the entire year. Finally, for the taxable year 1977, Mr. Reader used the records of the shipments intercepted by the FDA to project laetrile distribution income for the year. It should be pointed out that the Commissioner's initial determination of deficiencies and the increased deficiencies sought in respondent's amended answer are largely based upon partnership books and records, albeit in incomplete set. Further, there is an almost total dearth of supporting receipts for such records due to a partnership decision to conduct this business in cash. Finally, although petitioner was afforded ample opportunity to assist respondent in reconstructing his income for100 the years in issue, he declined to do so. With respect to petitioner's claim that he has shown the Commissioner's determinations to be erroneous, we have held in similar challenges that a tazpayer must prove such determinations to be "arbitrary (i.e., without rational foundation in fact and based upon unsupported assumptions) and excessive" in order to prevail. Gordon v. Commissioner,63 T.C. 51">63 T.C. 51, 73 (1974), supplemental opinion 63 T.C. 501">63 T.C. 501 (1975), affd. on this issue 572 F.2d 193">572 F.2d 193 (9th Cir. 1977). Further, we have held that estimates and projections of income based upon a reasonable review of available information are sufficient to maintain the presumption of correctness for respondent's determinations. Gordon v. Commissioner,supra.After a through review of the record in light of petitioner's claim, we hold that he has not shown any of the Commissioner's determinations to be arbitrary or excessive. In fact, given the amount of information with which respondent's agents had to work with, they did a commendable job of101 reconstructing this covert partnership's laetrile distribution income for the years in issue. The underlying assumptions utilized by respondent's agents in their calculations were inherently reasonable. Further, even petitioner's legal counsel for his criminal smuggling trial generally agreed with respondent's computations. Finally, respondent's refusal to allow expense deductions does not render the determinations excessive or unreasonable in cases when no records or other credible substantiation of such expenses is offered. Estate of Mason v. Commissioner,64 T.C. 651">64 T.C. 651 (1975), affd. per order 566 F.2d 2">566 F.2d 2 (6th Cir. 1977). After rejecting petitioner's contentions that he had shown the Commissioner's determinations to be arbitrary and erroneous, such determinations retain their traditional presumption of correctness, Welch v. Helvering,290 U.S. 111">290 U.S. 111, 115 (1933), and petitioner bears the burden of proving them to be erroneous. Rule 142(a). Upon review of the evidence submitted by petitioner, we hold that he has failed to carry102 his burden. We were not particularly impressed with Ms. Newkirk's reconstruction of the partnership's books and records. Her analysis was flawed by the use of assumptions unsupported by the record and she had no prior accounting or similar experience in reconstructing accounting records. Further, petitioner's testimony was equally unpersuasive given our doubts concerning his veracity. Finally, petitioner's failure to adequately substantiate any of his claimed laetrile distribution expenses precludes any deductions for such expenditures. Accordingly, subject to our holding that petitioner was in equal partnership with Frank Salaman, we sustain the Commissioner's determinations of the partnership's net profits. Rule 142(a). The only remaining matters pertaining to the amount of laetrile distribution income attributable to petitioner are the increased deficiencies sought by respondent in his amended answer with respect to the taxable years 1976 and 1977. In his notice of deficiency dated April 15, 1980, respondent determined that petitioner had gross income from his laetrile distribution activities in the following amounts: YearAmount1976$290,0771977108,091103 In his amended answer, respondent now asserts that petitioner realized the following additional amounts of gross income from his laetrile distribution activities: Amount ofYearAdditional Income1976$933,0701977206,161Respondent bears the burden of proof with respect to such increased deficiencies. Rule 142(a). With respect to the taxable year 1976, the increased deficiency sought by respondent stems from income projections for the entire year based upon petitioner's own books and records for a 63-day period late in the year. As to the taxable year 1977, respondent's increased deficiency results from projections based upon FDA records of intercepted laetrile shipments. Petitioner did not produce any original books and records in response to discovery requests and he refused to cooperate with respondent's agents when they were reconstructing his income. In such instances, we have held that reasonable projections and estimates of income are an acceptable104 means of establishing a deficiency in income. Harbin v. Commissioner,40 T.C. 373">40 T.C. 373 (1963); cf. Gordon v. Commissioner,supra. Further, [I]t is well settled that the Tax Court may properly reevaluate the evidence and reach its own findings, even though the record may be such that the result will be only an approximation based on the best records available, particularly where, as here, the taxpayer kept no records as the law required. Moreover, in arriving at the tax deficiency, the Tax Court, as the trier of the facts, is warranted in bearing heavily against the taxpayer, whose own failure to keep records has created the dilemma. [Mitchell v. Commissioner,416 F. 2d 101, 102-103 (7th Cir. 1969), affirming a Memorandum Opinion of this Court; citations omitted.] After a thorough review of the record, we hold that respondent has carried his burden of proof with respect to the increased deficiencies sought in his amended answer for the taxable years 1976 and 1977. For the taxable year 1976, respondent's projections, although105 relatively large in comparison to other taxable years, are inherently reasonable in light of the extensive sales reflected in petitioner's records for a 63-day period late in the year. Petitioner offered no credible evidence to suggest that this sample period included an extraordinary level of sales. 6 For the taxable year 1977, respondent's projections also are inherently reasonable given the large number of laetrile shipments intercepted and documented by the FDA. Petitioner's claim that some of these intercepted shipments represented either Mr. Salaman's laetrile distribution activities outside of the partnership or the activities of Cyto Pharma, U.S.A., were not satisfactorily corroborated with credible evidence. Accordingly, subject to our holding that petitioner was in equal partnership with Frank Salaman, respondent has carried his burden of proof with respect to the partnership's additional net profits. Rule 142(a). Issue 2. Additions to TaxWe have found that petitioner underpaid his Federal income tax for the taxable years 1973, 1974, 1975, 1976 and 1977. We106 must now decide whether any part of these underpayments was due to fraud. Section 6653(b)provides: (b) FRAUD.--If any part of any underpayment (as defined in subsection (c)) of tax required to be shown on a return is due to fraud, there shall be added to the tax an amount equal to 50 percent of the underpayment. * * The burden of proving fraud is on respondent, and he must do so by clear and convincing evidence. Rule 142(b); sec. 7454(a); Stone v. Commissioner,56 T.C. 213">56 T.C. 213, 220 (1971). This burden is met if it is shown that the taxpayer intended to evade taxes known to be owing by conduct intended to conceal, mislead, or otherwise prevent the collection of taxes and that there is an underpayment of tax. Stoltzfus v. United States,398 F.2d 1002">398 F.2d 1002, 1004 (3d Cir. 1968), cert. denied 393 U.S. 1020">393 U.S. 1020 (1969); Rowlee v. Commissioner,80 T.C. 1111">80 T.C. 1111, 1123 (1983); Acker v. Commissioner,26 T.C. 107">26 T.C. 107 (1956). 107 When fraud is asserted, as in the instant case, for more than one taxable year, respondent must show that some part of the underpayment was due to fraud for each taxable year for the corresponding addition to tax to be upheld. Professional Services v. Commissioner,79 T.C. 888">79 T.C. 888, 930 (1982); Otsuki v. Commissioner,53 T.C. 96">53 T.C. 96, 105 (1969). The existence of fraud is a question of fact to be resolved upon consideration of the entire record. Rowlee v. Commissioner,supra at 1123; Gajewski v. Commissioner,67 T.C. 181">67 T.C. 181, 199 (1976), affd. without published opinion 578 F.2d 1383">578 F.2d 1383 (8th Cir. 1978). Fraud will never be presumed. Beaver v. Commissioner,55 T.C. 85">55 T.C. 85, 92 (1970). Since fraud can seldom be established by direct proof, the requisite intent may be inferred from a showing by respondent that petitioner's conduct was intended to conceal, mislead or otherwise prevent the collection of taxes that petitioner knew or believed he owed. Stoltzfus v. United States,supra;Professional Services v. Commissioner,supra.Since respondent's108 assertion of fraud requires an inquiry into the taxpayer's frame of mind, a single act or omission seldom demonstrates the necessary fraudulent intent. Rather, the existence of the requisite fraudulent intent must generally be determined by surveying a taxpayer's entire course of conduct. Stone v. Commissioner,supra at 223-224; Stratton v. Commissioner,54 T.C. 255">54 T.C. 255, 284 (1970). In support of respondent's assertion that the imposition of the addition to tax for fraud is warranted, he points to the entire course of petitioner's conduct in: (1) engaging in illegal activities; (2) failing to file returns for four consecutive years; (3) failing to report substantial business income, his salary from Stanford, and the gain on the sale of his residence, all of which he knew constituted taxable income; (4) dealing in cash; (5) filing false W-4's to avoid having Federal income tax withheld from his salary; (6) his efforts in concealing his laetrile distribution activities; (7) his pattern of failing to make estimated tax payments; (8) his failure to cooperate with the revenue agent during the audit examination; and (9) his failure to maintain adequate109 records. Petitioner, on the other hand, argues that instead of engaging in a scheme to avoid paying income taxes, he was "the intellectual author of, and chief advocate for, not only the vindication and use of laetrile in cancer therapy, but [also] the concept of medical freedom of choice." In this regard, petitioner contends that he failed to file returns reporting his laetrile distribution activities to avoid alerting the FDA to the size and scope of his operations. He further asserts that any attempts to conceal his laetrile distribution activities, such as the cash nature of their operations, were also designed to frustrate FDA investigations and not the Internal Revenue Service. Finally, petitioner argues that he did not personally profit from the partnership's laetrile distribution activities because his share of the resultant profits were channeled into the Committee's laetrile legalization efforts. After an exhaustive review of the record, we hold that respondent has carried his burden of proving petitioner's fraudulent intent with respect to the underpayments for the years in issue by "clear and convincing" evidence. While petitioner's alleged altruistic110 motivations concerning his laetrile distribution activities may be exemplary, his actual methodology leaves much to be desired. Petitioner knowingly failed to file Federal income tax returns for the taxable years 1974, 1975, 1976, and 1977. He freely admitted knowing that he was required to file returns reporting his income generating activities for these years. While the failure to file tax returns, even over an extended period of time, does not perse establish fraud, Cirillo v. Commissioner,314 F.2d 478">314 F.2d 478 (3d Cir. 1963), the failure to file returns is persuasive circumstantial evidence of fraud. Marsellus v. Commissioner,544 F.2d 883">544 F.2d 883, 885 (5th Cir. 1977); see also Stoltzfus v. United States,supra at 1005. This failure to file returns also occurred despite repeated admonitions by his legal counsel to do so. In this context, petitioner's inaction weighs heavily against him. Further, during the taxable years in issue, petitioner knew he had received both wages from Stanford and substantial amounts of income111 according to the self-serving reconstructions of the partnership's books. Such consistent substantial omissions of income, without more, support the inference of willfully fraudulent conduct. Holland v. United States,348 U.S. 121">348 U.S. 121, 139 (1954); Schwarzkopf v. Commissioner,246 F.2d 731">246 F.2d 731, 734 (3d Cir. 1957), affg. a Memorandum Opinion of this Court. Reporting income from these sources would not reveal his illegal activities to government authorities. The record also strongly contradicts petitioner's claim that his dispute with the government was confined to the FDA. Petitioner's failure to maintain books and records of his income producing activities is another indicia of an attempt to defraud the taxing authorities. Otsuki v. Commissioner,supra at 109. The evidence also domonstrates that the partnership's decision to use cash in its transactions was partly motivated by petitioner's desire to avoid detection of his income producing activities, a further evidence of fraud. His filing of false W-4 certificates claimingan excessive number of exemptions is also evidence of fraudulent intent. Stephenson v. Commissioner,79 T.C. 995">79 T.C. 995, 1007 (1982).112 Finally, petitioner's refusal to cooperate in the attempt to determine his correct tax liability is, in this context, further indicia of fraud. Rowlee v. Commissioner,supra at 1125; Professional Services v. Commissioner,supra at 933. Petitioner's claim that he did not personally profit from the partnership's laetrile distribution activities because his share of the resultant profits were channeled into Committee activities has not been satisfactorily proven. The lack of detailed books, records and receipts precludes any accurate determination of what really occurred. Further, as petitioner has failed to prove that the Committee was a qualified recipient under section 170(c)(2), no charitable contribution deductions are allowable for the years in issue even if petitioner had been able to satisfactorily substantiate his contributions. Accordingly, subject to our holding that petitioner received 50 percent of the partnership's profits during the years in issue, the additions to tax for fraud sought by respondent pursuant to section 6653(b) are upheld. Rule 142(b). The remaining addition to tax issue involves petitioner's failure113 to pay estimated income tax. As discussed earlier, the Commissioner determined in his April 15, 1980, notice of deficiency that the imposition of this addition to tax pursuant to section 6654 upon petitioner was warranted. These determinations (and the amounts set. forth in the notice of deficiency) are presumptively correct, Welch v. Helvering,290 U.S. 111">290 U.S. 111, 115 (1933), and petitioner bears the burden of proving them to be erroneous. Rule 142(a). In his amended answer, respondent now seeks increased additions to tax pursuant to section 6654 and he, of course, bears the burden of proof concerning the additional sums sought with respect to the taxable years 1976 and 1977. Rule 142(a). Respondent asserts that the stipulation of facts and evidence clearly shows that petitioner received substantial net income from his laetrile distribution activities for the years in issue. As the result of this and petitioner's failure to pay any estimated taxes on such income, respondent contends that the additions to tax should be imposed. Petitioner did not specifically address this issue in his brief. We have previously held that 114 the imposition of the addition to tax under section 6654 is mandatory when an individual taxpayer fails to make the required estimated tax payments unless the petitioner can place himself within one of the exceptions provided for in subsection (d). Grosshandler v. Commissioner,75 T.C. 1">75 T.C. 1, 20-21 (1980). Respondent has satisfactorily proven petitioner's failure to make the required tax payments for the years in issue. Petitioner has not proven that he falls within one of the enumerated exceptions. Accordingly, subject to our holding that petitioner was in equal partnership with Frank Salaman for the years in issue, the additions to tax sought by respondent are upheld. Rule 142(a). Decisions will be entered under Rule 155.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended and in effect for the taxable years in issue, and all rule references are to this Court's Rules of Practice and Procedure.↩2. The term "laetrile" was first proposed by Ernest T. Krebs, Jr., about 1949 to generally reference the beta-cyanogenic glucosides, which include the pharmaceutical substance Amygdalin and any of its chemical derivatives. Laetrile is also known as vitamin B-17, Kemdalin and by several other trade names.↩3. At trial, petitioner contended that laetrile could be successfully used in the treatment of cancer provided it was used in conjunction with other unspecified therapy programs.↩4. Rutherford v. United States,↩ No. CIV-75-0218-B.5. United States v. Bradford,↩ No. 76-0448-Criminal.6. See Estate of Todisco v. Commissioner,T.C. Memo. 1983-247↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619736/	Estate of Harvey Deaktor, Deceased, Sidney Baker, Charles Deaktor and Western Pennsylvania National Bank, Executors v. Commissioner. Estate of Deaktor v. CommissionerDocket No. 4394-65.United States Tax CourtT.C. Memo 1966-194; 1966 Tax Ct. Memo LEXIS 90; 25 T.C.M. (CCH) 992; T.C.M. (RIA) 66194; August 31, 1966Kalman A. Goldring, Jones Law Bldg., Pittsburgh, Pa., for the petitioners. Hobart Richey, for the respondent. DAWSONMemorandum Opinion DAWSON, Judge: Respondent determined a deficiency in estate tax against the Estate of Harvey Deaktor in the amount of $26,736.18. 1Several issues have been settled by the parties and will be given effect under Rule 50. The only issue remaining for decision is whether the net value of the corpus of an irrevocable trust created by the decedent on May 11, 1955, is includible in his gross estate for estate tax purposes. The facts have been fully stipulated92 by the parties and are hereby found accordingly. Harvey Deaktor died on September 13, 1962. The Federal estate tax return for his estate was filed with the district director of internal revenue, Pittsburgh, Pennsylvania. On May 11, 1955, the decedent Harvey Deaktor, created an irrevocable trust naming himself, his son, Charles L. Deaktor, and Sidney Baker, an attorney, as trustees. The trust agreement provides, in pertinent part, as follows: ARTICLE I. The Trust Estate is for the use and benefit of MYRNA C. DEAKTOR, daughter of the Donor, hereinafter referred to as the "BENEFICIARY". It is intended that this Trust shall be irrevocable, and by the execution of this instrument and the delivery of the Trust Estate to th Trustees, it is specifically understood and agreed that the assignment and transfer to the Trustees of the Trust Estate are made by the Donor without reserving to himself any right, power or authority to annual, cancel, amend, alter or revoke the same, and without any condition, limitation or reservation whatsoever other than as herein expressly set forth, and all of the trusts, powers, estates, duties and obligations hereby created and hereby conferred upon and93 vested in the Trustees are irrevocable. In no event and under no circumstances shall the principal of the Trust Estate or accumulated or current income or any part thereof be distributed to the Donor, or to or for the Donor's estate or the Donor's benefit in any way. ARTICLE II. The Trustees shall hold, manage, invest and reinvest the Trust Estate in the manner hereinafter specified and shall collect the interest, dividends, rents and other income thereof and, after deducting the proper and necessary expenses in connection with the administration of the Trust Estate, shall accumulate the net income during the life of the Donor and shall invest and reinvest the same in the manner hereinafter specified until the said MYRNA C. DEAKTOR shall attain the age of thirty-five (35) years, at which time the Trustees shall pay over and deliver to the said MYRNA C. DEAKTOR, one-half (1/2) of the principal of the Trust Estate then existing, together with any income accumulated thereon as aforesaid; thereafter the Trust shall continue until the said MYRNA C. DEAKTOR shall attain the age of forty-five (45) years, at which time the balance of the principal and any accumulated income shall be paid94 over and delivered to the said MYRNA C. DEAKTOR absolutely, whereupon this Trust shall cease and terminate. Upon the death of the said MYRNA C. DEAKTOR prior to the distribution of any of the principal of the Trust Estate, the Trustees shall pay the principal and any accumulated income in their hands as follows: (a) to the spouse and/or any decedents of the said MYRNA C. DEAKTOR, as she may, by her Last Will and Testament appoint, subject to the minority provisions as hereinafter provided; (b) in default of such appointment as aforesaid, to the issue of the said MYRNA C. DEAKTOR; (c) in default of said appointment and in the event there shall be no issue of the said MYRNA C. DEAKTOR her surviving, to CHARLES L. DEAKTOR, son of the Donor, or the issue of the said CHARLES L. DEAKTOR, in the event the said CHARLES L. DEAKTOR shall not survive MYRNA C. DEAKTOR, and in the event there be no such issue of the said CHARLES L. DEAKTOR to JEANNETTE DEAKTOR, wife of the Donor and mother of the said MYRNA C. DEAKTOR. In the event none of the foregoing persons or person shall be living at the death of the said MYRNA C. DEAKTOR to take as aforesaid, the principal of this Trust shall vest95 in such persons other than the Donor who may be the heirs of the said MYRNA C. DEAKTOR under the Intestate Laws of the Commonwealth of Pennsylvania in effect at the time of the death of the said MYRNA C. DEAKTOR. In no event shall the principal or any accumulated income of this Trust vest in or be paid to the Donor or his estate under the provisions of this ARTICLE II or otherwise. * ARTICLE IV. In the event that a distributee hereunder shall be a minor at the time he or she is entitled to receive a share of the principal of the Trust Estate, such minor's share shall be held in trust during his or her minority by the Trustees for his or her benefit and so much of the income arising from such share and so much of the principal thereof as the Trustees in their uncontrolled discretion may deem advisable, shall be paid over by the Trustees in convenient installments during his or her minority to the parent, guardian or such other person as may have the custody of the person of that minor at the time such payments are to be made, to be used for the maintenance, education and support of such minor but without liability on the part of the Trustees to see to the application of said96 payments in the hands of the payee or payees. * * ARTICLE VI. From and after the time when the said MYRNA C. DEAKTOR shall have attained her majority or from and after the death of the Donor, whichever event shall first occur, the Trustees may pay any or all of the accumulated income to the said MYRNA C. DEAKTOR or for her benefit, and in the event that they deem it necessary or advisable, use from time to time so much of the principal of the Trust Estate and/or any accumulated income then in their hands as may in their opinion be necessary to defray the expenses of any illness, accident or other emergency occurring to the said MYRNA C. DEAKTOR, or to provide for her proper maintenance, education and support, to purchase or build and furnish a home for the said MYRNA C. DEAKTOR, to enable her to engage in travel or to enter a profession or commence a business. Within the limits of the authority herein granted, it is the Donor's intention that a liberal interpretation of the powers above set forth be made in the administration of this Trust, but in no event and under no circumstances shall the principal or income of this Trust under the foregoing powers or authority be used97 in any manner to discharge or pay the legal obligation of the Donor to support the Beneficiary or any dependent of the Donor. No person or corporation dealing with the Trustees shall be required to inquire into the necessity or propriety of any of the Trustees' acts or to see to the application of any money paid to the Trustees. * * ARTICLE VIII. The Trustees or any of them may resign at any time during the existence of this Trust. In the event of the death, resignation or incapacity of HARVEY DEAKTOR, one of the Trustees, MELLON NATIONAL BANK & TRUST COMPANY, Pittsburgh, Pennsylvania, shall be substituted as Co-Trustee hereunder. In the event of the death, resignation or incapacity of either CHARLES L. DEAKTOR or SIDNEY BAKER or both, the remaining Trustees or Trustee shall continue as sole Trustees or Trustee and shall be vested with all the powers and authorities herein conferred upon the Trustees. The net value of the corpus of the trust was $91,199.31 on the applicable estate tax valuation date. Myrna C. Deaktor, the beneficiary of the trust, was a minor when the trust instrument was executed. At the time of decedent's death, she was over 21 years of age, but not98 yet 35 years of age. The parties agree that a credit for State death taxes shall be computed under section 2011, Internal Revenue Code of 1954, and given effect under Rule 50. They also agree that the maximum marital deduction allowable shall be determined and given effect in a similar manner. Respondent contends that at the decedent's death he possessed, in conjunction with others, the right to designate the persons to possess or enjoy the trust property or income therefrom, thus making the corpus of the trust includable in the gross estate of decedent under section 2036(a)(2), Internal Revenue Code of 1954. 2 Respondent also contends that at the time of decedent's death the enjoyment of the trust corpus was subject to change through the exercise of a power by decedent, in conjunction with others, to alter, amend, revoke or terminate the trust, thus causing the trust corpus to be included in decedent's estate under section 2038(a)(1). 3 Respondent has chosen to bifurcate its position by relying on either or both sections of the statute. 99 Petitioners, on the other hand, contend that the decedent had no right under the trust agreement to invade corpus and, consequently, had no power to designate persons to enjoy its principal or income, thus permitting the decedent's estate to escape the thrust of section 2036(a)(2). Petitioners then argue that any powers to invade trust corpus which the decedent might have had under subsequent portions of the trust instrument were subject to an external standard and did not constitute a sufficient power to control the enjoyment of the trust corpus, thus permitting the estate to escape the ambit of section 2038(a)(1). We agree with the respondent that the net value of the trust corpus is includable in decedent's gross estate under the provisions of section 2036(a)(2). Under Article VI of the trust agreement, when Myrna Deaktor attained her majority, the decedent, in conjunction with others as co-trustees, had broad discretionary powers to pay the trust principal or accumulated income to her. Under Article II, when Myrna Deaktor attained the age of 35 years, one half of the trust principal and accumulated income was to be delivered to her; and when she attained the age of 45 years, 100 the balance of the trust corpus was to be turned over to her and the trust terminated. If she died, however, before either of the above events, the principal and accumulated income were to be distributed under a testamentary power of appointment granted to her or upon failure by her to exercise this power of appointment to persons or classes specifically designated in the trust instrument. Since at the time of the decedent's death Myrna Deaktor was not yet 35 years of age, it is clear that under the above provisions the decedent had the right, in conjunction with others, "to designate the persons who shall possess or enjoy the property or income therefrom." By not distributing income and principal to Myrna Deaktor as a life beneficiary the decedent would be in effect apportioning to the contingent remaindermen a greater share of the trust corpus if the initial beneficiary should die before termination of the trust and the vesting of trust corpus in her. This case is controlled by our opinion in Estate of John J. Round, 40 T.C. 970">40 T.C. 970 (1963), affirmed 332 F. 2d 590 (C.A. 1, 1964). There the donor-decedent established three irrevocable trusts with himself as101 a co-trustee. Under the "August" trust, the trustees had broad discretion to pay any part of the share held for a particular child whenever they deemed such distribution desirable. If a child died before attaining 21 years, his share was subject to a testamentary power of appointment in him, limited only in passing to that child's spouse, issue, or brothers or sisters or their issue. Since the power of decedent as co-trustee was ascertainable only by reference to his death, this Court found a "right to shift economic benefits and enjoyment from one person to another which is * * contemplated by the phrase 'to designate the persons who shall possess or enjoy * * * the income' from the property." Estate of Milton J. Budlong, 7 T.C. 756">7 T.C. 756, 763 (1946), affirmed on this issue sub nom. Industrial Trust Co. v. Commissioner, 165 F. 2d 142 (C.A. 1, 1947). Moreover, we pointed out that the power to invade corpus has also been held to be a right to designate the person who shall possess or enjoy the property or income therefrom under section 2036. Struthers v. Kelm, 218 F. 2d 810 (C.A. 8, 1955). Also see and compare Commissioner v. Holmes' Estate, 326 U.S. 480">326 U.S. 480 (1946);102 Lober v. United States, 346 U.S. 335">346 U.S. 335 (1953); and United States v. O'Malley, 383 U.S. 627">383 U.S. 627 (1966). Petitioners argue that if we find a sufficient external standard so that the decedent's power as trustee to control enjoyment of the trust corpus does not put him within section 2038(a)(1), it escapes the ambit of section 2036(a)(2) as well Without discussing the effect of Article VI's external standard on section 2038(a)(1), we note that in Estate of Milton J. Budlong, supra, even though the power to invade the corpus in case of sickness or other emergency was not a power to "alter, amend or revoke" within section 811(d) [the predecessor to section 2038(a)(1)], it did amount to a power to designate the person who should possess or enjoy income within the meaning of section 811(c) [the predecessor to section 2036(a)(2)]. Exactly the same rationale applies here. Accordingly, we hold that Harvey Deaktor was empowered, with the other trustees, to distribute the trust income to Myrna, the income beneficiary, or to accumulate it and add it to the principal, thereby denying to the beneficiary the privilege of immediate enjoyment and conditioning103 her eventual enjoyment upon surviving the termination of the trust. In our judgment this is a significant power and of sufficient substance to be treated as a right "to designate the persons who shall possess or enjoy the property or income therefrom" within the purview of section 2036(a)(2). United States v. O'Malley, supra at pages 631-632. Having concluded that the net value of the trust corpus is includable in the decedent's estate under the provisions of section 2036(a)(2), there is no need for us to consider the applicability of section 2038(a)(1). To reflect this determination and the agreement of the parties on other issues, Decision will be entered under Rule 50. Footnotes. By Tax Court order dated 9/9/66, this caption replaced the original caption which only carried the name of Harvey Deaktor.↩1. In his notice of deficiency the respondent took cognizance of the fact that, if petitioner's estate establishes the maximum credit for State death taxes paid, the deficiency will be reduced to $25,809.93.↩2. SEC. 2036. TRANSFERS WITH RETAINED LIFE ESTATE. (a) General Rule. - The value of the gross estate shall include the value of all property to the extent of any interest therein of which the decedent has at any time made a transfer (except in case of a bona fide sale for an adequate and full consideration in money or money's worth), by trust or otherwise, under which he has retained for his life or for any period not ascertainable without reference to his death or for any period which does not in fact end before his death - * *(2) the right, either alone or in conjunction with any person, to designate the persons who shall possess or enjoy the property or the income therefrom. ↩3. SEC. 2038. REVOCABLE TRANSFERS. (a) In General. - The value of the gross estate shall include the value of all property - (1) Transfers After June 22, 1936. - To the extent of any interest therein of which the decedent has at any time made a transfer (except in case of a bona fide sale for an adequate and full consideration in money or money's worth), by trust or otherwise, where the enjoyment thereof was subject at the date of his death to any change through the exercise of a power (in whatever capacity exercisable) by the decedent alone or by the decedent in conjunction with any other person (without regard to when or from what source the decedent acquired such power), to alter, amend, revoke, or terminate, or where any such power is relinquished in contemplation of decedent's death.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619737/	Clarence P. Sidwell, Petitioner, v. Commissioner of Internal Revenue, RespondentSidwell v. CommissionerDocket No. 15973United States Tax Court11 T.C. 826; 1948 U.S. Tax Ct. LEXIS 33; November 10, 1948, Promulgated 33 Decision will be entered under Rule 50. Petitioner is engaged in the business of digging plastic loam, excavating and processing molding sand, and marketing both products. In 1940 he purchased 3 tracts of land aggregating approximately 15 acres in order to continue his operations. He claimed depletion on 2 tracts, based on discovery value. Held, petitioner failed to sustain his burden of proof of showing that the tracts were not proved before purchase; held, further, that he failed to show a proper and adequate basis for computing the probable content of molding sand in such tracts. T. F. Ryan, Esq., for the petitioner.H. H. McCall, Esq., for the respondent. Van Fossan, Judge. VAN FOSSAN 827 The respondent determined a deficiency of $ 4,979.59 in the petitioner's income and victory tax liability for the year 1943.The major issue now in controversy is whether or not the petitioner is entitled to discovery value depletion on molding sand allegedly discovered by the petitioner.A collateral issue is the allowance of a deduction for medical expenses. This issue is contingent upon the amount of the petitioner's income resulting from the determination34 of the first issue.FINDINGS OF FACT.The petitioner is an individual, residing in Pittsburgh, Pennsylvania. He filed his income tax and victory tax return for the taxable year with the collector of internal revenue for the twenty-third district of Pennsylvania.Certain facts were stipulated. In so far as they are material to the issue, they are as follows:By deed dated August 30, 1940, Margaret C. Snyder, widow, conveyed to the petitioner for a consideration of $ 5,500 a tract of land situated in the township of Harmar, Allegheny County, Pennsylvania, containing 10.137 acres and fronting on its eastern side 400.83 feet on Little Deer Creek Valley Road. By deed dated November 26, 1940, Philip H. Hodel and wife conveyed to the petitioner for a consideration of $ 1,875 a tract of land situated in the same township, containing 2 1/2 acres and adjoining the Snyder tract on the north. By deed dated October 30, 1940, John D. Nixon and wife conveyed to the petitioner for a consideration of $ 1,073 a tract of land situated in the same township, containing 3.904 acres and adjoining the western border of the Snyder tract.On the Nixon tract the petitioner erected a plant and installed 35 machinery and equipment for processing molding sand and shipping it, as well as plastic loam. The construction work therefor progressed throughout the year 1941.On the Snyder and Hodel tracts, in early March 1942, the petitioner commenced to remove loam and to dig molding sand, which was processed through the plant erected on the Nixon tract, and those products were sold and shipped therefrom.The operation of the petitioner on the Snyder, Hodel, and Nixon tracts is known as the Larry plant, as distinguished from a then lessee operation for molding sand and plastic loam by the petitioner known as the Murray plant, which was situated in Springdale Township, 828 Allegheny County, Pennsylvania, about three air miles distant from the Larry plant, with hills and valleys intervening. The petitioner was the lessee of the Murray plant.The record discloses the following additional facts:The petitioner is engaged in the business of digging plastic loam and extracting and processing molding sand. Plastic loam or yellow clay is used in its natural state by steel mills for lining ladles, sealing fire doors, as troughs for hot metal, etc. Molding sand is a mixture of clay and gravel36 consisting usually of approximately 20 per cent clay and 80 per cent gravel, processed by crushing into small particles less than three-eighths of an inch in diameter, and is used in molding steel ingots.The petitioner began the business in 1933 as lessee of an established operation called the Murray Plant. He paid a royalty of 25 cents a ton on both the plastic loam and the unprocessed molding sand. He also was required to restore, replace, and maintain the machinery, equipment, and buildings composing the plant.In the spring of 1939 the supply of plastic loam at the Murray Plant was becoming exhausted. The petitioner then secured loam from an adjoining tract. In the spring of 1940 he began to look elsewhere for a possible source of supply of both loam and molding sand. He was assisted in the search by William S. Slifer, a graduate engineer, who is now dead. Slifer located a commercial deposit of loam on the Snyder tract. The petitioner found plastic loam therein.The petitioner then talked with Mrs. Snyder, who fixed a price of $ 550 per acre for her land. Hazel Carnahan, Mrs. Snyder's daughter, was present at the conference. The possible presence of "loam sand" on the37 tract was discussed. Mrs. Snyder gave the petitioner a 60-day option on her land, with the privilege of drilling test holes.The option contained the following paragraph:It Is Further Agreed that the party of the second part shall, during the term of this option, have the right to go upon said premises and drill test holes thereon, which test holes shall be re-filled by him at his own expense, before the expiration date of this option, in case that he does not exercise said option before its expiration date.The petitioner thereupon drilled test holes at least 10 feet deep, and sometimes as much as 40 feet deep. The soil removed therefrom contained sand and gravel. The test holes were about 200 feet from the Little Deer Creek Valley Road.On the Snyder tract, as well as on the Hodel tract, there was a surface soil of about 8 inches in thickness; under that a stratum of "plastic loam" (a substance which becomes slippery and plastic when wet) varying in thickness from one to four feet, and under that a stratum of clay mixed with gravel or pebbles and larger stones. When there is an excess of clay over the 20 per cent required to produce molding 829 sand, it is not sent to38 the crushing plant, but is piled at the excavation. The deposit of gravel or pebbles was very irregular in thickness, or "spotty". At the petitioner's plant the clay and gravel, or "molding sand" (so termed when processed), are removed together. The petitioner knew that there was molding sand (or the raw material from which it was produced) under the Hodel tract before he bought it. After the test holes had been bored on the Snyder tract, the petitioner exercised the option to purchase the land from Mrs. Snyder on August 30, 1940, as above set forth. The petitioner also had in mind the possible use of the tract as a home-building project.In 1935 James H. McCrady, Jr., owned a 90-acre tract of land adjoining the Snyder tract. His tract had been operated as a gravel extraction enterprise since about 1919. McCrady has been interested in the sand and gravel business for 52 years. He produced molding sand by substantially the same method as that employed by the petitioner. The gravel deposits in the McCrady and petitioner's operations are of approximately the same thickness and are continuations of the same alluvial deposits. The faces of their respective workings are about 39 700 feet apart. The deposits on the McCrady tract continued through to the petitioner's land. In 1940 the petitioner knew of McCrady's operation and was familiar with the topography of the land in the vicinity of the Snyder tract.In various banks on the Snyder land outcroppings of sand and gravel and plastic loam were visible. On the western portion of the Snyder tract were slopes and gullies, caused by erosion, which exhibited similar outcroppings.OPINION.The primary issue in the case at bar is whether or not the petitioner is entitled to discovery value depletion as provided in section 23 (m) and 114 (b) (2) of the Internal Revenue Code. 140 830 The latter section establishes the basis for depletion as the fair market value of the property at the date of discovery, or within 30 days thereafter, if such mines were not acquired as a result of the purchase of a proved tract or lease. Thus, assuming, without deciding, that petitioner's operation is a "mine" (but see Evangeline Gravel Co., 13 B. T. A. 101; Parker Gravel Co., 21 B. T. A. 51; Grand River Gravel Co., 22 B. T. A. 1124; Dunn & Baker, Inc., 30 B. T. A. 663), if petitioner is to prevail we must find that the petitioner conformed to the requirement of the statute, that the land in controversy was not a proved tract at the time of purchase. (See Melville G. Thompson, 10 B. T. A. 25.)The record is convincing that prior to his purchase of the Snyder tract the petitioner knew of the existence therein of the type of gravel from which he produced molding sand. He stated freely that he had bored extensive test holes on the land varying from 10 to 40 feet in depth. It would be difficult to believe that at that41 time he did not encounter the stratum of gravel which he later worked so successfully and the profits from which induced him to seek a deduction for depletion based on discovery value.In the light of the petitioner's previous experience in extracting and processing molding sand, his familiarity with operations of that character (including the neighboring McCrady plant), his realization of the necessity of securing new lands suited to his needs, and his examination and knowledge of the Snyder tract and contours, it is unmistakably apparent to us that he was conversant with the character and probable extent of the "molding sand" deposit at the time of purchase of the land.We hold that the petitioner is not entitled to a deduction for depletion based on discovery value.There are further reasons why petitioner can not prevail.The evidence, though not conclusive, tends to show that the gravel deposits under the Snyder and Hodel tracts were uninterrupted extensions of a continuing commercial deposit already known to exist. The land adjacent to the Snyder tract and the land across the Little Deer Creek Valley Road (33 feet wide) showed the evidence of the same 831 gravel stratum42 as that demonstrated by the test holes to underlie the Snyder land. The respondent's expert witness and McCrady both testified that the petitioner's operation was in the same gravel bed as that exposed on the McCrady property. In any event, the petitioner has failed to sustain his burden of proof that his stratum of molding sand is not such a continuation.Further, petitioner has not adequately proved that the fair market value of the tracts was disproportionate to their cost.The petitioner has not presented adequate proof of the basis for his calculations of the tonnage of molding sand in place. He estimated it to be 180,000 tons in the Snyder land and 20,000 tons in the Hodel land. The petitioner insists that the stratum was very irregular and spotty. Under such circumstances and in the absence of more precise and accurate support of that estimate, we can not accept it. The petitioner stated that he paid 25 cents a ton royalty at the Murray plant, but he did not show that it was the prevailing or market price at the Larry location. Moreover, as we said in Dunn & Baker, supra: * * But even assuming a determinable content and a fixed price, 43 the multiplication of the two figures does not give fair market value. Reinecke v. Spalding, 280 U.S. 227">280 U.S. 227.In Reinecke v. Spalding, supra, the Court said: * * Manifestly, the fair market value of this interest in 1913 was much less than 25 cents per ton of the estimated contents of the mines, but respondent introduced no evidence which tended to show such value.The lack of proof on this point would require a holding against petitioner were there no other defect in the record.The second issue, relating to medical expenses, requires no consideration by us.Decision will be entered under Rule 50. Footnotes1. SEC. 23. DEDUCTIONS FROM GROSS INCOME.In computing net income there shall be allowed as deductions:* * * (m) Depletion. -- In the case of mines, oil and gas wells, other natural deposits, and timber, a reasonable allowance for depletion and for depreciation of improvements, according to the peculiar conditions in each case; such reasonable allowance in all cases to be made under rules and regulations to be prescribed by the Commissioner, with the approval of the Secretary. In any case in which it is ascertained as a result of operations or of development work that the recoverable units are greater or less than the prior estimate thereof, then such prior estimate (but not the basis for depletion) shall be revised and the allowance under this subsection for subsequent taxable years shall be based upon such revised estimate. * For percentage depletion allowable under this subsection, see section 114 (b) (3) and (4). * * SEC. 114. BASIS FOR DEPRECIATION AND DEPLETION. * * (b) Basis for Depletion. -- * * *(2) Discovery value in case of mines. -- In the case of mines (other than metal, coal, fluorspar, ball and sagger clay, rock asphalt, or sulphur mines) discovered by the taxpayer after February 28, 1913, the basis for depletion shall be the fair market value of the property at the date of discovery or within thirty days thereafter, if such mines were not acquired as the result of purchase of a proven tract or lease, and if the fair market value of the property is materially disproportionate to the cost. The depletion allowance under section 23 (m) based on discovery value provided in this paragraph shall not exceed 50 per centum of the net income of the taxpayer (computed without allowance for depletion) from the property upon which the discovery was made, except that in no case shall the depletion allowance under section 23 (m)↩ be less than it would be if computed without reference to discovery value. Discoveries shall include minerals in commercial quantities contained within a vein or deposit discovered in an existing mine or mining tract by the taxpayer after February 28, 1913, if the vein or deposit thus discovered was not merely the uninterrupted extension of a continuing commercial vein or deposit already known to exist, and if the discovered minerals are of sufficient value and quantity that they could be separately mined and marketed at a profit.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619738/	MORTEX MANUFACTURING CO., INC., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentMortex Mfg. Co. v. CommissionerDocket Nos. 9423-91, 11279-91United States Tax CourtT.C. Memo 1994-110; 1994 Tax Ct. Memo LEXIS 111; 67 T.C.M. (CCH) 2412; March 21, 1994, Filed 111 Decision will be entered under Rule 155. For petitioner: Susan M. Freund and Steven Russo. For respondent: Susan E. Seabrook. SHIELDSSHIELDSMEMORANDUM FINDINGS OF FACT AND OPINION SHIELDS, Judge: In these consolidated cases, respondent determined deficiencies in petitioner's income tax for its fiscal years ending on March 31, 1987, 1988, and 1989, in the respective amounts of $ 5,698, $ 262,617, and $ 129,252. After concessions, 1 the only issue for decision is whether petitioner, Mortex Manufacturing Co., Inc. (Mortex), is entitled to claim deductions, for fiscal years 1988 and 1989, under section 162(a)(1) 2112 for the full amounts paid to its officers as compensation. 3 Petitioner argues in the alternative that, if a portion of the payments made to the officers is found to be unreasonable compensation for services rendered, then the disallowed amounts are properly deductible for the use by petitioner of certain patents and a trade secret owned by one or more of the officers. FINDINGS OF FACT Petitioner, an Arizona corporation with its principal place of business at Tucson, was organized in 1976 by Max W. Deason (Max), his wife, Jo Elsie Deason (Jo), and their children Ted Deason (Ted), Ann Deason (Ann), and Bart Deason (Bart) to carry on a business which Max with Jo's help had founded and developed over a period of years as a sole proprietorship. The business consists of the manufacture and distribution of products used in the construction of swimming pools. Max, an inventor and entrepreneur, was the moving force behind the business both before and after its incorporation until his death in 1987. However, all other members of the family were closely involved in the business from its inception. Jo was responsible for its finances, and all of the children worked in the business113 when they were students and later when they were shareholders of the corporation. Ann subsequently married Donald Poyas (Don), who began to work for the business in 1970. Ted's wife Carlene Deason (Carlene) became a vice president of the corporation in 1988. 4Upon its incorporation, 200,000 shares of Mortex's common stock were issued at $ 1 per share as follows: Max Deason62,000 sharesJo Deason60,000 sharesAnn Deason26,000 sharesTed Deason26,000 sharesBart Deason26,000 sharesBy March 31, 1981, the stock ownership was as follows: Max Deason118,998 sharesJo Deason2 sharesAnn Deason Poyas40,500 sharesTed Deason40,500 shares114 In April 1981, Ted and Ann purchased their father's shares in petitioner, and thereafter through the fiscal years in question petitioner's stock was held as follows: Ted Deason99,999 sharesAnn Deason Poyas99,999 sharesJo Deason2 sharesThe total payments made to its officers 5 as compensation by petitioner for fiscal years 1988 and 1989 were as follows: NameTitle 1988 1989 Ted DeasonPresident$ 315,080$ 242,080Carlene DeasonVice president46,00068,000Ann Deason PoyasSecretary201,700160,200Donald PoyasVice president201,700160,200Jo DeasonTreasurer156,280122,280TOTAL920,760752,760Of the total of $ 920,760 paid by petitioner to its officers in fiscal year 1988, $ 505,760 was paid during the year as salaries and deducted as such on petitioner's return for 1988. The balance of $ 415,000 was paid by petitioner at the end of the year and deducted as commissions. Of the $ 752,760 paid by petitioner115 to its officers in fiscal year 1989, $ 572,760 was paid during the year as salaries and deducted as such on petitioner's return for 1989. The balance of $ 180,000 was paid by petitioner at the end of the year and deducted as commissions. In the deficiency notice respondent did not make a separate determination with respect to the reasonableness of the compensation paid to each officer. Instead respondent determined that total reasonable compensation for the officers in 1988 and 1989 was $ 272,440 and $ 335,000, respectively, and disallowed the balance of the salaries and all of the commissions deducted by petitioner. Under petitioner's bylaws, each officer is required to reimburse petitioner for any amount paid to such officer as compensation but ultimately disallowed as a deduction by respondent. In the years prior to the incorporation of Mortex, Max, assisted by Jo and Ted, developed a formula for a product used in finishing concrete structures. The product, known as Keystone Kool Deck (Kool Deck), is a chemical additive which creates a colorful nonskid surface when mixed with cement and certain other chemicals including dyes and applied to the wet surface of concrete structures116 such as swimming pool decks. The use of the Kool Deck additive also reduces the temperature of a concrete surface to which it is applied by up to as much as 35 percent compared to a concrete surface that has not been similarly treated. When Mortex was incorporated in 1976, the formula for Kool Deck was not transferred to the corporation. Instead, knowledge of the formula was retained at that time by Max, Jo, and Ted. During the years under consideration the formula was known only to Ted, Jo, Ann, and Don. Since its development the formula, as well as the manner and order in which its components are added to the mixture, have been zealously guarded by the family, whose knowledgeable members regard it as a trade secret which they provide as part of their services to petitioner. The formula for Kool Deck has never been patented because of the disclosures which would have to be made in a patent application and the certainty that the trade secret would enter the public domain when the patent expires. 6117 A family member who knows the secret of Kool Deck must be present when the product is prepared. Usually, Ted mixes the chemical constituents of Kool Deck, but Don and Ann are capable of doing so. Even though she knows the formula, Jo is probably not capable of mixing the necessary chemicals because of her age and physical limitations. One trusted employee mixes the colors and does some mixing of chemicals, but the employee does not know the trade secret of Kool Deck. This trusted employee as well as all other nonofficer employees of Mortex are required to sign an Employee Confidentiality Agreement in which they agree to not reveal any knowledge of petitioner's operation or its products acquired in the course of their employment. Kool Deck and other products of Mortex are sold throughout the United States and in 25 or 26 foreign countries. No one else manufactures a product similar to Kool Deck although over the years a number of people have attempted to do so without success. Their failure is apparently due to the fact that, while a chemical analysis of Kool Deck will reveal its chemical ingredients, it will not disclose the form or condition of the ingredients when they are118 added to the mixture or the order in which they are added. Max acquired during his life and held at his death a patent covering forms for use in the construction of free-form pools, a patent for forms for use in the construction of concrete expansion and contraction joints, a patent for the construction of an apparatus for forming pool deckings and copings, and a patent for a pool deck drain. Max died intestate on May 5, 1987, and under Arizona law his wife Jo was the sole beneficiary of his estate. There is no formal documentation of a transfer of his patents to Jo. However, at the time of the trial, the products protected by the patents were being manufactured by petitioner with Jo's permission and the Kool Deck formula was still being provided to petitioner by Ted, Don, Ann, and Jo. While Ted, the president of petitioner, was still in high school, he began to assist his father in the family business and continued to do so while attending the University of Arizona, where he earned in 1969 a bachelor of science degree in metallurgical engineering. During the fiscal years in question, Ted developed for petitioner two new products, Marquee, a commercial grade of Kool Deck for119 use on walkways and driveways of commercial buildings, and the Ad-Tex Sprayer, a device which simplifies the application of some of petitioner's products. With his engineering background, Ted has been able to personally modify almost all of the equipment used by petitioner in the production of the products sold by petitioner. Ted regularly works 80 hours each week of which 5 percent or less is devoted to Tucson Foam and Equipment, Inc. (Tucson Foam), a related entity described hereinafter. Petitioner's plant operates around the clock Monday through Saturday. Ted is at the plant for startup at 4:30 on each Monday morning and is always on call throughout the week including Sunday. Because of his broad knowledge of the business and of the contribution made by each of the individuals involved, Ted is primarily responsible for setting the levels of compensation for each officer of petitioner. However, the compensation of each officer is considered at a meeting of petitioner's officers, who are also its directors, which is usually held at or near the end of each fiscal year. During each of these meetings, petitioner's net sales are estimated for the year and 30 percent of the estimated120 net sales is considered the total of all compensation to be paid by petitioner to its officers for the year. After a discussion during which each officer has an opportunity to state his or her opinion of the value of each officer's contribution to the corporation during the preceding year, an agreement is reached with regard to the share of each officer in the total compensation for the year. The excess of such agreed amount for each officer over the total amount of his or her salary for the year is then paid to the officer as a yearend bonus or commission. Ted, with assistance from Don, is also responsible for the compensation of each of petitioner's 8 to 11 plant workers; and with assistance from Jo, he is responsible for the compensation paid to petitioner's 3 or 4 office employees. 7121 Don, a vice president of petitioner, is a professional photographer. In addition, he has received professional training in computers and business administration. He established and is responsible for petitioner's computer system. However, purchasing is his primary responsibility for petitioner. He is also responsible for having established a cost-reducing system whereby trucks delivering products for petitioner are loaded upon return with petitioner's supplies. He too is on call for petitioner 24 hours a day and fills in for absent employees, as well as for Ted when Ted is not available. Don usually works 80 hours in a week which includes his supervision of the plant operations at Tucson Foam. Ten percent or less of his time is devoted to Tucson Foam and the balance to petitioner. Ann, the secretary of petitioner, is primarily in charge of its sales and marketing. Like her brother Ted, she is thoroughly familiar with petitioner's business since she began working with her father while she was still in high school. She negotiates prices with major customers and has established an "early buy" program whereby customers place orders in the fall for products they will need the122 following summer. With Ann's excellent planning, petitioner is able to ship orders on the day they are placed. Her marketing efforts include attendance at all national and regional conventions where petitioner's products are exhibited. With her knowledge of all aspects of petitioner's business, she is able at such conventions to explain petitioner's products, handle technical questions, and advise contractors and other interested parties in the use of petitioner's products. Ann is also an experienced artist, and her husband, as stated above, is a professional photographer. Working together after regular hours and often into the mornings in an office 8 in their home, they frequently develop for petitioner advertising brochures and instructional videotapes. Ann also helps Jo supervise petitioner's bookkeeping and insurance coverage. In addition during the123 years in question she was training Carlene in bookkeeping, foreign sales, and export documentation. Jo, petitioner's treasurer, is also thoroughly familiar with petitioner's operation because she helped Max start the business and has been closely associated with it from the beginning. She is primarily responsible for petitioner's banking and other financial affairs including the negotiation of certain letters of credit and sales negotiations with established customers. Together with Ann, she also supervises petitioner's bookkeeping and its insurance coverage. As indicated hereinbefore, she assists Ted in determining the levels of compensation paid to petitioner's three or four office employees. At the trial Jo, who is 70 years old, did not testify because she was recovering from a back operation, and the level of her involvement with petitioner appeared to be somewhat less than full time. 9124 As indicated hereinbefore, Carlene, the wife of Ted, has been a vice president of petitioner since 1988. The record, however, fails to establish what her duties for petitioner were prior to becoming a vice president of petitioner in 1988 or the specific duties she performed or was responsible for during fiscal years 1988 and 1989 other than the fact that she was being trained by Ann in bookkeeping, foreign sales, and export documentation. Petitioner uses polystyrene foam board in its manufacture of pool deck forms. Over the years petitioner has had difficulty in finding a dependable source for such board which satisfies petitioner's specifications. Consequently in 1979, Bart Deason formed Tucson Foam Board to manufacture such board for petitioner. The business operated by Bart as Tucson Foam Board was sold in 1986 to Tucson Foam & Equipment, Inc., a separate corporation. One-half of the stock of Tucson Foam is owned by Ted and his wife and the other one-half is owned by Ann and her husband. Its officers are also Ted, Carlene, Ann, and Don, who during the years in question received salaries from Tucson Foam in the following amounts: NameTitle 1988 1989 Ted DeasonPresident$ 16,344$ 17,500Carlene DeasonVice president14,33227,000Ann PoyasSec/treasurer12,38215,500Donald PoyasVice president18,29425,000125 On July 13, 1988, Ted, Carlene, Don, and Ann organized Deck Directors, Inc., and with it attempted to launch a business to sell to pool contractors a franchise to construct pool decks. The franchise included the use of, but not the formula for, an enhanced version of Kool Deck as well as certain other products manufactured by Mortex and covered by the patents obtained by Max. The venture known as Deck Directors was primarily the responsibility of Ann but it was not successful, since no franchises were sold. Deck Directors was dissolved after filing two nonprofitable income tax returns, one for the period from July 13, 1988, to March 31, 1989, and the other for the period from April 1, 1989, to December 31, 1989. During its short existence, Ann spent less than 5 percent of her time tending to Deck Directors' affairs. During 1988 and 1989 Ann and Don owned some show horses which were held for breeding purposes. The horses were not stabled at or near the residence of Ann and Don but at the Star B Farm where they were being trained by Star Bennett. Neither Ann, Don, nor any other member of their family ever rode the horses or participated in their training or spent any appreciable126 amount of time during the period in question in the training or upkeep of the horses. After Christmas in 1988, Ann initiated a business called Signed, Sealed, and Remembered. The business which had one employee was begun in Ann's home, but about a month later in late January of 1989 the business and its one employee moved to a small office on Oracle Road in Tucson, Arizona. The business consisted of the sale or lease of a computer program designed in a few hours by Ann for the purpose of helping people to organize their time in order to attend to important matters which are often neglected, such as business and personal appointments and the recognition of birthdays, anniversaries, and holidays. During 1989 Ann devoted about 1 or 2 hours each month to the affairs of Signed, Sealed, and Remembered. For 1988 she reported on her joint return with Don no income and a loss of $ 9,677 from Signed, Sealed, and Remembered. On their joint return for 1989, she reported gross receipts of $ 33,146 and a net loss of $ 56,775. The record does not reflect the amount of time, if any, which Don devoted to the business. During 1989 Jo was responsible for an outlet for Signed, Sealed, and Remembered127 located in Las Vegas, from which she reported gross receipts of $ 10,235 and a net loss of $ 30,938. The record does not disclose the amount of time which Jo devoted to this operation. From its incorporation petitioner has been in excellent financial condition. It has a high rating with Dunn and Bradstreet, and its bad debt ratio is less than 1 percent. Petitioner's liquidity as measured by standard ratios is excellent. Its officers and directors have a longstanding policy against outside borrowing. Over the years, expansion and other capital needs of petitioner have been financed with retained earnings or advances from stockholders. In the years in question, $ 400,000 was invested by petitioner in its plant and equipment. In March shortly before the end of its fiscal year 1989 petitioner borrowed $ 210,000 from its shareholders because of a cash shortage. The loan was repaid within 6 months. Petitioner does not have a pension or a deferred compensation plan. It did not pay any dividends between April 1, 1985, and March 31, 1989. Its initial capitalization in 1976 was $ 200,000 or $ 1 per share of its stock. By the end of its fiscal year 1989, petitioner's book value 128 was $ 704,000, and its appraised value was conservatively estimated at $ 1,851,166. For the years 1985 through 1989, petitioner's income and deductions can be summarized as follows: 19851986198719881989Net sales$ 2,994,258$ 2,937,024$ 2,737,140$ 3,152,784$ 2,816,410Less cost of sales1,129,1871,025,783977,7971,247,6601,786,30211,865,0711,911,2411,759,3431,905,1241,030,108Other income61,05340,05234,34345,20630,833Total income1,926,1241,951,2931,793,6861,950,3301,060,941Less total expenses1,909,8771,914,4701,748,8511,879,1481,096,586Profit/loss16,24736,82344,83571,182(35,645)Comparable figures are not in the record for years prior to 1985. However, net sales and officers' compensation are in the record for the years 1978 through 1989. They are as follows: 1978197919801981Net sales$ 1,280,047$ 1,554,835$ 1,926,558$ 1,801,091Officers' salaries282,000428,200456,000456,000Officers' bonuses171,00050,00092,00075,000Total officers' comp.453,000478,200548,000531,000129 1982198319841985Net sales$ 2,190,316$ 2,216,123$ 2,883,401$ 2,994,258Officers' salaries478,000480,000516,000624,000Officers' bonuses132,000300,000367,000515,000Total officers' comp.610,000780,000883,0001,139,0001986198719881989Net sales$ 2,937,024$ 2,737,261$ 3,152,784$ 2,816,410Officers' salaries676,690681,480564,320572,760Officers' bonuses430,000300,000400,000180,000Total officers' comp.1,106,690981,480964,320752,760As a percentage of net sales, total compensation paid by petitioner to its stockholder-officers for each of the years 1978 through 1989 was 35 percent, 31 percent, 28 percent, 30 percent 28 percent, 35 percent, 31 percent, 38 percent, 38 percent, 36 percent, 31 percent, 10 and 27 percent, respectively, for an average annual percentage during this period of 32 percent. 11130 Expert witnesses for the parties offered contradictory testimony concerning the reasonableness of the total compensation paid to petitioner's officers. However, respondent's expert, Emmett J. Brennan III, a compensation consultant, did not question the valuation of $ 1,851,166 placed on Mortex as of March 31, 1989, by petitioner's expert, Walter Pocock, a business valuation specialist. Mr. Pocock summarized his valuation of Mortex as follows: Adjusted net worth$ 932,666Real estate918,500TOTAL1,851,166The adjusted net worth used by Mr. Pocock included petitioner's machinery and equipment at $ 775,450, its cost less depreciation. Mr. Pocock noted that this was a conservative valuation, because it made no upward adjustment for the substantial modifications made to the equipment by Ted or for its excellent condition due to its careful maintenance under Ted's supervision. Mr. Pocock also found that on the basis of book value before any adjustment petitioner's net worth had increased over 800 percent between 1977 and 1989; i.e., from $ 67,000 to $ 704,000. He also noted that between petitioner's incorporation in 1976 with an initial capitalization of $ 200,000131 and the end of its fiscal year 1989, its net worth increased by 350 percent; that during the same period its value increased from $ 200,000 to $ 1,851,166 or by over 900 percent; and that during the 2 years in issue, its net worth as reflected on its balance sheet increased by 4.8 percent as follows: YearAssets Liabilities Net Worth1989$ 1,020,582$ 316,501$ 704,0811987669,366(951)670,317Difference33,764Mr. Pocock also noted, that of petitioner's $ 316,501 in debt at the end of fiscal year 1989, $ 210,000 was represented by a loan from its shareholder-officers. The note was repaid by petitioner within 6 months. Petitioner's expert testified that he had chosen the highest salaries he could find as appropriate for its officers, in view of its excellent performance. He noted that its officers work together as an effective team and have a substantial amount of cross-training which permits them to do each other's jobs. As a result, petitioner has been able to consistently generate sales in the range of $ 3 million per year with only 8 to 11 plant employees and only 3 or 4 office employees. He also noted that such an accomplishment can be attained132 with only 11 to 15 nonofficer employees by very few manufacturing companies. He was unable to find an appropriate ceiling for the compensation paid by petitioner to its officers because in his opinion "the company would disintegrate without them." His conclusions, which are not restricted to companies with comparable sales or number of nonstockholder-employees, are based generally on the PAS Executive Compensation Survey of contractors and the National Institute of Business Management survey of companies manufacturing concrete products. Respondent's expert concluded that petitioner's officers received compensation which was "extraordinarily higher" than officers of firms that he concluded were comparable. In reaching his conclusion, he surveyed published data from various sources 12 on companies manufacturing concrete products with the same level of sales as petitioner's 1988 sales of $ 3.15 million and 1989 sales of $ 2.82 million. 13 The following table summarizes his conclusions with respect to salaries paid by corporations which he found to be comparable to petitioner; i.e., companies manufacturing concrete products with sales similar in amount to those of petitioner. For133 the position held by each of petitioner's officers the table lists the maximum average compensation and maximum compensation. 19881989Name/TitleAverage Maximum Average Maximum T. Deason,$ 101,160$ 192,810$ 102,440$ 192,070presidentC. Deason,18,20029,20028,84031,520asst. treas.J. Deason,51,02079,70044,01074,450treasurerA. Poyas,53,68096,40065,22088,620secy.D. Poyas,45,75064,69036,37056,850asst. secy.TOTAL269,810462,800276,880443,510134 In arriving at his conclusion, respondent's expert incorrectly assumed that Carlene devoted only 50 percent of her time and Ann only 80 percent of her time to Mortex. Furthermore, when he compiled his data, respondent's expert did not know or take into consideration the exact nature and extent of the duties of petitioner's officers or the value of the Kool Deck formula which was made available to petitioner through the services of Ted, Ann, Don, and Jo or the value of the patents originally obtained by Max and made available to petitioner by Jo after Max's death. Furthermore, he did not know whether the occupants of similar corporate positions with companies which he found to be comparable to petitioner made any such formulas, patents, or other items of value available to their employers. OPINION The resolution of the dispute involved in this case depends upon whether the amounts paid by petitioner to its officers constitute reasonable compensation within the meaning of section 162(a)(1), which provides: SEC. 162(a) In General. -- There shall be allowed as a deduction all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade135 or business, including -- (1) a reasonable allowance for salaries or other compensation for personal services actually rendered.The test of deductibility under section 162(a)(1) is whether the payments are (1) reasonable in amount and (2) are in fact payments made for services. Sec. 1.162-7(a), Income Tax Regs. Ostensible salaries may be dividends when paid to the shareholders of a closely held corporation which has paid no dividends. Sec. 1.162-7(b)(1), Income Tax Regs. In general, respondent's regulations take the position that it is just to assume that reasonable compensation does not exceed the amount which would ordinarily be paid for like services by like enterprises under like circumstances. Sec. 1.162-7(b)(3), Income Tax Regs.Section 1.162-8, Income Tax Regs., reads as follows: Treatment of excessive compensation. -- The income tax liability of the recipient in respect of an amount ostensibly paid to him as compensation, but not allowed to be deducted as such by the payor, will depend upon the circumstances of each case. Thus, in the case of excessive payments by corporations, if such payments correspond or bear a close relationship to stockholders, 136 and are found to be a distribution of earnings or profits, the excessive payments will be treated as a dividend. * * Respondent's determination in this case that a substantial portion of the payments in question was dividends is presumed to be correct, and petitioner bears the burden of proving it to be erroneous. Rule 142(a); Botany Worsted Mills v. United States, 278 U.S. 282">278 U.S. 282 (1929). The leading case on the question before us by the Court of Appeals for the Ninth Circuit, to which our decision is appealable, is Elliotts, Inc. v. Commissioner, 716 F.2d 1241">716 F.2d 1241 (9th Cir. 1983), revg. and remanding T.C. Memo 1980-282">T.C. Memo. 1980-282. In Elliotts the following factors are listed as determining whether compensation paid by a corporation to its officer-stockholders is reasonable: (a) The character and condition of the corporation; (b) the officer-stockholders' roles in the corporation; (c) the existence of internal consistency in the establishment of compensation for the officer-stockholders; (d) a comparison of the officer-stockholders' salaries with those paid to similar employees, by similar companies, 137 for similar services; and (e) indications of conflicts of interest in the establishment of compensation levels. Similar factors have been considered by this Court on many occasions. E.g., Modernage Developers, Inc. v. Commissioner, T.C. Memo 1993-591">T.C. Memo. 1993-591; Nelson Brothers, Inc. v. Commissioner, T.C. Memo 1992-726">T.C. Memo. 1992-726. At the outset it is noted that in Elliotts, the Court of Appeals rejected the rule that the failure to pay dividends is of itself indicative of a distribution of disguised dividends; i.e., the automatic dividend rule of Charles McCandless Tile Service v. United States, 191 Ct. Cl. 108">191 Ct. Cl. 108, 422 F.2d 1336">422 F.2d 1336 (1970). See also Owensby & Kritikos, Inc. v. Commissioner, 819 F.2d 1315">819 F.2d 1315, 1326-1327 (5th Cir. 1987), affg. T.C. Memo. 1985-267, where the Court of Appeals also rejected the McCandless rule as follows: We reject the so-called automatic dividend rule -- under which even reasonable compensation to shareholder-employees is automatically deemed to include disguised dividends if the corporation has been profitable138 and has not paid dividends. We conclude, however, that the absence of dividend payments by a profitable corporation that has offered no specific reason for its failure to pay dividends is one of the factors a court may consider when addressing the reasonableness of compensation paid by that corporation to its shareholder-employees. A corporation's dividend practices should not, however, be viewed in a vacuum. An investor may garner a return on his investment through either dividends or appreciation in the value of his stock. For reasons acceptable under the tax code, many investors prefer stock appreciation over dividends. And indeed, many corporations with publicly traded stock pay no dividends. Therefore, the court should look not only at a corporation's dividend practices, but also at the total return the corporation is earning for its investors, its shareholders. [Citing Elliotts Inc. v. Commissioner, 716 F.2d at 1246-1247.] The prime indicator of the return a corporation is earning for its investors is its return on equity.In the case before us, as in Elliotts and Owensby, we focus on the issue of the reasonableness of the compensation139 paid to petitioner's officers. Elliotts, Inc. v. Commissioner, supra at 1245. Therefore, in this case we must apply each of the factors set forth in Elliotts to the facts in the record before us. 1. The Character and Condition of the CorporationThe character and condition of the corporation in this case are strong and clearly indicate that its officers have done an excellent job from its incorporation through the years under consideration and deserve to be reasonably compensated for its success. By the standard measures of solvency, i.e., current ratio and quick ratio, petitioner's financial position is highly liquid even though petitioner incurred a relatively small loss for 1989. The loss is explained, however, in part by a decline in sales, and in part by a change during the year to a more accurate system of accounting for cost of goods sold. Petitioner also experienced a cash shortage in 1989, but its officers lent petitioner $ 210,000 rather than borrow from outsiders or abandon their formula for determining the amount of their total compensation. The loan was repaid in less than 6 months. 2. Role of Officer-shareholders140 We turn now to the role of each of the officers in the company. Ted is clearly the key employee. He has the technical knowledge to develop new products and the know-how and technical ability to modify petitioner's machinery and to supervise its manufacturing operations. It is clear that since the death of Max, Ted has been primarily responsible for the development of new products for petitioner as well as for the modification and care of its equipment which accounts to a substantial degree for the high productivity achieved in petitioner's manufacturing operations. He is the family member who knows and most often uses knowledge of Kool Deck's secret formula to complete a key phase of its production. His dedication to petitioner's service is great; he is on call 24 hours a day and puts in an 80-hour week, and even the relatively small amount of his time which is devoted to the affairs of Tucson Foam indirectly benefits petitioner. He is the one employee of petitioner who is irreplaceable. Ann and Don bring diverse talents to bear on their jobs. They both know and are capable of using the formula for Kool Deck. In addition Don is in charge of purchasing, and is responsible141 for petitioner's computer system. He is trained in business administration, a fact which accounts for his ability to cut costs and streamline petitioner's operations. The joint in-house production of advertising materials by Ann and Don and their capacity, with Ted and Jo, to perform other people's jobs are obviously important factors in petitioner's ability to operate efficiently and profitably with such a small staff of other employees. We are satisfied that it would be difficult to find other officers who could handle the amount and variety of work done by Ann, Don, and Ted. Replacing them might involve hiring an entire management team. Don, like Ted, puts in extraordinarily long hours and is on call 24 hours a day. Here again the relatively small amount of his time which is devoted to other affairs does not decrease his value to petitioner. In fact, the time devoted by him to the affairs of Tucson Foam is directly beneficial to petitioner. We do not agree with respondent's expert that Ann devotes only 80 percent of her time to petitioner. Like the other members of the family, she puts in very long hours for petitioner. Furthermore the additional activities she pursued142 during 1988 and 1989 do not appear to have detracted from her service to petitioner; and in the case of Tucson Foam these activities were of benefit to petitioner. She effectively handles petitioner's sales and, by reason of her long association with petitioner and knowledge of its affairs, she was beginning to take over some of Jo's responsibilities during 1988 and 1989. Jo has been actively involved in the business operated by petitioner since such business was founded as a sole proprietorship by Max several years prior to petitioner's incorporation. Therefore, even though she was unable to appear at the trial and the record contains evidence that she is over 70 years of age, is suffering from some ill health, and may be at least partially retired with Ann taking over some of her duties, it is apparent from the record as a whole: (1) That Jo is a very capable person and extremely knowledgeable of petitioner's business; (2) that during 1988 and 1989 she participated in many if not all of the major managerial decisions made for petitioner; (3) that her participation in such decisions was of considerable value to petitioner; and (4) that as part owner of the formula for Kool Deck143 and as the owner of Max's patents, she consented to the use by petitioner of these valuable assets. We are also satisfied that her age and the reduction, if any, in her day-to-day participation in the corporate affairs of petitioner during its fiscal years 1988 and 1989 are more than offset by the knowledge and experience she has gained from her years of service to the corporation. See Levenson & Klein, Inc. v. Commissioner, 67 T.C. 694">67 T.C. 694 (1977). Furthermore, somewhat higher compensation than might normally be expected can be reasonable where as here such compensation is paid to an aged employee of long service by a corporate employer like Mortex which has no fringe benefits such as a pension plan. See Kennedy v. Commissioner, 671 F.2d 167">671 F.2d 167, 175, (6th Cir. 1982), revg. 72 T.C. 793">72 T.C. 793 (1979). Carlene was admittedly new to the business in the years in question and was being trained in bookkeeping and export documentation by Ann. However, we are unable to agree with the conclusion of respondent's expert that she was a part-time employee. Nevertheless, the record does fail to include facts to document144 Carlene's exact duties. Consequently, we are not persuaded that during 1988 and 1989 she was actually serving in an executive capacity. We conclude, therefore, that her salary was excessive for a new employee who was still in training. In summary on this point, we find that, with the exception of Carlene, all of petitioner's officers have over the years done an extraordinarily good job and deserve to be well compensated, especially in view of the fact that their combined knowledge, skills, long hours, and hard work have enabled petitioner to consistently conduct an unusually large volume of business with a relatively small staff. The extreme dedication and devotion demonstrated in this case by Ted, Jo, Ann, and Don to the successful business affairs of petitioner not only during the years under consideration but for several years prior thereto is something which an independent investor would take into consideration in arriving at a reasonable compensation for them. Elliotts, Inc. v. Commissioner, 716 F.2d at 1246. 3. Internal Consistency in the Establishment of CompensationA third factor to be considered in determining the reasonableness145 of compensation levels is the existence or the lack of internal consistency in the establishment of the compensation including bonuses 14 paid to stockholder-officers. "Bonuses that have not been awarded under a structured, formal, consistently applied program generally are suspect. * * * On the other hand, evidence of a reasonable, longstanding, consistently applied compensation plan is evidence that the compensation paid in the years in question was reasonable." Id. at 1247. For the purpose of determining whether such a formula existed in this case, we have considered figures for years prior to the years in question, since "The reasonableness of a longstanding formula should not be determined on the basis of146 just one or two years." Id. at 1248. The record contains evidence from which we find that petitioner had a longstanding plan that the total compensation for its officer-stockholders was to be approximately 30 percent of its net sales. As set forth in our findings, such compensation paid by petitioner to its officers during the 12 years ending with fiscal 1989 ranged from a low of 27 percent in 1989 to a high of 38 percent in 1985 and 1986 of net sales for an average of 32 percent. This finding supports a conclusion that such a plan was in existence, especially in view of the fact that petitioner's net sales could not be accurately projected and had to be estimated at the time the commission or bonus portion of the compensation was paid. 4. Comparison of the Total Compensation Paid by Petitioner to Its Officer-stockholders With Salaries Paid by Other Employers to Similar Employees for Similar ServicesThe fourth factor to be considered is a comparison of the compensation paid by petitioner to its officer-stockholders with compensation paid by similar companies for similar services. Id. at 1246; sec. 1.162-7(b)(3), 147 Income Tax Regs. Petitioner's expert readily admitted that he was unable to find a company with officers having the ability to generate the success demonstrated by petitioner with a similar number of nonofficer employees. Consequently on this issue, the only detailed evidence in the record was provided by respondent's expert. However, respondent's expert based his conclusions upon an analysis of firms manufacturing concrete products which had a similar volume of sales. From such analysis he concluded that the compensation received by petitioner's officers was unreasonable, since their compensation was significantly higher than compensation received by individuals holding similar positions in the upper quartile of such firms. We, however, are not convinced from the record before us that the firms chosen by respondent's expert constitute employers with officers who provided services of the quality and volume provided by petitioner's officers. This is apparent from his description of the services provided to petitioner by Ted, Jo, Ann, and Don. His description of their services is far from accurate since it tends to limit the services provided by petitioner's officers to those148 provided by the occupants of the usual corporate offices with similar titles rather than the extraordinary services provided by these individuals. From the record before us, we are also unable to agree with the conclusions of respondent's expert that Ann was a less than full-time employee or that Jo was essentially retired. With regard to the trade secret represented by the formula for Kool Deck, respondent's expert on cross-examination conceded that in the preparation of his report he was under the erroneous impression that knowledge of the Kool Deck formula was not limited to Ted, Jo, Ann, and Don, but was also known by at least the one trusted employee referred to in our findings. Therefore, the expert concluded that since the trusted employee admittedly did not receive any additional compensation from petitioner for her knowledge of the formula, the officers were not entitled to any additional compensation for their knowledge. The expert also conceded that the actual holders of such knowledge were entitled to rewards for keeping it secret so that it was available only to petitioner. With regard to the patents obtained by Max during his life, but owned and made available to149 petitioner by Jo during the years under consideration, respondent's expert apparently concluded as contended by respondent's counsel that, if the payments made to Jo represented consideration for the use of the patents, such payments are not deductible because they did not constitute "compensation for personal services actually rendered." We do not agree. Such payments may still be deductible because they were paid for a short-term benefit, inasmuch as Jo was free at any time to withhold her patents. See T.J. Enterprises, Inc. v. Commissioner, 101 T.C. (1993). 5. Indications of Conflicts of Interest in the Establishment of CompensationFinally we consider factors which may indicate conflicts of interest in the establishment of compensation levels. Where officer-shareholders who are in control of a corporation set their own compensation, careful scrutiny is required to determine whether the alleged compensation is not in fact at least in part a distribution of profits. Charles Schneider & Co. v. Commissioner, 500 F.2d 148">500 F.2d 148, 152 (8th Cir. 1974), affg. T.C. Memo. 1973-130; Logan Lumber Co. v. Commissioner, 365 F.2d 846">365 F.2d 846, 851 (5th Cir. 1966),150 affg. on this issue T.C. Memo. 1964-126; Home Interiors & Gifts v. Commissioner, 73 T.C. 1142">73 T.C. 1142, 1156 (1980). The Court of Appeals in Elliots, Inc. v. Commissioner, 716 F.2d at 1247, evaluated the reasonableness of compensation payments paid to corporate officers from the perspective of a hypothetical independent shareholder as follows: If the bulk of the corporation's earnings are being paid out in the form of compensation, so that the corporate profits, after payment of the compensation, do not represent a reasonable return on the shareholder's equity in the corporation, then an independent shareholder would probably not approve of the compensation arrangement. If, however, that is not the case and the company's earnings on equity remain at a level that would satisfy an independent investor, there is a strong indication that management is providing compensable services and that profits are not being siphoned out of the company disguised as salary. [Fn. ref. omitted.]In the case before us respondent contends that petitioner has failed to demonstrate that a hypothetical independent 151 shareholder would be satisfied with the return on an investment in petitioner during the years in question. In support of this contention, respondent points out that petitioner's expert report focused upon the value of the corporation at the end of fiscal year 1989 rather than upon its growth, that petitioner's balance sheet indicates a growth of only a modest 4.8 percent during the years under consideration, and that petitioner's own expert concluded that petitioner had no goodwill. Under these circumstances, respondent contends that an independent shareholder would not be willing to forgo dividends from petitioner while a significant portion of its earnings were paid out as salaries and commissions to its officer-shareholders. See Home Interiors and Gifts v. Commissioner, supra.Respondent further contends that petitioner fails to satisfy the independent investor standard set out and discussed in Elliotts, Inc. v. Commissioner, supra, because petitioner's value as a going concern is dependent upon (1) continued access to the trade secret represented by the Kool Deck formula, as well as to the patents obtained152 by Max and owned by Jo, since petitioner admittedly has no legal right to use the formula or the patents in its manufacturing operations; and (2) continued access to Ted's special services and to a lesser extent the special services of Ann and Don, since petitioner has no contractual right to such services. Respondent contends that the loss of any one or all of these services would seriously decrease or even wipe out petitioner's value as a going concern and leave nothing but the equipment and real estate for an independent investor. To the contrary, in our view, while respondent's argument is well made, it arrives at an incorrect conclusion. Petitioner admittedly has no right of access to the Kool Deck formula, which is known only to Ted, Ann, Don, and Jo, or to the patents, which are the property of Jo. Therefore, the exclusive provision of these items as well as the special services of Ted, Don, and Ann represent a substantial part, if not all, of the reason for petitioner's success and for the increase over the years in petitioner's value from $ 200,000 in 1976 to a conservative appraisal in 1989 of $ 1,851,166, an increase of over 900 percent or an average annual increase153 during the period of 69.2 percent. Such an increase in the value of his investment in the stock of a corporation would undoubtedly impress an independent investor whether or not he received dividends. See Owensby & Kritikos, Inc. v. Commissioner, 819 F.2d at 1326; Elliotts, Inc. v. Commissioner, 716 F.2d at 1247 n.6. Therefore, under the circumstances, and using our best judgment after weighing the conflicting interests involved, we conclude that, with the exception of the compensation paid to Carlene, the compensation paid by petitioner to its officers during 1988 and 1989 is reasonable and petitioner is entitled to the deductions claimed for such compensation. However, from the record before us we are unable to conclude that Carlene assumed the full responsibilities of a corporate officer during the years under consideration. Therefore, after taking into consideration the salaries paid by petitioner to nonofficer employees and the salary paid to Carlene by Tucson Foam during the same years, we find that reasonable compensation for the services rendered to petitioner by Carlene during 1988 and 1989 was $ 20,000 and*154 $ 25,000, respectively. Decisions will be entered under Rule 155. Footnotes1. The concessions concern the characterization of various amounts as capital expenses or ordinary deductions.↩2. All statutory references are to the Internal Revenue Code in effect for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure, unless otherwise indicated.↩3. The resolution of this issue will determine the amount of a net operating loss which petitioner is entitled to carry back from fiscal year 1989 to fiscal year 1986 and the amount of investment tax credit which petitioner is entitled to carry forward from fiscal year 1986 to fiscal year 1987.↩4. As indicated hereinafter, Bart in 1979 formed Tucson Foam Board, a separate company, for the manufacture of foam board for petitioner, but during the tax years under consideration Bart was no longer a stockholder or employee of petitioner. During such years Ted and Ann with their spouses owned all of the stock in Tucson Foam & Equipment, Inc., the successor to Tucson Foam Board.↩5. The officers are also the directors of petitioner.↩6. The name "Keystone Kool Deck" and the phrase "The Original Keystone Kool Deck Mortex and Co." are registered trademarks which were obtained by Max and assigned to Mortex in 1985.↩7. During fiscal years 1987, 1988, and 1989, petitioner had 11 full-time nonofficer employees. During 1987 these employees were paid salaries from a low of $ 13,382 to a high of $ 27,168. Each such employee received a bonus which ranged from a low of 13.4 percent to a high of 25.8 percent of the employee's salary. During 1988 petitioner's nonofficer employees were paid salaries ranging from a low of $ 13,272 to a high of $ 27,168. Each employee received a bonus from a low of 15.2 percent to a high of 26.9 percent of the employee's salary. During 1989 petitioner's 11 nonofficer employees received salaries from a low of $ 16,332 to a high of $ 30,305. Each received a bonus from 8.3 percent to 29.7 percent of the employee's salary. It is apparent, therefore, and we so find, that during the years under consideration petitioner had an established history of paying a base salary plus an annual bonus in a substantial amount to each of its nonofficer employees.↩8. The home office contains a complete facility for producing brochures and videotapes including computers, laser printers, light tables, and other equipment.↩9. The record contains an application by Jo dated June 26, 1987, for split-dollar insurance, which includes a statement that she was retired, and in a letter to the IRS Jo stated that at that time she was reachable at home during the day. On brief respondent contends that these facts support a finding that Jo was fully retired during the years at issue. However, such a finding is not supported by the record as a whole.↩1. The disproportionate increase in cost of sales for 1989 stems from the fact that for 1985 through 1988 only purchases and freight were included in cost of sales, while for 1989 labor, depreciation, and certain other costs were included.↩10. In his report petitioner's expert uses 34 percent for 1988, which is an apparent error.↩11. Over the years an attempt has been made by the officers and directors to keep their total compensation to approximately 30 percent of petitioner's net sales, but variations occur because the amount of the commissions has to be determined and paid before net sales can be finally determined.↩12. Sources used included surveys by Robert Morris Associates and Ernst & Young and reports by Wyatt Executive Compensation Service and Conference Board Top Executive Compensation.↩13. We are not persuaded by respondent's contention that the Stegmeier Corp. is a comparable business because the record clearly indicates that this is a less profitable competitor of petitioner whose principal, William J. Stegmeier, formerly worked for Max Deason and whose product is not comparable in quality to petitioner's Kool Deck.↩14. That amount of the compensation paid by petitioner to each of its officers in excess of salaries was shown as "commissions" on petitioner's returns in schedules headed "Other Deductions". However, at trial and on brief both parties referred to such amounts as "bonuses".↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619743/	Office Communications Company, Inc. v. Commiissioner.Office Communs. Co. v. CommiissionerDocket No. 2768-70. United States Tax CourtT.C. Memo 1972-14; 1972 Tax Ct. Memo LEXIS 243; 31 T.C.M. (CCH) 33; January 17, 1972, Filed 243 Business expenses: Officer's compensation: Reasonableness: Attorneys Fees: Allocation. - 1. Petitioner was in the telephone answering service business. On the average it employed eight operators who were responsible for receiving messages and relaying them to petitioner's customers. The operators also performed a few clerical duties. Petitioner's only other employee was its president and sole shareholder, Hendrix, to whom it paid a salary of $18,000 in 1966 and 1967. Hendrix was a diligent and tireless worker for petitioner who performed all supervisory, clerical, secretarial, and accounting services which were necessary for petitioner's operation. Held: A reasonable salary for Hendrix' services in each year would have been $13,000. 2 Held: Deductions for attorneys' fees were allocated between petitioner and Hendrix. 244 Moyer P. Hendrix (president), 614 Nissen Bldg., Winston-Salem, N.C., for the petitioner. Steve C. Horowitz, for the respondent. IRWINMemorandum Findings of Fact and Opinion IRWIN, Judge: Respondent determined the following deficiencies in petitioner's income taxes: YearDeficiency1966$1,839.0819671,964.85 The deficiencies are based upon respondent's determination in each year that part of the salary paid to petitioner's president and sole shareholder was not reasonable compensation and that amounts paid as legal fees were not ordinary and necessary expenses of petitioner's business. Findings of Fact Petitioner is Office Communications Company, Inc., a corporation chartered under the law of North Carolina which had its principal place of business at all relevant times in Winston-Salem, N.C. Petitioner filed its corporate income tax return for 1966 with the district director of internal revenue, Greensboro, N.C., and for 1967 with the director, Southeast Service Center, Chamblee, Ga.In 1966 and 1967, Moyer P. Hendrix (hereafter Hendrix) was the president and sole stockholder of petitioner. Hendrix has occupied the presidency245 since 1950. Petitioner was engaged in the telephone answering service business in Winston-Salem. N.C. Petitioner employed on the average eight operators who provided 24-hour a day telephone answering service. The operators would reutinely receive telephone messages for petitioner's customers which were noted on a message pad and relayed back to the customer at a later time. In addition, the operators kept track of the hours that they worked and prepared a record of all daily calls which indicated the customer receiving the calls. Occasionally, the operators would perform clerical or office functions such as stuffing and stamping envelopes for billing and interviewing job applicants. Petitioner had no employees other than the operators and its president, Hendrix. In addition to being the president of petitioner, Hendrix was a certified public accountant. Hendrix, who practiced as a sole proprietor, provided general accounting services (including preparation of Federal and state tax returns) to his numerous accounting clients. Hendrix also performed all office functions with respect to his accounting practice himself. Hendrix earned fees in his accounting practice of about $17,000246 in both 1966 and 1967 with net profits of about $14,000 and $16,000, respectively. Hendrix also owned a farm with his brother which was located in Sparta, N.C. (about 75 miles from Winston-Salem). Hendrix' brother took care of the day-to-day management of the farm; however, Hendrix himself did contribute some accounting and clerical services to the farm operations. Hendrix was a tireless worker. He had no hobbies. He worked nights, weekends, and holidays. Accordingly, Hendrix devoted as much time to his duties as president of petitioner as would a normal full-time president without any outside businesses. Petitioner supervised the operation of the answering service, solicited customers, prepared monthly statements for customers, kept the books and records, and performed all accounting and clerical services 34 necessary to the operation of the business. When necessary, petitioner would man the switchboards in order to insure continuous service for his customers. During 1966 and 1967, Hendrix' burden of providing accounting services for petitioner was increased some-what because petitioner was under investigation for both criminal and civil tax fraud for prior years. Form247 1959 to 1965 petitioner never paid Hendrix a salary in excess of $6,500; however, for both 1966 and 1967 it paid him $18,000. Respondent disallowed as unreasonable $11,500 of petitioner's deduction in each year for Hendrix' salary. The following table represents petitioner's financial picture during the years at issue: GrossOperators'Net ProfitYearReceiptsSalaries(or Loss)1966$48,434.49$21,290.53($8,091.61)196756,600.1425,013.63(5,407.37)On September 17, 1965, a joint tax investigation of petitioner and Hendrix was initiated. The law firm of Craige, Brawley, Lucas & Horton, Winston-Salem, N.C., was retained by petitioner and Hendrix to represent both of their interests. On January 6, 1966, a $6,000 retainer fee was paid to the law firm by Hendrix, who advanced the money because petitioner did not have the necessary funds. In May 1967, an additional $3,000 was paid to the law firm. For these amounts the law firm conducted an investigation and did research into the tax problems of petitioner and Hendrix. It also represented both of them at conferences with various representatives of respondent. For 1966, petitioner248 deducted $5,000 as an expense for professional services on its corporate tax return while Hendrix deducted the remaining $1,000 paid to the attorneys as an expense on his personal income tax return. The entire $3,000 paid to the attorneys in 1967 was deducted by petitioner on that year's return. Opinion Petitioner is in the telephone answering business offering service seven days a week, 24 hours a day. On the average petitioner employs eight operators who receive calls and take messages and perform some clerical functions. Petitioner's only other employee is its president and sole stockholder, Hendrix, to whom it paid a salary of $18,000 in both 1966 and 1967. Respondent disallowed deduction of $11,500 of the salary paid in each year to Hendrix on the ground that ti represented unreasonable compensation. Respondent also disallowed deductions in the amount of $5,000 in 1966 and $3,000 in 1967 for legal services which respondent contends were not ordinary and necessary expenses of petitioner's business because they were incurred on behalf of and for the benefit of Hendrix individually. Reasonable Compensation Whether a particular salary represents reasonable compensation for249 services that can be deducted under section 162 is a question of fact to be determined in light of all facts and circumstances. Hoffman Radio Corp. v. Commissioner, 177 F. 2d 264 (C.A. 9, 1949). However, respondent's determination of reasonableness is presumed correct and petitioner has the burden of proving that a greater salary was warranted upon the facts. Botany Mills v. United States, 278 U.S. 282">278 U.S. 282 (1929); Miller Mfg. Co. v. Commissioner, 149 F. 2d 421 (C.A. 4, 1945). In this case, respondent found that only $6,500 of the $18,000 paid Hendrix each year as salary was reasonable compensation. This determination was based upon the following factors: (1) the salary that petitioner paid Hendrix in prior years (which never exceeded $6,500); (2) the operating losses that petitioner would sustain if greater salaries were allowed; (3) the unrelated business activities of Hendrix; and (4) the salaries paid to the chief executive officers of other corporations in the same line of business as petitioner. See Mayson Mfg. Co. v. Commissioner, 178 F. 2d 115 (C.A. 6, 1949). We find respondent's arguments to be persuasive only in part. While250 salaries paid in prior years are to be considered in determining whether a current salary is reasonable, the payment of a low salary in prior years does not necessarily preclude the payment of a larger one in later years. Similarly, a particular salary may be deemed reasonable even if the business is not profitable. As we noted, all circumstances must be considered; however, a reasonable salary is generally assumed to be one which an unrelated employer would pay for the same services in similar circumstances. Hecht v. United States, 54 F. 2d 968 (Ct. Cl. 1932). Section 1.162-7(b)(3), Income Tax Regs. In essence, we are to determine what the 35 services of Hendrix would be worth on the open market. The record in this case is marked by a lack of cooperation between the parties and an extreme bitterness on the part of petitioner toward respondent. Only one thing is really clear upon the record: that petitioner was a relentless worker. Although we discount a bit as hyperbole Hendrix's testimony that he worked 50 to 60 hours per week for petitioner, we do believe that by working evenings and weekends he was able to devote as much effort to251 petitioner's affairs as any unrelated full-time president would have done. In addition, Hendrix performed duties for petitioner that were outside of the scope of the usual duties for a chief executive. Petitioner did not employ any clerks, secretaries, or bookkeepers in its business; Hendrix performed all of the clerical, secretarial, and accounting services that were necessary for the business. Hendrix was a factotum who did everything but answer the phones for petitioner's answering service; and on occasion he would even perform that job. We are convinced that the services that Hendrix performed for petitioner were unusual and not comparable to those described by respondent's expert witness. This witness testified that he received a salary of $18,000, which he considered reasonable, for managing an answering service business which was several times larger than petitioner's; however, the witness indicated that he had several executive supervisory personnel assisting him and that he did not perform any clerical, secretarial, or accounting duties for his employer. Similarly, the witness indicated that the industry-wide average rate of pay for chief executives, eight to ten percent252 of gross receipts, probably did not encompass essentially oneman businesses like petitioner's. Hendrix testified that his salary was composed of two items, a regular salary of $12,000 and an extra payment of $6,000 to compensate him for unusual legal and accounting services performed in response to the tax investigations. 1 Upon the record, we hold that a reasonable compensation for petitioner's president for 1966 and 1967 would have been $13,000. We have discounted the $18,000 actually paid in each year to reflect the fact that petitioner was not profitable and that Hendrix was unable to document completely his performance of claimed extraordinary accounting services because of the tax investigation of petitioner during the years in issue. On the other hand, we do believe that Hendrix worked diligently to try to make petitioner profitable and that respondent substantially underestimated his efforts on behalf of petitioner. 253 Legal Fees In 1966 petitioner paid $6,000 with funds advanced by Hendrix to a local law firm to represent the interests of petitioner and Hendrix during a joint tax investigation of petitioner and Hendrix. Petitioner paid an additional $3,000 to the attorneys in 1967. The attorneys did not allocate their services between petitioner and Hendrix individually in preparing their bills; however, petitioner deducted as an expense for professional services $5,000 of the $6,000 paid in 1966 and all of the $3,000 paid in 1967 on its corporate income tax returns. It is clear from the exhibits submitted by the parties and from the testimony of respondent's witness, Ralph S. Chandler, (the purpose of whose testimony was to show that Hendrix did not deeply involve himself in the problems raised by the tax investigation) that the attorneys were working on behalf of both petitioner and Hendrix individually. Accordingly, respondent's disallowance of the entire deduction for professional services appears to us unwarranted and arbitrary. Upon examination of the record we hold that one-half of the services performed benefitted and were on behalf of petitioner. Because there is ample evidence in254 the record upon which an allocation of the fees can be based, the present case is distinguishable from Arthur Jordan, 12 B.T.A. 423">12 B.T.A. 423 (1928), and Aaron Michaels, 12 T.C. 17">12 T.C. 17 (1949), which are cited by respondent. In these two cases there was no evidence in the records upon which an allocation could be based; therefore, the disallowance by respondent of the entire deduction for legal fees was of necessity sustained. In view of the substantial penalties to which petitioner might have been subject as a result of the investigation, we fail to understand respondent's further contention that all of the legal expenses were personal to Hendrix. In view of the foregoing, Decision will be entered under Rule 50. 36 Footnotes1. Hendrix apparently estimated his own legal services to petitioner to be worth at least as much as those of the law firm which also charged $6,000. Our estimation of reasonable compensation for Hendrix does include an element to compensate Hendrix for unusual services performed in response to the tax investigations.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619744/	The Piedmont Corporation v. Commissioner.Piedmont Corp. v. CommissionerDocket No. 4990-65.United States Tax CourtT.C. Memo 1966-263; 1966 Tax Ct. Memo LEXIS 19; 25 T.C.M. (CCH) 1344; T.C.M. (RIA) 66263; December 6, 196619 Burnett and Loewenstein acquired valuable option rights to purchase a tract of land. They owned all the stock of the petitioner, which acquired the option rights from them. Before this acquisition, the petitioner had a total paid-in capital of $60. They [Burnett and Loewenstein] received in return for the option rights the unsecured promissory notes of petitioner in the amount of $160,000 plus $10,000 cash. Held: The transfers of the option rights were equity contributions, and the promissory notes are regarded for tax purposes as preferred stock. The transactions are governed by sec. 351, I.R.C. 1954, and the basis provisions of sec. 362 are applicable. Held further: Payments of purported interest on the "notes" were in reality dividends on preferred stock and not deductible by petitioner. Claude C. Pierce, 440 W. Market St., Greensboro, N. C., and Jerry W. Amos, for the petitioner. Harvey S. Jackson, for the respondent. SIMPSONMemorandum Findings of Fact and Opinion SIMPSON, Judge: Respondent determined deficiencies in income tax of petitioner, The Piedmont Corporation, for its taxable years ending April 30, 1960, April 30, 1961, and April 30, 1962, in the respective amounts 20 of $22,993.73, $1,257.91, and $7,031.29. The primary issue in this case is whether the assignment to petitioner of certain option rights held by its sole stockholders in return for $10,000 cash and $160,000 in unsecured promissory notes constituted a bona fide sale or a contribution to capital. If such assignment was a contribution to capital, a second issue is whether the assignment was a transfer within the meaning of section 351 of the Internal Revenue Code of 19541 and whether, therefore, the basis provisions of section 362 are applicable. Also, the question is presented of the deductibility of "interest" payments by petitioner on such notes during the taxable years at issue. Findings of Fact Some of the facts were stipulated, and those facts are so found. Petitioner is a North Carolina corporation with its principal office at Greensboro, North Carolina. For the taxable years at issue, petitioner filed its income tax returns, using the accrual method of accounting, with the district director of internal revenue, Greensboro, North Carolina. Petitioner was organized on October 13, 1949, but remained dormant with 21 nominal assets until November 14, 1957. During this period, a North Carolina franchise tax report was filed each year to keep the corporate structure intact. Oscar W. Burnett ("Burnett") has been associated with petitioner since its organization. During petitioner's dormant period, Burnett held one share of petitioner's stock with a par value of $10, which Burnett had purchased for $10. Petitioner's total issued and outstanding stock, since its organization, has consisted of six shares of $10 par value stock. In March of 1953, Edward Loewenstein ("Loewenstein") informed Burnett that Mrs. Julius Cone ("Cone"), Loewenstein's mother-in-law, was interested in selling her residence and adjoining land, consisting of approximately 11 acres (hereafter referred to as the "Cone property"). Cone agreed to offer the property for $65,000, and she wanted Loewenstein to have an interest in the property so that he might share in any profits to be derived from its development. Since Loewenstein, an architect, had relatively little business experience and Burnett was experienced in both investments and real estate development, the three parties discussed means of allowing both Loewenstein and Burnett 22 to share in the development of the land. Loewenstein suggested to Burnett that some arrangement to purchase the Cone property might be worked out through Bessemer Improvement Company ("Bessemer"). Bessemer was engaged in the business of developing property in the vicinity of the Cone property, and Bessemer would pay a substantial sum of money to obtain control of the Cone property. At all times relevant to this case, Burnett was the principal officer of Bessemer and the owner of 50 percent of its capital stock. Burnett's wife owned the other 50 percent of the stock. In July of 1953, Bessemer acquired title to the Cone property through a transaction that involved an exchange with a third party. The third party had wanted to buy a particular piece of property from Bessemer, and in exchange for this property paid its purchase price to Cone. Cone then transferred the Cone property to W.A. Stern, a trustee, who in turn transferred it to Bessemer. In September of 1953, Bessemer gave Loewenstein and Burnett an option to purchase the Cone property for the sum of $67,000. The option was for 10 years, but Loewenstein and Burnett could extend the option for an additional 10 years by the payment 23 of $500. Bessemer was entitled to develop the property and make improvements and erect buildings thereon, and the purchase price under the option would be adjusted accordingly. For purposes of the option, the Cone property was divided into four separate tracts. The purchase price under the option for Tract No. 1 was $30,930; for Tract No. 3, $10,300; for Tract Nos. 2 and 4, combined, $25,770. On November 14, 1957, Burnett acquired, for $20, two shares of petitioner's capital stock, and Loewenstein acquired the remaining three shares for $30. Burnett and Loewenstein have owned in equal shares all of petitioner's issued and outstanding capital stock from November 14, 1957, to the time of the trial of this case. During this time, petitioner's paid-in capital remained at $60. After November 14, 1957, the board of directors of petitioner consisted of Burnett, Loewenstein, and W. F. Williams. W. F. Williams resigned on May 31, 1961, and was replaced by Ernest H. Pittman. At all times relevant to this case, Burnett was president and Loewenstein was vice president of petitioner. Burnett and Loewenstein held their option on the Cone property until the fall of 1957. In the late summer and fall 24 of 1957, a very substantial area adjacent to the Cone property was acquired for the construction of a shopping center, which opened in 1959. At the time Burnett and Loewenstein acquired all of the capital stock of petitioner, on November 14, 1957, negotiations were already in progress concerning the sale of a lot from the Cone property. On November 14, 1957, a special meeting of the board of directors of petitioner was held at which the officers were authorized to acquire a portion held by Burnett and Loewenstein for $60,000, to be paid for by two unsecured notes for $30,000, one note payable to Burnett and one note payable to Loewenstein. The notes were each payable in $5,000 annual installments on November 22, 1958, to November 22, 1963, inclusive, with interest at 5 percent per annum. The officers were authorized to exercise the option rights with Bessemer and acquire title to Tract Nos. 2, 3, and 4 of the Cone property for a total price of $38,424.18. At that time, it was estimated by petitioner's officers that it would cost the petitioner at least $24,265 to develop the three tracts by putting in a street with sewers, curbs, and gutters. The assignment of the portion of the option 25 to petitioner by Burnett and Loewenstein was carried out on November 22, 1957. Petitioner immediately exercised such portion to purchase Tract Nos. 2, 3, and 4, and by deed dated November 22, 1957, Bessemer conveyed those tracts to petitioner subject to a deed of trust dated July 10, 1953, securing a note in the principal amount of $10,000, plus accrued interest, in favor of Sidney J. Stern, Jr., trustee. On December 9, 1957, petitioner gave Bessemer an unsecured promissory note in the principal amount of $11,070, with interest at 5 percent payable annually. The principal of the note was to be paid in annual installments through December 9, 1963. On March 3, 1958, a special meeting of the board of directors of petitioner was held at which the officers were authorized to acquire a portion of the option held by Burnett and Loewenstein covering part of Tract No. 1 for $70,000, to be paid for by two unsecured notes for $35,000, one note payable to Burnett and one to Loewenstein. The notes were each payable in $5,000 annual installments on March 3, 1959, to March 3, 1965, inclusive, with interest at 5 percent per annum. The officers were authorized to exercise the option rights and pay 26 Bessemer $20,000 for this portion of the land. The assignment of the option was carried out on March 3, 1958. Petitioner immediately exercised the right to purchase that part of Tract No. 1 pursuant to the assigned option, and by deed dated March 10, 1958. Bessemer conveyed the part of Tract No. 1 to petitioner in exchange for petitioner's unsecured promissory note in the principal amount of $20,000 with interest at the annual rate of 5 percent. The note was payable on or before March 10, 1959. On March 16, 1960, Burnett and Loewenstein assigned to petitioner their option covering the remaining portion of Tract No. 1 in return for a cash payment of $5,000 each and petitioner's unsecured notes in the principal amounts of $15,000 each. The notes provided for interest at the annual rate of 5 percent, and annual principal payments were due on March 16, 1961, to March 16, 1963, inclusive. Petitioner immediately exercised the right to purchase the remaining portion of Tract No. 1 pursuant to the assigned option. Cash in the sum of $10,930 was due Bessemer on the contract price for the Cone property, but, by deed dated March 16, 1960, petitioner conveyed back to Bessemer a parcel of the 27 Cone property that petitioner had acquired on November 22, 1957, in exchange for the remaining portions of Tract No. 1. Also on March 16, 1960, petitioner agreed to pay Bessemer $5,594.55 in satisfaction of taxes, insurance, and caretaking expenses incurred by Bessemer in connection with the Cone property. The consideration given by petitioner to Burnett and Loewenstein for each portion of the option it received was equivalent to, or less than, the fair market value of each portion. Petitioner had gross sales of real estate in the total amount of $37,500 for the taxable year ended April 30, 1958, $123,843.50 for the taxable year ended April 30, 1959, $74,500 for the taxable year ended April 30, 1960, no sales for the taxable year ended April 30, 1961, and $74,573.75 for the taxable year ended April 30, 1962. Petitioner also exchanged parcels of the Cone property for other property during such years. Petitioner, by May 20, 1958, had paid in full the unsecured promissory note in the principal amount of $11,070 it had given to Bessemer on December 9, 1957. The first installment on this note had not been due until December 9, 1958. On May 23, 1958, petitioner paid in full the unsecured 28 promissory note in the principal amount of $20,000 it had given the Bessemer on March 10, 1958. During the taxable years ended April 30, 1958, through April 30, 1964, petitioner paid to Burnett and Loewenstein interest in the total amount of $26,633.56 and, as payments of the principal sums due on each of its promissory notes, the amounts shown in the following schedule: $30,000 Note$35,000 Note$15,000 Notedated 11/22/57dated 3/ 3/58dated 3/16/60AmountAmountAmountAmountAmountAmountDateduepaidduepaidduepaid2/17/58$ 2,0006/13/586,50011/22/58$ 5,00012/29/58$10,000 3/ 3/592,000$ 5,0005/ 6/595,00010/ 1/592,50011/22/595,00012/ 4/595,000 3/ 3/605,00010/28/605,00011/22/605,0003/ 3/615,0003/16/61$ 5,0007/ 6/616,00011/22/615,0001/30/62$5,0003/ 3/625,0003/16/625,00011/22/625,0003/ 3/635,0003/16/63$ 5,0005/10/63$3,0009/10/63$ 3,50010/ 8/63$ 1,50011/22/63$ 5,0003/ 3/64$ 5,0003/ 3/655,000$30,000$24,000$35,000$25,000$15,000$8,000 From the time 29 of its formation to the present time, petitioner has not declared or paid any formal dividends to its stockholders, nor has petitioner paid any salaries to its officers. Petitioner reported as taxable income on its tax returns $25,436.33 for the taxable year ended April 30, 1960, $791.54 for the taxable year ended April 30, 1961, and $9,249,42 for the taxable year ended April 30, 1962. Petitioner had an accumulated earned surplus in each of the taxable years ended April 30, 1958, through April 30, 1962, both before and after it had made payments on the promissory notes given to Bessemer, Burnett, and Loewenstein. Petitioner's books of account reflect that it recovered through "cost of land sold" for the taxable years ended April 30, 1958, and April 30, 1959, approximately 75 percent of the $60,000 attributed to the option acquired from Burnett and Loewenstein on November 22, 1957, and approximately 25 percent of the $70,000 attributed to the option acquired from Burnett and Lowenstein on March 3, 1958. In the notice of deficiency, respondent reduced the basis of the property described in the options that petitioner sold during the taxable years ended April 30, 1960, April 30, 1961, 30 and April 30, 1962, in order to not only eliminate the remaining option costs, but also to recapture the option costs used by petitioner in computing its profit on realty sales for each of the taxable years ended April 30, 1958, and April 30, 1959. Petitioner also attributed portions of the purported "price" paid for the options to the cost of land sold on its Federal income tax returns for the taxable years ended April 30, 1958, through April 30, 1965. In addition, petitioner deducted the interest payments on its promissory notes to Burnett and Loewenstein in computing its income taxes for those taxable years. On their individual income tax returns for the years 1958 through 1962, Burnett and Loewenstein reported the amounts received from petitioner as payments of principal on the notes as long-term capital gain from an installment sale. The amounts received by Burnett and Loewenstein as payments of interest were reported on their tax returns as interest income. Opinion The primary issue in this case is whether the assignments of portions of the option on the Cone property by Burnett and Loewenstein to petitioner were bona fide sales or whether they were transfers to a controlled 31 corporation within the meaning of section 351. Petitioner contends that it purchased the options from Burnett and Loewenstein, giving its valid promissory notes in return for the options. Petitioner therefore maintains that its interest payments on such notes are deductible and that its basis for the land acquired by it should include the cost of the options. Respondent contends that the purported sales of the options were not bona fide and that Burnett and Loewenstein in reality placed whatever value the options might have had at the risk of petitioner's business, a contribution to capital. In cases like this, our objective is to look at all the circumstances surrounding the transfer of property to the corporation to ascertain whether the transfer is in effect a sale or a contribution of capital. Burr Oaks Corp., 43 T.C. 635">43 T.C. 635 (1965), affd. 365 F. 2d 24 (C.A. 7, 1966); Emanuel N. (Manny) Kolkey, 27 T.C. 37">27 T.C. 37 (1956), affd. 254 F. 2d 51 (C.A. 7, 1958). Although there were three transfers of property in the case before us, petitioner does not argue that each such transfer should be treated separately and independently of the others. Petitioner has instead presented his case as if 32 our decision as to the first transfer would be dispositive of the issues as to all three transfers. Consequently, we shall judge all transfers by the circumstances existing at the time of the first transfer. At the outset, we observe that the notes given in exchange for the property contain an unconditional promise to pay sums certain in money and that they include maturity dates which are fixed and not unreasonably delayed. They do not provide the holder with any voting rights. They do provide for the payment of interest which is not excessive, which is not dependent upon earnings, and which is due at a fixed time. In all these respects, the notes appear to create genuine indebtedness. The notes were not subordinated to the payment of other creditors. The payment of many obligations of the petitioner was accelerated, and the notes due Bessemer were generally paid in advance of the notes payable to Burnett and Loewenstein; nevertheless, the payments on the Burnett and Loewenstein notes were generally made on time until the respondent questioned whether the notes were valid. Thus, we do not have a situation in which in form the notes have been subordinated to the claims of other creditors, 33 nor in which in practice their payment has been postponed beyond the due dates in order to pay the claims of other creditors. Compare, Foresun, Inc., 41 T.C. 706">41 T.C. 706 (1964), affd. 348 F. 2d 1006 (C.A. 6, 1965); Gooding Amusement Co., 23 T.C. 408">23 T.C. 408 (1954), affd. 236 F. 2d 159 (C.A. 6, 1956), cert. denied 352 U.S. 1031">352 U.S. 1031 (1957). In these circumstances, we cannot infer that the notes have been subordinated in such a way as to indicate that they represent equity rather than debt. The prices purportedly paid for the option were not excessive. The larger the amount received for the transfer of the property the greater is the amount that can be treated as capital gain, and when the amount of the note significantly exceeds the value of the transferred property, that fact tends to indicate that the transfer was not a bona fide sale. Burr Oaks Corp., supra; Emanuel N. (Manny) Kolkey, supra. However, we have found that in this case the amount of the notes did not exceed the value of the option. Hence, the relationship between the amount of the notes and the value of the transferred property also supports a finding that the transfer was a sale. On the other hand, it is significant that Burnett 34 and Loewenstein received the notes in the same proportion as they owned stock in the corporation. Each owned one-half of the stock, and each received one-half of the notes. From this situation alone, we would not infer the notes represented an equity interest in the corporation. Yet, if the notes had been held in different proportions than the stock was owned, that fact would have strongly suggested that the notes were valid. Charles E. Curry, 43 T.C. 667">43 T.C. 667 (1965), acq. 2 C.B. 4">1965-2 C.B. 4. Accordingly, the fact that they held the notes in the same proportion as they held the stock is consistent with a conclusion that the notes represent an equity interest in the corporation. What this case turns upon, finally, is the lack of any significant capital in the corporation prior to the transfer of the options. See, Burr Oaks Corp., supra; Aqualane Shores, Inc., 30 T.C. 519">30 T.C. 519 (1958), affd. 269 F.2d 116">269 F. 2d 116(C.A. 5, 1959). We have found that before the corporation acquired the options, it had only $60 of capital. There was, accordingly, no significant capital cushion. The ability of the corporation to meet its obligation under the notes depended upon the success of the development and sale of the 35 land. Although the surrounding land had already been developed in part and sold, no one could be sure that the Cone property could be developed and sold for enough to meet the costs of the land paid to Bessemer, the expenses of developing the land, and the prices fixed for the portions of the option. If the land could not be sold for an amount in excess of all such costs, then the corporation could not satisfy fully all of its obligations. Since Burnett and Loewenstein had identical interests in the notes and the stock, it seems reasonable to infer that if the corporation had been unable to satisfy all of its obligations, the notes to them would have been subordinated. Thus, the option was in effect put at the risk of the business and was in effect a contribution of capital. This case is distinguishable from a situation in which there is a significant amount of capital. When there is some capital, there is some cushion to protect the holders of obligations of the corporation. In such a situation, it may be possible to find that a transfer of property in exchange for notes is a bona fide sale, notwithstanding that there may be a high ratio of debt to equity, Charles E. Curry, supra; 36 Ainslie Perrault, 25 T.C. 439">25 T.C. 439 (1955), acq. 1 C.B. 5">1956-1 C.B. 5, but it seems impossible to reach such a conclusion when there is no capital cushion. This case is also distinguishable from Sun Properties v. United States, 220 F. 2d 171 (C.A. 5, 1955). Although there was no significant capital contribution in that case, the property transferred to the corporation in exchange for notes already had a history of earning substantial income. For that reason, the holders of the notes took less risk than in the case before us. In summary, although in many respects the notes given to Burnett and Loewenstein resemble genuine indebtedness, we have concluded that the transfer of the option was in effect a contribution of capital, since the petitioner lacked any significant amount of capital and therefore the corporation's ability to pay the notes wholly depended upon the success of a new and speculative enterprise. The promissory notes received by Burnett and Loewenstein must be regarded as evidencing an equity investment. Since Burnett and Loewenstein as holders of these notes would occupy a preferred position to the holders of petitioner's common stock should such stock be transferred to third 37 parties, the notes, for tax purposes, can be classed as preferred stock. Burr Oaks Corp., supra. Since we have found that, in reality, the notes issued by petitioner to Burnett and Loewenstein were preferred stock, the socalled "interest" paid on the notes was a nondeductible dividend on preferred stock. Petitioner refers to Campbell v. Carter Foundation Production Company, 322 F. 2d 827 (C.A. 5, 1963), for the proposition that even if we should find that the transactions were transfers within the meaning of section 351, the interest on the indebtedness could still be deductible. However, the court in that case found a bona fide indebtedness whereas we have not been able to find such. It follows also that since we have found the notes issued to Burnett and Loewenstein to be preferred stock, the transactions in which the portions of the options were turned over to petitioner are clearly within section 351. Burr Oaks Corp., supra. In pertinent part section 351(a) provides: (a) * * * No gain or loss shall be recognized if property is transferred to a corporation by one or more persons solely in exchange for stock or securities in such corporation and immediately after the exchange 38 such person or persons are in control (as defined in section 368(c)) of the corporation. * * Petitioner's only argument with regard to section 351 is that even if no bona fide sales took place, the promissory notes issued to Burnett and Loewenstein constituted indebtedness, not securities or stock. Our finding that the notes constituted preferred stock disposes of this argument of petitioner. In the assignment of the third portion of the option, Burnett and Loewenstein each received $5,000 in cash from petitioner. The parties agree that this $10,000 total payment by petitioner should increase by that amount petitioner's basis in the Cone property. Section 362(a). Petitioner makes a final argument based on a stipulated fact. This fact is that: In the statutory notice of deficiency, the respondent has reduced the basis of the property described in said options that petitioner sold during the taxable periods ended April 30, 1960, through April 30, 1962, so as to not only eliminate the remaining "option costs", but to recapture also the "option costs"' used by petitioner in computing its profit on realty sales for each of the taxable periods ended April 30, 1958, and April 30, 1959. Petitioner 39 contends that this statement means that respondent reduced the basis for the property sold in the years ending April 30, 1960, 1961, and 1962, by an excessive amount, thereby not allowing petitioner its full basis (the amount paid to Bessemer for the property plus the cost of any improvements) for the lots sold in those years. In effect, petitioner contends that this action of respondent results in a readjustment of its tax for the years ending April 30, 1958, and April 30, 1959 - years that are not before the Court. We are unable to tell, from an examination of the notice of deficiency, whether petitioner's contention is true. However, respondent admits in his brief "that the elimination of the 'option costs' from the basis of the land would ultimately serve to recapture all option costs erroneously included in the 'cost of land sold' in prior taxable years". Respondent objects to this issue being raised since petitioner first raised the issue in its original brief rather than its pleadings. However, from an examination of his argument in his reply brief, respondent does not appear to be surprised by the raising of this issue. Respondent argues the merits of the issue in his reply 40 brief. Since the issue of allocation of basis is not the type of issue that requires the opportunity to present evidence, we do not believe that respondent would be at all prejudiced by its consideration. We believe that it is a well-settled rule that even though a taxpayer uses an incorrect basis for his sales in one year - a year that for some reason is not open to adjustment - he is entitled to use a correct basis in computing his gains in future years. In other words, each taxable year is to be considered separately, and a taxpayer is entitled to use his correct basis for all property sold in that year. Respondent cannot correct the errors of a prior tax year by making an adjustment in basis for the year before the Court. Commissioner v. Cedar Park Cemetery Ass'n, 183 F. 2d 553 (C.A. 7, 1950), affg. a Memorandum Opinion of this Court; Commissioner v. Laguna Land & Water Co., 118 F. 2d 112 (C.A. 9, 1941), affg. on this point a Memorandum Opinion of this Court; Leonard C. Kline, 15 T.C. 998">15 T.C. 998 (1950), acq. 2 C.B. 3">1951-2 C.B. 3. As applied to this case, the rule is simply that petitioner, for the taxable year ending in 1960, is entitled to use its correct basis for lots sold during that 41 year. The same is true for the other taxable years before the Court regardless of the fact that petitioner used, for taxable years ending before 1960, an incorrect basis for its lots sold in those years due to the erroneous inclusion in its basis of the purported cost of the options. For each taxable year before the Court, respondent can eliminate from the basis of lots sold by petitioner in that year that portion of the "cost" of the option attributed by petitioner to such lots sold. But respondent cannot recover option "costs" erroneously used by petitioner in computing its basis for lots sold in a prior year by eliminating from the basis of lots sold in years before the Court a greater portion of the option "costs" than is properly attributable to such lots. Decision will be entered under Rule 50. Footnotes1. All statutory references are to the Internal Revenue Code of 1954.↩. $10,000 was paid to Loewenstein on December 29, 1958, but payment in this amount was not made to Burnett until January 2, 1959. ↩**. $5,000 was paid to Loewenstein on December 4, 1959, but payment in this amount was not made to Burnett until March 16, 1960.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619746/	Samuel G. Robinson and Anne S. Robinson, Petitioners v. Commissioner of Internal Revenue, RespondentRobinson v. CommissionerDocket No. 6812-71United States Tax Court57 T.C. 735; 1972 U.S. Tax Ct. LEXIS 166; March 13, 1972, Filed 166 On Aug. 13, 1971, a notice of deficiency was mailed to the petitioners at an address which was not their last known address. Unless suspended, the period of limitations for assessing the deficiency expired on Sept. 15, 1971, and it is not known whether the notice of deficiency was received on or before such date. The petitioners concede that if the notice was received on or before such date, the period would have been suspended. On the following Sept. 29, a petition was filed with this Court seeking a redetermination of the proposed deficiency. Held, the petitioners have the burden of pleading and proving that they did not receive the notice of deficiency before the expiration of the period of limitations for assessment, and since they have offered no evidence as to when the notice was received, they have failed to establish that the notice was untimely. Thomas S. Loop, for the petitioners.Andrew S. Coxe and Bruce McArdle, for the respondent. Simpson, Judge. SIMPSON736 OPINIONThis case is before the Court on the petitioners' motion to strike the answer of the respondent. The motion raises the issue of which party has the burden of proving when a notice of deficiency is received where the notice is incorrectly addressed and the taxpayers plead the statute of limitations.On August 13, 1971, a notice of deficiency for the taxable year 1967 was mailed to the petitioners at 7821 Freret Street, New Orleans, La. 70118. At that time, the petitioners' address was 26 Audubon Place, New Orleans, La., and this address was known to the respondent. Unless suspended, the period of limitations for the making of an assessment in this case expired on September 15, 1971. See sec. 6503(a)(1), I.R.C. 1954. Neither the petitioners nor the respondent has undertaken to show when the notice was received by the petitioners, but it was apparently received by them sometime prior to September168 23, 1971, for on that date, they signed a petition to be filed with this Court. On September 29, 1971, they filed such petition alleging that the deficiency notice was improperly addressed, and alternatively contending that the respondent's determination of a deficiency was incorrect.The respondent filed his answer and admitted that the notice of deficiency was not addressed to the petitioners at their last known address. Thereafter, the petitioners filed a motion to strike the respondent's answer on the ground that it was predicated on a notice of deficiency which was not mailed to the petitioners at their last known address. In the alternative, the petitioners argued that since the notice was defective, the respondent has the burden of proving that the petitioners received actual notice of the proposed deficiency and that they received such notice before the expiration of the period of limitations for assessing the proposed deficiency. On the other hand, the respondent contended that the notice was valid as of August 13, 1971, because the filing of a timely petition in this Court demonstrated that the petitioners were not prejudiced by the incorrect address on the notice of169 deficiency. There have been two hearings at which the parties have presented their views.737 The statute of limitations is a defense in bar and not a plea to the jurisdiction of this Court. Badger Materials, Inc., 40 T.C. 1061">40 T.C. 1061 (1963). In establishing this defense, the petitioner "must make a prima facie case, which ordinarily means proof of the filing of the statutory return and the expiration of the statutory period; whereupon the respondent must go forward with countervailing proof." E. J. Lorie, 21 B.T.A. 612">21 B.T.A. 612, 614 (1930); see Knollwood Memorial Gardens, 46 T.C. 764">46 T.C. 764, 792 (1966); Anne Gatto, 20 T.C. 830">20 T.C. 830 (1953); C. A. Reis, 1 T.C. 8 (1942); M. A. Nicholson, et al., 22 B.T.A. 744">22 B.T.A. 744, 746 (1931); Bonwit Teller & Co., 10 B.T.A. 1300">10 B.T.A. 1300 (1928). Thus, if the petitioners plead and prove that they have not received a notice of deficiency before the running of the period of limitations, it is clear that they have met their burden of proof and that the respondent must then 170 show that the running of the period was in some way suspended. See James A. Rogers, 57 T.C. 711 (1972); T. W. Warner Co., 19 B.T.A. 872">19 B.T.A. 872 (1930); Bernicedale Coal Co., 16 B.T.A. 696 (1929).In the present case, although the petitioners have conceded that the receipt by them of the incorrectly addressed notice of deficiency on or before September 15, 1971, would have suspended the running of the period of limitations (cf. Whitmer v. Lucas, 53 F. 2d 1006 (C.A. 7, 1931); Bert D. Parker, 12 T.C. 1079">12 T.C. 1079, 1082 (1949); Daniel Thew Wright, 34 B.T.A. 84">34 B.T.A. 84 (1936), affirmed per curiam 101 F. 2d 309 (C.A. 4, 1939)), they have not even alleged that the notice was received after September 15, 1971. It is clear that they received the notice sometime prior to September 23, 1971, and it would have been a simple matter for them to present evidence as to when they actually received the incorrectly addressed notice of deficiency. As they have not shown when the notice was received, and as it*171 was conceded that receipt of the notice on or before September 15, 1971, would have suspended the period of limitations, we cannot ascertain from the evidence presented by the petitioner whether the statutory period for making an assessment has expired. We, therefore, find that the petitioners have failed to make a prima facie case (see E. J. Lorie, supra) because they did not plead and prove that they received the notice after the expiration of the statutory period. It follows that the respondent does not have the burden of going forward and proving that the notice was received on or before September 15, 1971. Accordingly, the petitioners' motion will be denied.As we reach this conclusion, we need not decide the question of whether the notice of deficiency was valid at the time of its mailing.An appropriate order will be issued.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619747/	ROBERT HERBERT CRUME, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentCrume v. CommissionerDocket No. 617-81United States Tax CourtT.C. Memo 1982-641; 1982 Tax Ct. Memo LEXIS 99; 45 T.C.M. (CCH) 39; T.C.M. (RIA) 82641; November 8, 1982. Robert Herbert Crume, pro se. Alan J. Pinner, for the respondent. FEATHERSTONMEMORANDUM FINDINGS OF FACT AND OPINION FEATHERSTON, Judge: This case was assigned for trial to Special Trial Judge Darrell D. Hallett, pursuant to the provisions of General Order No. 6, 69 T.C. XV (1978). The Court agrees with and adopts his report, which is set forth below. OPINION OF THE SPECIAL TRIAL JUDGE HALLETT, Special Trial Judge: Respondent determined a deficiency in petitioner's 1977 Federal income tax in the amount of $549. The issue for decision is whether petitioner is entitled to head of household filing status for the taxable year 1977. Petitioner resided in West Covina, California at the time the petition was filed. During the tax year100 1977, petitioner resided in La Puente, California. His ex-wife, from whom he was separated and living apart during the tax year 1977, resided in West Covina in an apartment. The two children of petitioner and his ex-wife resided with their mother in the West Covina apartment during the entire taxable year. Petitioner provided over one-half of the support for the two children for the year 1977. On his 1977 return, petitioner claimed dependency exemptions for the two children and he claimed head of household filing status. Although in the notice of deficiency respondent disallowed petitioner the dependency exemption for one daughter, respondent now concedes this issue, but maintains that the notice of deficiency correctly determined that petitioner is not entitled to head of household filing status. Under section 2(b), 1 insofar as applicable to this case, in order to qualify as head of household, an individual must maintain as his home a household which constitutes the principal place of abode of the individual's children. The statute is explicit in the requirement that the children have as their principal place of abode a household maintained by the taxpayer as his home, in101 addition to the requirement that the children qualify as dependents of the taxpayer. It is undisputed in this case that petitioner's two children had as their principal place of abode their mother's home, which was separate and apart from petitioner's home. Accordingly, we must sustain respondent's determination. Decision will be entered under Rule 155.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619748/	Albert M. Slater and Irene Slater v. Commissioner.Slater v. CommissionerDocket No. 58937.United States Tax CourtT.C. Memo 1959-125; 1959 Tax Ct. Memo LEXIS 123; 18 T.C.M. (CCH) 557; T.C.M. (RIA) 59125; June 16, 1959123 George B. Lourie, Esq., for the petitioners. Raymond T. Mahon, Esq., for the respondent. KERNMemorandum Findings of Fact and Opinion Respondent determined a deficiency in the Federal income tax of petitioners for the year 1950 in the amount of $18,837.37. The greater part of that deficiency and the only part here in issue results from respondent's determination that the fair market value of an apartment hotel received by petitioner Albert in the liquidation of a corporation wholly owned by him was $1,024,500. This property was sold by Albert during the taxable year for $1,000,000. Petitioners contend that the fair market value of the property when acquired in liquidation was $1,100,000. In their return petitioners reported a long-term capital gain resulting from such acquisition in the amount of $354,976.72, of which 50 per cent or $177,488.36 was returned as taxable income, and reported a short-term capital loss resulting from the sale of the property in the amount of $98,361.79, which they deducted in full from the long-term capital gain returned in the amount of $177,488.36, resulting in a net taxable gain of $79,126.57. Respondent, by reason of his determination124 that the fair market value of the property at the time of its acquisition by Albert was $1,024,500, computed 50 per cent of the long-term capital gain to be $139,738.36, the short-term capital loss to be $23,382.09, and the net taxable gain to be $116,356.27. Findings of Fact The stipulation of facts filed by the parties is incorporated herein by this reference, together with the exhibits attached thereto. Petitioners, who are husband and wife, reside in Massachusetts and filed a joint Federal income tax return for the year 1950 with the then collector of internal revenue for the district of Massachusetts. Petitioner Albert will be sometimes referred to herein as the petitioner. For many years petitioner has been in the real estate business and has owned and operated several apartment-house properties. He has served as president of the Boston Apartment House Owners Association, as a director of the Middlesex Apartment House Association, as a director of the Boston Real Estate Exchange, and in 1946 and 1947 as a member of the Advisory Board on Federal Rent Control. In the taxable year petitioner was a salaried employee of the Slater Glasser Realty Corporation, of Modern Manor, 125 Inc., and of Albert M. Slater, Inc., in connection with which employments petitioner managed several apartment buildings. On or about February 1, 1948, petitioner organized a corporation known as The Riverside Apartment Hotel, Inc., for the purpose of acquiring title to two buildings adjacent to each other, located in Cambridge, Massachusetts, which as a unit were know as The Riverside Apartment Hotel, together with the furnishings therein. Petitioner owned all of the stock of the corporation. The total cost basis to the corporation of the property acquired was $874,693.93. There was a first mortgage on each of these buildings. As of September 9, 1949, the aggregate amount due on these two first mortgages was $427,500. In connection with the acquisition by the corporation of these properties, the seller took back a second mortgage covering a part of the purchase price in the principal amount of $293,949.79. At the time of the acquisition of these properties by the corporation the annual gross rentals of The Riverside Apartment Hotel amounted to $146,448. On May 1, 1950, its annual gross rentals amounted to $229,334. There had been considerable difficulty between the former owner126 of The Riverside Apartment Hotel and its tenants because of this owner's failure to comply with the Federal Rent Control Law. At the time petitioner's corporation acquired the apartment hotel some 67 suits had been filed by tenants against the owner alleging violations of the Rent Control Act, and a part of the purchase price paid by petitioner's corporation was held in escrow pending the outcome of these suits. A short time after petitioner's corporation acquired these properties petitioner was informed that under an amendment or clarification of the Rent Control Law The Riverside Apartment Hotel might be excluded from rent control as a hotel instead of being subject to the Federal Rent Control Law as an apartment house. Accordingly, petitioner caused an action for declaratory judgment to be brought in the United States District Court for the District of Massachusetts to determine this question, predicating jurisdiction of that Court upon threatened suits against the landlord by several of the tenants for receiving excessive rentals in violation of the Housing and Rental Act of 1947. During the years 1948, 1949, and 1950 the tenants of The Riverside Apartment Hotel, Inc., were127 organized into a Tenants' Committee. Among its activities, this committee caused to be published a mimeographed letter called "Tenants' News." The principal purposes of the committee were to prevent any rent increases except those allowed by the Rent Control Act, and to dispute petitioner's claim that "some legal basis exists for Riverside to be decontrolled." Tenants were urged to write to public officials and were urged to attend the trial of the action for declaratory judgment in the United States District Court. This action was tried before Federal Judge Charles E. Wyzanski on November 8 and 9, 1948, and a number of the tenants were present in the courtroom during the trial. On November 9th Judge Wyzanski entered his opinion in favor of The Riverside Apartment Hotel, Inc., determining that for rent control purposes this corporation was entitled to a declaratory judgment that it was not subject to the Rent Control Law. Shortly thereafter petitioner discovered that there was a plan on the part of the Tenants' Committee to picket The Riverside Apartment Hotel on Saturday November 20, 1948, in protest against the opinion rendered in the declaratory judgment proceeding, and thereupon128 caused a petitioner to be filed in the Middlesex Superior Court for the purpose of enjoining such picketing. After hearing, an injunction was issued and the threatened picketing was restrained. Shortly after these court actions acts of vandalism were committed upon the property of petitioner's corporation. The furniture in the lobby was cut up; the telephone system was put out of order; and the elevator ropes were cut. The attitude of the tenants of The Riverside Apartment Hotel, Inc., was antagonistic to the management policies of petitioner. During 1948 and 1949 petitioner consulted a physician because of tiredness and nervousness. The physician's diagnosis was "nervous fatigue with beginning elevation of blood pressure." The physician recommended that petitioner take a vacation and that he should not persist in his "heavy schedule of hours and nervous tension." He also prescribed nerve medications to help petitioner. One of the things that contributed to petitioner's nervous fatigue was his recurrent difficulty with the tenants of The Riverside Apartment Hotel. In September 1949 petitioner received an offer to purchase The Riverside Apartment Hotel from a person owning a large129 number of apartments and other real estate located in Boston. The gross price offered was $1,100,000 to be paid by the assumption of the existing mortgages, the execution of a third mortgage in the principal amount of $293,000 payable in 10 years at 4 per cent interest, and the payment of $100,000 cash. In December 1949 petitioner received an oral offer to purchase The Riverside Apartment Hotel from another real estate operator. The price offered was again $1,100,000, payable by the assumption of the existing mortgages, the execution of a third mortgage in the principal amount of $245,000 payable in 5 years at 3 1/2 per cent interest, and the payment of $150,000 cash. Petitioner refused both of these offers. At some time shortly prior to February 2, 1950, petitioner began the negotiating of a sale of The Riverside Apartment Hotel to the Massachusetts Institute of Technology. On that date petitioner received from the treasurer of the Massachusetts Institute of Technology the following letter: "Following up our visit of yesterday, I am writing to advise that at a meeting of the Executive Committee of the Corporation of the Massachusetts Institute of Technology, held in Boston at130 1:00 P.M. today, a quorum being present voting, it was voted to buy the property known as The Riverside Apartment Hotel, Memorial Drive at the price already agreed upon by you of $1,000,000. - net to you. "This proposal according to my understanding includes the real property together with all furnishings, refrigerators, gas stoves and other equipment described by you yesterday on the occasion of our visit, as belonging to you. "Upon receiving your acknowledgment, it will be entirely in order for Mr. Nile's office to prepare the usual purchase and sale agreement and the other details can be carried through at the convenience of both parties. "I would like to say that I am very much pleased with our visit on the premises yesterday and appreciate the courtesies by you and in giving us full information and full opportunity for inspection." On the same date petitioner noted his acceptance of the proposal at the bottom of this letter as follows: "I have carefully read the above letter and it is in entire accord with my understanding. Your proposal is herewith accepted." It was understood between petitioner and the Massachusetts Institute of Technology that the excess of the131 price of $1,000,000 over the principal amounts of the existing mortgages would be paid to petitioner in cash. On February 10, 1950, the Riverside Apartment Hotel, Inc., was liquidated and all of its property distributed to petitioner as its sole shareholder. On March 3, 1950, a formal agreement by the petitioner and the Massachusetts Institute of Technology was executed calling for the purchase and sale at the net price of $1,000,000 of The Riverside Apartment Hotel, together with the personal property located therein which had been distributed to the petitioner in the liquidation of The Riverside Apartment Hotel, Inc. The vendee agreed to take the property subject to the existing mortgages then in the aggregate principal amount due of $427,500, and to pay the balance of $572,500 in cash, $50,000 of which was paid on that date and $522,500 was paid when the deed was delivered on May 1, 1950. In addition to the net price, the purchaser agreed to and did pay a broker's fee in the amount of $24,500. On February 10, 1950, the fair market value of the property received by petitioner in the liquidation of The Riverside Apartment Hotel, Inc., was $1,024,500. Opinion KERN, Judge: 132 The sole question presented in this case is what was the fair market value of an apartment hotel as of February 10, 1950, when it was acquired by petitioner as the result of the liquidation of a corporation wholly owned by him. The respondent has determined that its fair market value was $1,024,500. In making that determination respondent relied heavily upon the fact that there was a practically simultaneous sale of the property by petitioner in an arm's-length transaction for a gross price of that amount. Petitioner contends that we should ignore the price received by him in that sale and should conclude that the fair market value of the property acquired by him was $1,100,000 at the time of its acquisition despite the fact that he had agreed just 8 days before to sell it at a net price to him of $1,000,000 and sold it at that price a few months later. Petitioner contends that the sale was in the nature of a forced sale because it was required by the condition of his health, which was jeopardized by difficulties with his tenants. He argues that a fair market value of $1,100,000 has been proved by the two offers to buy the property made to him in the preceding year (both of which*133 involved third mortgages and the payment of a relatively small amount of cash), the testimony of an expert witness, and his own testimony as to value to the effect that the asking price of an apartment property would be six times its annual gross rentals. In our opinion petitioner's difficulties with his tenants probably motivated to a large extent his decision to sell the property, but it did not impel him to sell it at a price which was less than what he considered to be its fair market value. We do not consider that the contemporaneous arm's-length sale can be ignored. To the contrary, we consider that the price of the property which he received therefrom constitutes a more satisfactory criterion of fair market value than the opinion testimony of petitioner and his expert and the rejected offers made to him in the preceding year. Accordingly, we have concluded that petitioner has failed to prove that respondent's determination herein was erroneous. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619749/	CAROLINA CONTRACTING COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Carolina Contracting Co. v. CommissionerDocket No. 77638.United States Board of Tax Appeals32 B.T.A. 1171; 1935 BTA LEXIS 841; August 8, 1935, Promulgated 841 The petitioner completed certain paving contracts with Richland County, South Carolina, in the taxable year 1932 and the work was accepted and settled for by the county in that year. In completing the contracts the petitioner was required to finish certain work undertaken by a subcontractor who had defaulted. Litigation resulted which was settled in 1934, the petitioner being held responsible for certain of the debts of the subcontractor which, together with amounts already expended by the petitioner, exceeded the contract price for the work. Held, that the petitioner, making its return upon the completed contract basis, received no taxable income from the contracts in the year 1932. F. A. McCleneghan, Esq., and J. L. Elliot, C.P.A., for the petitioner. Thos. F. Callahan, Esq., for the respondent. SMITH 1171 OPINION. SMITH: The respondent has determined a deficiency in petitioner's income tax for the fiscal year ended February 29, 1932, in the amount of $3,608.65. The principal part of such deficiency, and the only part which the petitioner is contesting in this proceeding, is due to the respondent's action in adding to the842 petitioner's income the amount of $25,418.59, representing the unreported profits on construction contracts completed by the petitioner in the taxable year 1932. The facts have been stipulated. The petitioner is a contracting company, engaged in building highways. In reporting its income for Federal income tax purposes it has adopted and followed the method of reporting income on the completed contract basis. In February 1930 the petitioner began work on certain highway projects under contracts with Richland County, South Carolina, which work was completed and accepted during the taxable year. The first payment on the contracts was received by the petitioner during March 1930, and the last payment during October 1931, with an adjustment of final payment during November 1931. A certain part of the work on these contracts was sublet by the petitioner to one F. W. Simpson, who furnished bond in the principal amount of $25,000 with the Standard Accident & Insurance Co. The bond contained a clause providing for increase of the principal sum not to exceed 50 percent of the total cost of work done in case of change in specifications, the premium to be adjusted and the 1172 843 balance to be paid at completion of the project. Early in 1931 the subcontractor became in arrears in his payments to his creditors who had furnished him with materials and supplies to be used in the projects, with the result that the petitioner was forced to complete the work which the subcontractor had undertaken. The subcontractor became insolvent and remained insolvent during the entire year. As a result of the subcontractor defaulting his creditors brought suit against him and his surety, the Standard Accident & Insurance Co. Suit was subsequently brought against the petitioner and its surety, the Consolidated Indemnity & Insurance Co., and the causes were consolidated for hearing and decision. Hearings were held by a special master for the United States District Court for the Eastern District of South Carolina, who rendered his report on September 4, 1931. On February 9, 1932, the United States District Court gave judgment that the Standard Accident & Insurance Co., the subcontractor's surety, was liable for the sum of $51,601.90 (50 percent of the cost of work completed by the subcontractor) plus interest and costs, but that the subcontractor's creditors might present844 and prove their claims against the petitioner and its bondsman, the Consolidated Indemnity & Insurance Co., who were held compelled to pay said claims but who in turn should have judgment against the subcontractor and his bondsman for payment so made not to exceed a total of $51,601.90. The petitioner was also held entitled to retain a balance of $7,165.18 due the subcontractor for work completed by him. The above decision of the United States District Court was reversed by the United States Circuit Court of Appeals for the Fourth Circuit on April 4, 1933, and a writ of certiorari to the United States Supreme Court was denied on November 6, 1933. The Standard Accident & Insurance Co. acknowledged liability to the extent of $25,000, which amount it paid into court, and which the court applied against proven claims aggregating $55,443.28. The balance of the claims, plus court costs and attorney fees, was paid by the petitioner during the fiscal year 1934. Some of the claims were settled at amounts less than the amounts originally claimed, so that the final result on the contracts, as shown on the petitioner's books in 1934, was a profit of $2,011.88. This gain in 1934 was predicated845 on no gain or loss in the taxable year 1932 and the petitioner's return for 1932 showed no gain or loss on the contracts. In his audit the respondent added to the petitioner's income the amount of $25,418.59 representing the profit on the contracts, exclusive of the amounts paid out by the petitioner as a result of, and upon termination of, the litigation. 1173 At the hearing of this proceeding counsel for the respondent stated that his position was: * * * that the contracts were completed and satisfied during the taxable year ended February 29, 1932, that under the law and the regulations a determination of the profit or loss should have been made at that time and that subsequent events which we now know should not be taken into the computation of the net income for the fiscal year 1932, which must stand on its own feet, and any liability which the Carolina Contracting Company has set up on its books during the taxable year ending February 29, 1932, they would have to set up a contra-asset at the same time by reason of the District Court's opinion which held that the Carolina Contracting Company was liable but that they had recourse against the bonding company for the846 $51,000. The respondent claims that he correctly computed the petitioner's income from the contracts in question in accordance with article 334(b) of Regulations 77, which reads as follows: (b) Gross income may be reported in the taxable year in which the contract is finally completed and accepted if the taxpayer elects as a consistent practice so to treat such income, provided such method clearly reflects the net income. If this method is adopted there should be deducted from gross income all expenditures during the life of the contract which are properly allocated thereto. taking into consideration any material and supplies charged to the work under the contract but remaining on hand at the time of completion. A taxpayer may change his method of accounting to accord with paragraphs (a) and (b) of this article, only after permission is secured from the Commissioner as provided in article 322. Both the respondent and the petitioner cite and rely upon our decision in . There, the taxpayer, a contractor, secured a building contract and let out a part of the work to subcontractors. The subcontractors subsequently847 defaulted and the taxpayer, as required by his original contract, completed the project in 1919 at a cost of $63,785.60 over and above the amount received by him on the contract. He then brought suit against the subcontractors and their sureties and the litigation was concluded adversely to the taxpayer in 1928. We held that the taxpayer was entitled to deduct the amount of $63,785.60 as a loss of the year 1928 when the litigation was finally settled. Our decision was reversed by the Circuit Court of Appeals for the Second Circuit in , the court holding that the amount claimed as a loss was a part of the cost of completing the project and should have been accounted for in the prior year 1919. In its opinion the court said: * * * The deduction was allowed under section 23(f) of the Revenue Act of 1928 (45 Stat. 800) which permits the deduction of "losses sustained during the taxable year and not compensated for by insurance or otherwise." It is as a loss which first became fixed and definite when its suit was lost in 1174 1928, that the taxpayer now seeks to sustain the deduction. The Commissioner, 848 on the other hand, contends that the deduction should have been taken when the work of completing the subcontractors' contracts was performed by the taxpayer, that is, during or prior to the year 1919, since the entire building was finished in that year. In our opinion the Commissioner's position is correct. The cost of doing the work was necessarily paid or accrued in the years in which it was done, and was then deductible under section 214(a) of the Revenue Act of 1918 (40 Stat. 1066) as "ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business." In completing the work sublet to the defaulting contractors, the taxpayer was performing its own contract with the owner of the building. We cannot doubt, therefore, that the expenditures made and liabilities incurred in such performance constituted ordinary and necessary expenses paid or incurred in its business. Compare , supra (C.C.A. 6). So far as this record discloses such expenses may have been deducted in those years. If they were, to allow the deduction in 1928 would be a duplication; but if they849 were not, the taxpayer's error in failing to claim a permissible deduction cannot be rectified by permitting it to be taken in a later year. See [6 Am.Fed.Tax Rep. 6754]; [9 Am.Fed.Tax Rep. 1291] (C.C.A. 4), cert. denied, . The fact that the taxpayer expended some $63,000 in excess of what it received for completing the work of the defaulting subcontractors reduced its taxable income for the years when the expenditures were made. Had it succeeded in recovering damages from the subcontractors or their sureties, such recovery would have been income in the year when received. [9 Am.Fed.Tax Rep. 603]. Its failure to collect such income was not a loss of a sort permitted to be deducted in computing taxable income - it was no different from a failure to receive expected income such as dividends or interest payments. In our opinion the Sanford & Brooks case governs the case at bar, though there the precise850 issue before us was not directly involved. In an earlier case, , the Board took the same view, apparently, as did the court in the Thatcher case. We there held that an amount paid in settlement of the debts of a defaulting subcontractor and in the completion of a building project undertaken by the taxpayer was not a loss deductible in a subsequent year when paid, but was a part of the cost of construction and should be carried into the computation of profit or loss on the entire contract in the year when completed. In that case we said: * * * The respondent urges (1) that the loss, if any, on the contract was not sustained in 1920, because payment to the Standard Sanitary Manufacturing Co. was not made until 1921 and subsequent years, and (2) that the amount in question constituted part of the cost to the petitioner of constructing the Marne Hotel and is, therefore, a part of the basis for computing profit or loss on that contract. * * * The obligation of the petitioner under its contract was to construct a hotel, including the plumbing and heating, for a certain sum. It chose to install the plumbing and851 heating fixtures through a subcontractor, 1175 and on account of the default of the subcontractor, after he had received practically the maximum amount that might become due him under the subcontract, was required to pay for certain materials for which the subcontractor should have paid, and to complete and pay for their installation. The petitioner was primarily liable to furnish and install these plumbing and heating fixtures, and the amount they finally cost the petitioner, was, in our opinion, a part of the total cost to it of constructing the hotel, and the total cost is the basis for computing gain or loss on the contract with McShaffrey. We are unable to agree with the petitioner that the amount it paid for the plumbing and heating fixtures and for their installation in excess of the maximum amount it had contracted to pay Russell should be considered as a loss separate and apart from any profit or loss arising under the original contract. * * * Applying the same principle in the instant case, the total amount expended by the petitioner in completing the contracts in question, including the amounts paid on the debts of the subcontractor for materials furnished and852 work done on the contracts, constituted a part of the petitioner's cost of completing the contracts and must be so computed. The respondent was therefore in error in computing a profit on the completed contracts in the taxable year 1932 of $25,418.59 without making any allowance for the additional cost which the petitioner had to bear on account of the default of the subcontractor. At the close of the petitioner's taxable year 1932, the situation was that the contracts had been completed at a total cost in excess of the amount received by the petitioner, counting in the expenditures the amounts already paid out by the petitioner and the obligations incurred, but not paid, by the subcontractor. Assuming, then, as the respondent contends, but as we do not decide, that the contracts were completed within the meaning of article 334 above in the year 1932, when the work was accepted and the last payment on the contract price made by Richland County, the total result was a loss to the petitioner and not a gain. The error of the respondent was his failure to take into account the additional amounts which the petitioner, under its original contract, was obligated to pay for the materials853 furnished and other debts of its subcontractor. It is true that at the close of the year, under the ruling of the United States District Court, the petitioner, although being found liable for the subcontractor's debts, was entitled to recover these amounts from the subcontractor and his bondsman, but the liability of the subcontractor and his bondsman was still being contested in the courts and it was uncertain what amount, if any, the petitioner would ever be able to recover from them. The court said in :But if it were conceded that the excess expenditures should be deemed a "loss" rather than ordinary and necessary expenses, the result would be no 1176 different. The loss occurred when the expenditures were made and was then deductible unless it was compensated for by insurance or otherwise. We think that the taxpayer's claim for damages against the subcontractors and their sureties was too contingent and uncertain to be treated as compensation by "insurance or otherwise" for the loss. It is clear from the authorities that the subcontractors and their sureties sustained no deductible loss because of the854 taxpayer's assertion of a claim which they disputed. [8 Am.Fed.Tax Rep. 10278]; [11 Am.Fed.Tax Rep. 1386]. If the liability of the obligor is too contingent to be accrued as a loss to him, it would seem to follow that the claim of the obligee is likewise too contingent to be considered compensation for a loss already realized by the latter. See [P1548 of P.-H. Fed. Tax Service for 1934] (C.C.A. 7); [10 Am.Fed.Tax Rep. 1357] (C.C.A. 5). * * * The petitioner reported no gain or loss on the contracts in 1932 but held them open until 1934. We believe that under the completed contract basis of reporting the petitioner properly held the contracts open until 1934. Certainly it was not ascertainable definitely until that year just what the ultimate gain or loss would be. The year 1934 is not before us, however, and for the purpose of our determination in this proceeding it suffices*855 to say that in our opinion the petitioner realized no gain from the contracts in question in the taxable year 1932. Reviewed by the Board. Judgment will be entered under Rule 50.MATTHEWS concurs in the result.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619750/	WENDELL W. FISH AND NEIL H. MARSH, EXECUTORS OF THE ESTATE OF H. H. FISH, DECEASED, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Fish v. CommissionerDocket Nos. 33993, 48383.United States Board of Tax Appeals27 B.T.A. 1002; 1933 BTA LEXIS 1265; March 24, 1933, Promulgated 1265 On September 23, 1924, the decedent then being retired from business and 76 years of age, and suffering from hardening of the arteries, conveyed certain real estate to his wife and children as a gift. He died on August 26, 1925. Held, upon the evidence, that the gifts were made in contemplation of death and that the property should be included in the decedent's gross estate. Held, Further, that the gifts are subject to the gift tax imposed by the Revenue Act of 1924, as amended by the Revenue Act of 1926, and that the amount of the gift tax should be credited against the amount of the estate tax under section 322 of the Revenue Act of 1924. Ralph W. Smith, Esq., and Claude I. Parker, Esq., for the petitioners. R. W. Wilson, Esq., for the respondent. SMITH 1003 These proceedings, duly consolidated, are for the redetermination of the following deficiencies: Docket No.Amount33993 Estate tax deficiency$14,120.9748383 Gift tax deficiency6,335.00The issue for our determination is what portion, if any, of the community property of the decedent is subject to the estate tax and what portion, if any, is subject1266 to the gift tax imposed by the Revenue Act of 1924. FINDINGS OF FACT. The petitioners are the executors of the estate of H. H. Fish, who died on August 26, 1925, a resident of the county of Alameda, State of California. The decedent retired from active business in 1907. Thereafter he looked after his investments, spent much time in his garden, and went every month to attend to his business interests in Bakersfield, California. For a number of years prior to his death he had enjoyed good health and took long trips in his automobile. Shortly prior to September 23, 1924, he stated that he was going to give his wife a half interest in certain real estate in Kern County, California, and the other half to his six children in equal shares. He was then 76 years of age. In pursuance of his promise to give the property in question to his wife and children he, on September 23, 1924, with the consent of his wife who joined therein, executed certain deeds to community real estate located in Kern County of the agreed value of $300,000. The deeds were full grant deeds and transferred to Bella L. Fish, decedent's wife, an undivided one-half interest in the property. Similar deeds were1267 executed transferring to the decedent's six children the remaining one-half interest in the same property. The deeds were not recorded at the time that they were executed by the decedent. They were, however, in the joint custody of the decedent and Bella L. Fish, and were in her possession immediately after execution. They were also shown to the children. The decedent and his wife then placed the deeds in a safe deposit box to which the decedent, his wife, and a daughter had access. The decedent continued to manage the property conveyed by the deeds and to receive the income therefrom. In January 1925, he had an attack of the flu and shortly thereafter a heart attack and a stroke. It occurring to Bella L. Fish that it might he advisable to have the 1004 deeds recorded prior to her husband's death, she obtained them from the safe deposit box two or three days before his death and had them recorded on August 25, 1925. The decedent died the following day. The gifts were made in contemplation of death. The petitioners duly filed an estate tax return on Form 706, which showed a tax liability of $2,294.25 and included in the gross estate transfers in the amount of $188,015. 1268 In the audit of the return the Commissioner increased this item to $350,000. In the notice of deficiency with respect to estate tax the Commissioner included the widow's one-half interest in the community property as part of the estate and also included as part of the estate the property transferred by the decedent to his wife and children on September 23, 1924. The executors, on January 9, 1927, filed a gift tax return, Form 706 A, for the calendar year 1924. This return showed gifts made in the year 1924 in the amount of $170,000. From the total was deducted $85,000 claimed to represent one-half community exemption to the widow. In the audit of the gift tax return the Commissioner increased the value of the property given in 1924, and disallowed the one-half community exemption to the widow. OPINION. SMITH: The filing of the estate and gift tax returns with respect to the same property is explained by the petitioners on brief as follows: * * * Upon the death of Mr. Fish, the Berkeley attorney, who was a general practitioner and not acquainted with the demands of the revenue laws, prepared and filed only a federal estate tax return. Not any of the parties in interest1269 were aware of the gift tax statute. It was only while the federal estate tax return was being audited that the examining officer suggested a gift tax return should be filed. Upon this direction and more than a year after decedent's death a Return of Federal Gift Tax, Form 706(a) was duly filed. Under the Federal Estate Tax return, a tax was paid in accordance with the value of the net estate therein indicated. Also the tax was paid as disclosed on Form 706(a). The Commissioner, however, has declared deficiencies in each of the taxes, i.e., the federal estate tax and the gift tax. From these deficiencies the appeals resulted. * * The petitioners contend that the community property involved in these proceedings was improperly included in the decedent's gross estate, and that only that portion (an undivided one-half interest) conveyed to the six children in 1924 is subject to the gift tax. The respondent contends that all of the community property was subject to the estate tax, and that all of the same property was subject to the gift tax. The parties have stipulated that the community property 1005 in question had a fair market value of $300,000, which we assume1270 is the agreed value as of the date of the alleged gifts (September 23, 1924), and as of the date of the decedent's death (August 26, 1925). The decedent's wife testified that this was "purely community property," and it appears that she did not contribute any of her separate property in the acquisition of the community property involved in these proceedings. It is well settled that a wife's interest in California community property is included in the husband's gross estate. ; ; . But for the alleged gifts in September 1924, there would be no question in the instant proceedings as to the incidence of the estate tax upon the property involved. By amendments to the petitions, the petitioners duly allege that the transfers were not made in contemplation of death, and, in effect, assert that the transfers in September 1924, are not within the purview of section 302(c) of the Revenue Act of 1924, by the terms of which property so transferred is to be included in a decedent's gross estate1271 unless shown to have been neither in contemplation of death nor to take effect in possession or enjoyment at or after death. The facts do not take the transfers outside the ambit of the statute. It should be noted in these proceedings that there is no question before us as to whether there was a gift of the property by the decedent to his wife and children on September 23, 1924. The respondent admits so much of the petition in Docket No. 33993 "as alleges that prior to the death of the decedent on September 23, 1924, he transferred a portion of his property, a one-half interest therein, to his wife, and the other one-half interest therein to his children in equal shares, as more fully appears from Schedule E of the return on Form 706." With respect to the liability to estate tax upon the property transferred on September 23, 1924, it is to be noted that the decedent, although at that time in comparatively good health, had been advised by his physician that he had hardening of the arteries. He had engaged in no active business since 1907, but occupied himself in his garden and in the management of his investments. 1272 He continued the management of the property transferred in September 1924, after the transfer, the same as before. The income from the property was deposited in a joint account with his son. In the circumstances of the case we are of the opinion that the transfers of property on September 23, 1924, were made in contemplation of death within the meaning of the statute. ; United1006 . In the Wells case the Supreme Court said: * * The statutory description embraces gifts inter vivos, despite the fact that they are fully executed, are irrevocable and indefeasible. The quality which brings the transfer within the statute is indicated by the context and manifest purpose. Transfers in contemplation of death are included within the same category, for the purpose of taxation, with transfers intended to take effect at or after the death of the transferor. The dominant purpose is to reach substitutes for testamentary dispositions and thus to prevent the evasion of the estate tax. 1273 ; L.Ed. , decided March 2, 1931. As the transfer may otherwise have all the indicia of a valid gift inter vivos, the differentiating factor must be found in the transferor's motive. * * As the test, despite varying circumstances, is always to be found in motive, it cannot be said that the determinative motive is lacking merely because of the absence of a consciousness that death is imminent. It is contemplation of death, not necessarily contemplation of imminent death, to which the statute refers. It is conceivable that the idea of death may possess the mind so as to furnish a controlling motive for the disposition of property, although death is not thought to be close at hand. Old age may give premonitions and promptings independent of mortal disease. Yet age in itself cannot be regarded as furnishing a decisive test, for sound health and purposes associated with life, rather than with death, may motivate the transfer. The words "in contemplation of death" mean that the thought of1274 death is the impelling cause of the transfer, and while the belief in the imminence of death may afford convincing evidence, the statute is not to be limited, and its purpose thwarted, by a rule of construction which in place of contemplation of death makes the final criterion to be an apprehension that death is "near at hand." * * * * * There is no escape from the necessity of carefully scrutinizing the circumstances of each case to detect the dominant motive of the donor in the light of his bodily and mental condition, and thus to give effect to the manifest purpose of the statute. [Italics supplied.] In the Wells case the transfers were found not to have been motivated by the state of the decedent's health at the time of the gifts, but that "the immediate and moving cause of the transfers was the carrying out of a policy, long followed by decedent in dealing with his children of making liberal gifts to them during his lifetime" and intended by the donor "to accomplish some purpose desirable to him if he continues to live." There, the decedent had given much of his property to his children during his lifetime to see how they would handle it, and, as he said, "I will1275 then know when my time is up what I ought to do with the balance." Here, there is no evidence of such a policy on the part of the decedent, who retained possession and management of and received the proceeds from the property in controversy. When asked if she and the decedent discussed, at the time the deeds were executed, "any reason why they should not be 1007 recorded and the properties and its management turned over to the children?," Mrs. Fish said: I think it was a matter of pride with Mr. Fish; he was quite a well known man; he was mayor of Bakersfield for eight years * * * * * * * * * he did not want it done. The evidence does not overcome the presumption of the correctness of the respondent's determination that the gifts were made in contemplation of death. Although we have found that the gifts or transfers in September 1924, were made in contemplation of death, and subject to the estate tax, it is nevertheless necessary to determine whether or not the gift tax has been properly levied. In so far as material hereto, the Revenue Act of 1924, as amended by the Revenue Act of 1926, is as follows: SEC. 319. For the calendar year 1924 and each calendar1276 year thereafter, a tax equal to the sum of the following is hereby imposed upon the transfer by a resident by gift during such calendar year of any property wherever situated, whether made directly or indirectly * . [The rates applicable are set forth in section 324(a) of the Revenue Act of 1926, which amended this section.] SEC. 320. If the gift is made in property, the fair market value thereof at the date of the gift shall be considered the amount of the gift, * * SEC. 321. In computing the amount of the gifts subject to the tax imposed by section 319, there shall be allowed as deductions: (a) In the case of a resident - (1) An exemption of $50,000. * * * SEC. 322. In case a tax has been imposed under section 319 upon any gift, and thereafter upon the death of the donor the amount thereof is required by any provision of Part I of this title to be included in the gross estate of the decedent then there shall be credited against and applied in reduction of the estate tax, which would otherwise be chargeable against the estate of the decedent under the provisions of section 301, an amount equal to the tax paid with respect to such gift; * * * 1277 The gifts in question were made after the enactment of the Revenue Act of 1924 and are therefore subject to the gift tax imposed by Part II of Title III of that act. ; ; ; ; . On brief, the petitioners admit that the property transferred to the six children is subject to the gift tax, but contend that, in effect, Mrs. Fish purchased the property transferred to her for an adequate and valuable consideration, to wit, the relinquishment of her interest in the community property and her consent to the gifts to the children. They state that "it is 1008 our contention that the value of the interest of the husband should be measured by one-half the value of all the community property." Similar contentions with respect to an alleged purchase by the wife were of no avail in 1278 , where the court refused to limit the incidence of the estate tax to one-half of the community property, because at the husband's death "property rights were brought into being or ripened for the survivor which before could not be exercised." Likewise here, by the gifts, Mrs. Fish acquired property rights "which before could not be exercised." In , the Supreme Court of California said: The husband is the owner of the community property, and the interest of the wife therein is but a mere expectancy. ; ; ; ; ; ; 1279 ; . Certain statutory limitations for the protection of the wife have, however, been placed upon his power of disposal. Thus, by section 172 of the Civil Code, the husband is expressly prohibited from giving away any part of the community personal property without the written consent of the wife. This restriction on the husband's power of disposal does not, however, vest any interest in the community property in the wife. . If a gift is made by the husband in contravention of the statute, the gift is not a nullity. On the contrary, the property vests in the donee, subject to a right on the part of the wife to have one-half of the gift revoked. If, after the gift is made, the wife gives her consent, the requirements of the statute are fulfilled, and no further action is required to make it a valid and effective gift. ; 1280 ; . In short, a gift of community property by the husband during his lifetime without the consent of his wife is not void but voidable.While the wife's interest in community property under the laws of California is more than an expectant estate, it does not ripen into a vested estate until her husband's death. ;. In , it is said: That the wife may relinquish to her husband her interest in the community property, which is thereby converted into the separate property of the husband, is too well settled to require discussion. See , and cases there cited; . Upon the death of the decedent "one-half of the community property belongs to the surviving spouse; the other half is subject to the 1009 testamentary1281 disposition of the decedent" (sec. 1401, Civil Code of California, 1927, Deering). By joining in the conveyance in September 1924, Mrs. Fish relinquished her right to receive one-half of the community property upon the death of Mr. Fish, thereby effectively converting the community property into the separate property of the husband (), who eo instanti made gifts of the same property to Mrs. Fish and their children. By those gifts Mrs. Fish acquired an interest vesting in praesenti, instead of an interest vesting in futuro which she theretofore had. Her consent to the gifts was not the equivalent of a purchase of one-half of the property, but a relinquishment of her interest in the other half, from which petitioners argue that only the portion of the property given to the children is subject to the gift tax, as per their concession. If there was a purchase by Mrs. Fish, it was of property of the agreed value of $150,000 for a consideration of her future interest in that same property - in other words, by the transaction she received a present vested interest in lieu of an interest that would have vested upon the death1282 of her husband. There being no evidence of the value, if any, of the consideration which she is alleged to have paid for the property received from Mr. Fish in September 1924, we can not determine what, if anything, was the consideration therefor. Furthermore, the decedent could have made a valid gift of community property to his wife without her consent. . In the circumstances, we hold that the decedent made gifts on September 23, 1924, of property of the agreed value of $300,000, and that such property is subject to the gift tax imposed by the Revenue Act of 1924, as amended by the Revenue Act of 1926. In accordance with section 322 of the Revenue Act of 1924, the amount of the gift tax should be credited against the estate tax. Reviewed by the Board. Judgments will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619752/	ESTATE OF JAMES W. ANDERSON, DECEASED, RICHARD K. ANDERSON, EXECUTOR, Petitioner v. COMMISSIONER OF INTERNAL REVENUE SERVICE, RespondentEstate of Anderson v. CommissionerDocket No. 21508-87.United States Tax CourtT.C. Memo 1988-511; 1988 Tax Ct. Memo LEXIS 536; 56 T.C.M. (CCH) 553; T.C.M. (RIA) 88511; October 31, 1988. Walter H. Bush, Jr., Milford B. Hatcher, Jr., Linda W. Munden and Oliver C. Murray, Jr., for the petitioner. Charles P. Hanfman, for the respondent. WILLIAMSMEMORANDUM FINDINGS OF FACT AND OPINION WILLIAMS, Judge: The Commissioner determined a deficiency in the Federal estate tax due from the Estate of James W. Anderson in the amount of $ 1,212,527. After concessions, the issue remaining for our decision is whether decedent made a gift to his son in 1982 by contributing common stock of three operating companies to a newly formed holding company in exchange for preferred stock. FINDINGS537 OF FACT James W. Anderson ("decedent") died testate on July 8, 1983. Decedent's son, Richard K. Anderson ("Anderson") is the duly appointed executor of the Estate of James W. Anderson (the "Estate"). At the time the petition was filed, Anderson resided at Macon, Georgia. Decedent, his father and his brother founded the Anderson Chemical Company, Inc. of Macon, Georgia ("Anderson Georgia") in 1946. They subsequently formed the Anderson Chemical Company of Tennessee ("Anderson Tennessee") and the Anderson Chemical Company of Texas ("Anderson Texas"). All three companies (referred to collectively as the "Operating Companies") are in the business of producing and distributing formulated chemical products for water treatment. Each of the Operating Companies has authorized and issued one class of common stock. Subject to limited exceptions, only employees, officers, directors and retired employees of each Operating Company are permitted to acquire stock. Upon termination of employment for any reason except retirement, employees must offer to sell their stock back at book value. Any stockholder wishing to sell his stock must offer it to the corporation, or, if the corporation fails538 or refuses to exercise its option to purchase, to the other shareholders at book value. A deceased employee's surviving spouse or children of trusts for their benefit may retain stock, but no other transfers of stock to nonqualified persons are permitted without corporate authorization. Pursuant to amendments to the bylaws of each Operating Company approved by the respective shareholders on May 29, 1982, the Boards of Directors may authorize in writing a transfer to a person who is not an employee, officer, director or retired employee and may also authorize such a transferee to hold the stock free of the foregoing restrictions. As of May 16, 1982, the stock of the Operating Companies was held by 48 individuals. Decedent was the largest shareholder and president of each Operating Company in 1982. Decedent and Anderson owned stock in the Operating Companies in the following percentages: ANDERSONANDERSONANDERSONGEORGIATENNESSEETEXASDecedent48.92%45.58%39.53%Richard K. Anderson2.06%.49%.63%TOTAL50.98%46.07%40.16%Anderson worked in various positions with the Operating Companies from the time he was 12 years539 old and in 1982 was vice president in charge of sales and a director of the Operating Companies. Decedent planned to have Anderson, who was the only one of decedent's children active in the management of the Operating Companies, take over management when he was no longer able. In November 1981, decedent obtained an appraisal of his common stock holdings in the Operating Companies. The appraisal showed the following ranges of values, rounded to the nearest five thousand, for decedent's stock as of August 31, 1981: LowHighAnderson Georgia$ 1,565,000$ 1,735,000Anderson Tennessee680,000870,000Anderson Texas515,000640,000Total$ 2,760,000$ 3,245,000The average of the sum of low and high ends of the ranges of values is approximately $ 3,000,000. Both parties accept this valuation as the value of decedent's common stock holdings in the Operating Companies at the time he transferred the stock to the Holding Company. The appraisal report further concluded that Anderson's shares of common stock in the Operating Companies had a value of $ 86,910 as of August 31, 1981. The financial statements of the Operating Companies540 for their fiscal years ended March 31, 1978 through March 31, 1983, show the following net earnings and total dividends paid by each company in those years: NetCashFiscal YearAfter-TaxDividendsEndingEarningsPaid3/31/78Anderson Georgia278,20775,390Anderson Tennessee123,82834,470Anderson Texas117,63927,1753/31/79Anderson Georgia256,000106,575Anderson Tennessee199,26749,035Anderson Texas169,70038,7673/31/80Anderson Georgia308,090107,505Anderson Tennessee167,96949,837Anderson Texas167,43939,7313/31/81Anderson Georgia325,406108,129Anderson Tennessee198,68550,211Anderson Texas181,27140,0683/31/82Anderson Georgia450,863185,290Anderson Tennessee232,601113,387Anderson Texas218,11790,7033/31/83Anderson Georgia467,228139,575Anderson Tennessee157,43685,491Anderson Texas218,34067,476With the exception of the fiscal year ended March 31, 1983, the amounts of dividends paid increased each year. The Operating Companies followed a conservative dividend policy during the above years because they were accumulating funds for expansion541 of operations. On May 17, 1982, decedent and Anderson formed the J. W. Anderson Holding Co. (the "Holding Company") under the laws of the State of Georgia. The Articles of Incorporation authorized the issuance of 100,000 shares of $ 100 par value Class A preferred stock, 1,500,000 shares of $ 1 par value Class B preferred stock and 1,000,000 shares of $ 1 par value common stock. Decedent and Anderson were the initial directors of the Holding Company. Pursuant to its bylaws, the Holding Company would have no fewer than three nor more than five directors. Pursuant to the Articles of Incorporation, the directors resolved by unanimous consent on May 17, 1982, that the $ 100 par value Class A preferred stock would carry a 13 percent noncumulative annual dividend, payable quarterly when and as declared by the Board of Directors, and would have a liquidation preference equal to par value. The Class A preferred stock had preference over both the Class B preferred and the common as to dividends and liquidation proceeds. The Holding company could redeem the Class A preferred stock upon notice for $ 105 per share. The Class A preferred stock was not convertible to any other class of stock542 and carried no voting rights except in two events: (1) either a proposed voluntary dissolution of the Holding Company, in which case each share had 100 votes, or (2) if no dividends were paid for 12 consecutive or 16 cumulative quarters, in which case each share had one vote on all other corporate matters. At the same time, the directors determined that the $ 1 par value Class B preferred stock would carry a 12.5 percent noncumulative annual dividend, payable when and as declared, and a liquidation preference equal to par value. The Holding Company could redeem the Class B preferred stock upon notice for $ 1.05 per share. The Class B preferred stock was not convertible. It carried voting rights of one vote per share. Also on May 17, 1982, decedent, Anderson and the Holding Company entered into an agreement (the "Agreement"). The Agreement provided that decedent and Anderson would transfer all of their shares in the Operating Companies to the Holding company in exchange for Holding Company stock of equal value. The Agreement further provided "In the event the fair market values of the Assets [i.e., the contributed stock] is revised as of the actual date of transfer of the Assets, 543 the number of Shares to be issued * * shall be correspondingly revised * * ." On May 29, 1982, the Boards of Directors of the Operating Companies, pursuant to authority of the bylaws as amended that date, authorized decedent and Anderson to transfer their stock to the Holding Company which was to own the stock free of restrictions effective as of May 17, 1982. Decedent told the Boards of Directors that the purpose of the transfers was to freeze the value of decedent's stock for estate planning purposes. Another reason, which decedent did not mention to the directors, was to facilitate the transfer of future managerial control to Anderson. At the time the Holding Company was created, decedent had cancer. Pursuant to the Agreement, decedent transferred all of his stock in the Operating Companies valued at $ 3,000,000, to the Holding Company on May 17, 1982. On May 17, 1982, decedent and Anderson delivered executed investment letters to the Holding Company stating their present intention not to sell the stock to be issued by the Holding Company. On May 21, 1982, decedent received certificates representing all of the issued and outstanding preferred stock of the Holding Company544 consisting of 20,000 shares of $ 100 par Class A non-voting preferred valued at $ 2,000,000 and 1,000,000 shares of $ 1 par Class B voting preferred valued at $ 1,000,000. Decedent held voting control of the Holding Company. Decedent controlled the Board of Directors and corporate policy and management. Decedent controlled the dividend policy of the Holding Company. Through the Holding Company decedent controlled the Operating Companies. Anderson received a certificate on May 21, 1982, representing 711,290 shares of common stock of the Holding Company, as specified in the Agreement. He did not actually transfer his stock in the Operating Companies to the Holding Company until February 16, 1983. On that date, he transferred his total holdings in the Operating Companies as of May 17, 1982, consisting of 477 shares of Anderson Georgia, 70 shares of Anderson Tennessee, and 70 shares of AndersonTexas. Dividends declared by the Operating Companies in October 1982 and January 1983 on Anderson's stock were paid by the Operating Companies to the Holding Company on February 17, 1983. The Agreement erroneously stated that Anderson contributed only 437 shares of Anderson Georgia stock545 and received in exchange for his contribution a total of 711,290 shares of common stock of the Holding Company. In June 1983, decedent, Anderson and the Holding Company executed an agreement to correct these errors. The June 1983 agreement states that Anderson contributed 477 shares of Anderson Georgia stock to the Holding Company. The June 1983 agreement further provides that the number of shares of common stock issued to Richard K. Anderson pursuant to the Section 351 Agreement was intended to reflect the fair market value of the shares of stock transferred by Richard K. Anderson to the Corporation, but due to a mathematical error the fair market value of the shares of common stock of Anderson Chemical Company Inc. transferred by Richard K. Anderson to the Corporation was overstated * * To correct the error, Anderson's original stock certificate representing 711,290 shares of Holding Company common stock with a value of $ 711,290 was cancelled and a replacement certificate representing 86,910 shares of common stock with a value of $ 86,910 was issued. The amendments were made as of May 17, 1982, the date of the Agreement and original transfer of stock to the Holding546 Company. When Anderson entered into the Agreement to transfer his stock in the Operating Companies to the Holding Company, he believed that the value of the Holding Company stock he received was approximately equal to the value of the stock in the Operating Companies that he surrendered. Anderson recognized that his investment in the Holding Company involved risks. First, he risked incurring losses if the Holding Company were liquidated relatively soon after its formation. Second, by transferring his stock in the Operating Companies to the Holding Company, controlled by decedent, Anderson gave up the right to receive dividends declared by the Operating Companies without decedent's consent. Third, the board of directors of the Holding Company could direct a redemption of some or all of decedent's stock for a five percent premium above par. Anderson received only common stock in the Holding Company, the future value of which was not only dependent on the future economic condition of the Operating Companies but also was subordinate to the Holding Company's funding of the value of the preferred stock through dividends, redemption or liquidation preference. Decedent and Anderson547 planned for Anderson to take over management of the Operating Companies and because of the state of decedent's health, any appreciation or depreciation in the Operating Companies would be due in large measure to Anderson's effort. Anderson was confident that the Operating Companies would grow under his leadership and considered the Holding Company arrangement to be a good investment and worth the risk of subordination. On issues of whether to liquidate or dissolve the corporation, decedent owned 97.2 percent of the voting rights of the Holding company and could liquidate the company at will. Decedent's Class A preferred stock had no voting rights except in the event of a proposed dissolution or liquidation. In that case, it was entitled to 100 votes per share, representing 64.8 percent of the voting rights in the Holding Company. On issues of whether to liquidate or dissolve the corporation, decedent's Class B preferred stock represented 32.4 percent of the voting rights of the Holding Company. Thus, decedent controlled 97.2 percent of the voting rights in the Holding Company in the event of a proposed liquidation or dissolution. In addition, because decedent held his stock in548 the Holding Company free of restrictions other than those imposed by securities laws, decedent could sell his stock. Any such buyer could also have caused the Holding Company to liquidate because the Holding company held its stock in the Operating Companies free of restrictions imposed by the bylaws of the Operating Companies. Anderson recognized decedent's control over the Holding Company and that he might suffer a loss if decedent chose to liquidate the Holding Company before Anderson could realize any gain from the appreciation of his Holding Company common stock. Anderson trusted decedent completely, however, and did not believe that decedent would liquidate if it were not in Anderson's best interest. Anderson would not have contested a decision by decedent to liquidate. If decedent had sold his stock to an unrelated party who wanted to liquidate, Anderson also would not have been opposed. In corporate matters not involving a liquidation or dissolution, decedent also held voting control. While the Class A preferred did not vote (absent a failure to pay dividends for an extended period), the Class B preferred could vote on all matters. Decedent has at least 1,000,000 votes549 on any shareholder matter while Anderson had 86,910 votes through his ownership of the common stock. OPINION The issue for our decision is whether decedent made a gift to Anderson on May 17, 1982, by his transfer to the Holding Company of common stock in the Operating Companies. 1 Respondent argues that the shares of stock in the Operating Companies transferred by decedent were of greater value than the preferred stock decedent received in exchange and that the difference was a gift to Anderson, who received Holding Company common stock in exchange for his stock in the Operating Companies. Petitioner argues that decedent and Anderson each received Holding Company stock equal in value to the stock in the Operating Companies that each surrendered, and consequently, there was no gift. Petitioner included the value of the decedent's preferred stock in the estate at $ 3,000,000 which was also value, the parties agree, of the decedent's common stock in the Operating Companies on May 17, 1982, when he contributed that stock to the Holding Company. 550 The transaction and the parties' divergent views of it may be summarized as follows: Decedent and Anderson transferred to the Holding company the stock which each held in the Operating Companies. The parties agree that the value of decedent's transferred stock in the Operating Companies of the date of transfer was $ 3,000,000. The parties also agree that the value of Anderson's transferred stock in the Operating Companies was $ 86,910. Decedent received on the exchange with the Holding Company (1) all 20,000 shares of issued and outstanding Class A preferred and (2) all 1,000,000 shares of issued and outstanding Class B preferred. Anderson received 86,910 shares of common stock in the Holding Company. Petitioner argues that the value of the stock decedent and Anderson each received in exchange for their stock in the Operating Companies was equal to the value of that stock. Because dividends on the preferred stock were noncumulative and would require higher dividend payments that the Operating Companies had historically paid, respondent argues that the preferred stock received by decedent was worth less than the Operating company stock he transferred in the exchange. Respondent551 reasons that the difference in value must inure to the common stockholder and, therefore, that decedent made a gift to Anderson. Respondent's theory is the product of his distaste for estate planning designed to establish the value of decedent's stock prior to his death. Transactions like the one at issue were the subject of a novel valuation approach articulated in Revenue Ruling 83-120, 2 C.B. 170">1983-2 C.B. 170, the principles of which respondent asks us to adopt. Revenue Ruling 83-120 straightforwardly states that, in respondent's view, ascertaining the "true fair market value" of estate planning recapitalizations "will usually result in the determination of a substantial fair market value for the common stock and a fair market value for the preferred stock which is substantially less than its par value." His analysis in this case illustrates this statement. In general, Revenue Ruling 83-120 focuses solely on valuing the preferred stock issued in a recapitalization and only derivatively determines the value of common stock issued. The derivatively value is a matter552 of arithmetic: it is calculated by subtracting the preferred stock's determined value from the value of stock contributed in exchange for the preferred. The relative voting and preference rights and obligations of the classes of preferred and common issued, while given lip service, are disregarded. Compare Estate of Lee v. Commissioner,69 T.C. 860">69 T.C. 860 (1978). Like the unsuccessful taxpayers in Hamm v. Commissioner,325 F.2d 934">325 F.2d 934 (8th Cir. 1963) affg. a Memorandum Opinion of this Court, respondent seeks a formula valuation suited to the result he desires. As the Eighth Circuit said, 325 F.2d at 940: "Valuation of closely held stock is basically a question of judgment rather than of mathematics." The passage of twenty-five years has not dimmed the light of that wisdom. The Ruling's approach to valuing preferred stock requires a corporation to have earnings significantly in excess of that needed to pay both dividends and the liquidation preference on its preferred stock before the preferred stock will be found to have a value equal to par. If553 the preferred stock is found to be worth less than its par value, which respondent concedes will almost always be the case using the analysis of the Revenue Ruling, then respondent assigns the difference between the par and determined values to the common stock. Consequently, in circumstances in which a corporation is presumed by respondent to be unable for lack of income or assets to meet its obligations to its preferred shareholders, which must be satisfied before the common shareholders are entitled to anything, Revenue Ruling 83-120 deems the common stock to be worth considerably more than the preferred. In valuing the preferred stock received by decedent, respondent states that in applying the Ruling he looks to three indicators of value: (1) yield, (2) dividend coverage, and (3) protection of liquidation preference. While these three points of financial analysis may be factors appropriate to consider in valuing a preferred stock, they are not sufficient to establish value. Voting rights are at least as important, and in this case, respondent has disregarded the decedent's voting control of the Holding Company represented by his preferred stock interest. Moreover, 554 in this case, respondent also ignored the significance that this voting control afforded decedent in the protection of his liquidation preference. Anderson received a small minority interest in the Holding Company subordinate to decedent's. Decedent received voting control, preference on dividends and liquidation and entitlement to a premium on redemption. Decedent could, by virtue of his stock ownership, control the board of directors, dividend payments, sale of assets (shares of stock in the Operating Companies) redemption payments and liquidation. Prior to the transfer of his stock to the Holding Company, Anderson received dividends on his shares of stock in the Operating Companies, but subsequent to the transfer these dividends were available for distribution on decedent's preferred stock. The parties agree that decedent's stock in the Operating Companies was worth $ 3,000,000. Anderson's stock in the Operating Companies was worth $ 86,910. Decedent and Anderson contributed this stock to the Holding Company. After the exchange, this stock was the sole asset of the Holding Company. Decedent received Holding Company stock in the exchange consisting of 20,000 shares of Class555 A preferred, par value $ 100 and 1,000,000 shares of Class B voting preferred, par value $ 1. Anderson received 86,910 shares of voting common, par value $ 1. Decedent held 92 percent of the votes on standard shareholder matters and 97.2 percent of the votes on issues of liquidation or dissolution. Had the Holding Company been liquidated, decedent would have received all of the stock he contributed in the recapitalization; Anderson likewise would have received the stock he contributed. To the extent dividends were paid, they were payable to decedent prior to any payment to Anderson. If the Holding Company redeemed any of decedent's stock, decedent was due a 5 percent of par value premium. Decedent controlled the vote of Anderson's former stock interest in the Operating Companies. In short, Anderson's common stock in the Operating Companies, like decedent's, was full subject to the new layer of rights and obligations represented by the Holding Company. Respondent ignores decedent's voting control, his ability to liquidate the Holding Company at will which protected his liquidation preference and his acquired capability of controlling Anderson's former stock interest in the Operating556 Companies. Moreover, respondent's analysis presumes that if the stock decedent received on incorporating the Holding Company was worth less than the stock in the Operating Companies that he contributed in exchange, the stock Anderson received on the incorporation must be worth more than the stock that he contributed in exchange. In other words, decedent is presumed to have made a gift to Anderson because Anderson's common stock, which represented 8 percent of the voting power on standard shareholder matters, would not command a dividend, could not force or prevent a liquidation, could not control corporate policy or management, was worth, in respondent's view, approximately $ 2,600,000 while decedent's preferred stock, which represented more than 90 percent of the voting power, could command dividend policy, control the board of directors and corporate management, could force, a liquidation or a redemption at a 5 percent premium and could control the polices of the Operating Companies, was worth, in respondent's view, approximately $ 480,000. 2557 Respondents' expert witness, Philip Schneider, followed respondent's prescribed method for valuation as set forth in Rev. Rul. 83-120. Schneider used a measurement of the yield of preferred stock to determine the market price of the Holding Company preferred stock, as prescribed in Revenue Ruling 83-120. The yield of a stock is calculated by dividing its annual dividend by its market price. Ignoring the generally increasing dividend pattern from 1978 through 1982, Schneider used an average of dividends paid by the Operating Companies from 1978 through 1982. Schneider expected the annual dividend to the Holding Company to be $ 104,109. Schneider examined 16 publicly traded companies and calculated their average yield on preferred stock to be 14.54 percent. He then determined that an investor seeking a 14.54 percent return on his investment would be willing to invest $ 716,018 ($ 104,109 / 14.54% = $ 716,018). Schneider discounted the value of the preferred stock to reflect limited marketability because the stock was not publicly traded and because he believed that the preferred stock did not have power to force a payment of dividends, a redemption, a558 liquidation or a sale of assets. He reasoned that although decedent held more than 90 percent of the voting rights of the Holding Company, he was only one of the directors with equal say in management decisions. Schneider further conjectured that decedent could not effect a liquidation of the Holding Company without Anderson's consent, which Anderson would not give because he would be harmed. To reflect these constraints on the power of the preferred stock, a discount of 33 percent was applied to the market price of $ 716,000, resulting in a value for the preferred stock of $ 479,732. Schneider next valued Anderson's common stock in the Holding Company. He concluded, based on Revenue Ruling 83-120, that the value of the common stock had to be the value of the stock in the Operating Companies transferred to the Holding Company less the value of the preferred stock. Schneider did not discount the value of the common stock to reflect any of the factors for which he discounted the value of the preferred stock. Schneider's report contains numerous errors and his analysis, like respondent's position, is inherently flawed. First, Schneider lists factors set forth in559 Revenue Ruling 59-60 for use in valuing closely held stock and states that he took those factors into account in his analysis. 3 In fact, most of the factors are not discussed in the report, and those that are discussed are not incorporated into the fair market value analysis. In addition, Schneider devotes several pages of his report to an analysis of economic conditions as of May 1982 without any specific application of this analysis to the Holding Company, the Operating Companies or their customers. 560 Schneider also erred in his assertion that the Holding Company could not influence the amount of dividends paid because it did not control any of the Operating Companies. The Holding Company in fact held 50.98 percent of the stock of Anderson Georgia, giving it outright control. The Holding Company also held 46.07 percent of Anderson Tennessee and 40.16 percent of AndersonTexas. These were by far the largest blocks of stock held in either company, but Schneider made no effort to determine whether they gave the Holding Company effective control. Further, Schneider discounted the value of the preferred stock thinking that the preferred shareholder could not force a liquidation. The basis for his conclusion is a minority shareholder rights requirement in the Model Business Corporation Act, which Schneider believed was essentially the same as Georgia law, that majority shareholders treat minority shareholders fairly. From this Schneider concluded that Anderson could and would block a liquidation because it would not be beneficial to him. Fair and beneficial, however, are not necessarily the same, and Schneider so conceded from the witness stand. Under Georgia law, Anderson would561 be entitled to a fair value for his share of the Holding Company's assets. Under Georgia law, a minority shareholder has the right to dissent from certain actions by the majority, including dissolution of the corporation. Ga. Code Ann. § 14-2-250(a)(2) (1982). The dissenting shareholder, however, is entitled to no more than the fair value of his shares. Ga. Code Ann. § 14-2-251. (1982). Furthermore, because Anderson would receive stock approximately equal in value to what he put into the Holding Company on liquidation, he would have no grounds for dissenting. Anderson would have received stock worth approximately $ 87,000. Schneider also calculated a low value for the preferred stock because he concluded that the Holding Company would not be able to pay the dividends to which the preferred stock was entitled. The preferred stock was entitled to dividends totalling $ 385,000 per year before the common stock could receive anything. Thus, if there were insufficient funds to pay the preferred stock dividends, the common stock would receive nothing. 4 On liquidation, the preferred stock562 was entitled to $ 3,000,000 before the common could receive anything. If there were insufficient assets to satisfy the preferred stock's liquidation preference, the common stock would receive nothing (subject, of course, to dissenter's rights). Schneider's assertion that there would be insufficient funds to satisfy the preferred stock dividends is, therefore, incompatible with his conclusion that the common stock would have significant value. In response to questions from the Court, Schneider conceded this flaw in his analysis. Schneider's ultimate conclusion as to the value of Anderson's common stock is wrong. Although stock in a newly formed corporation is deemed to be equal in value to the assets exchanged for it, respondent argues that because the common stock would enjoy the benefits of any future appreciation, it had to have been worth more at the time of incorporation that the preferred stock. Aside563 from ignoring the relative rights of the classes of stock and other significant points discussed above, respondent's position is based on speculation (that there would even be future appreciation). See Olson v. United States,292 U.S. 246">292 U.S. 246, 257 (1934). It fails to address existing conditions and facts on the proper valuation date, i.e., May 17, 1982, the date of the exchange. Mac A. Jones of American Appraisal Associates valued the stock on a dissolution or liquidation basis on the instructions of petitioner's counsel. Jones also reviewed other methods for valuing preferred stock such as yield and divided rate. By valuing the preferred stock on a yield basis, Jones obtained a value of approximately $ 2,500,000. He concluded that the liquidation approach produced a more realistic result because the preferred stock would be entitled to more than $ 2,500,000 on liquidation, and a buyer of decedent's interest desiring to maximize his immediate value or to acquire the stock in the Operating Companies directly, controlling 97.2 percent of the voting power of the Holding Company on a liquidation vote, would force a liquidation. Jones first reviewed the appraisal564 of the Operating Companies' common stock prepared in anticipation of the exchange of Operating Companies stock for Holding Company stock. He agreed that decedent's common stock had a value of approximately $ 3,000,000 as of August 31, 1981, and at the time of the exchange in May 1982. Jones disagreed with the value of $ 86,910 assigned to Anderson's stock in the Operating Companies. Because of the relatively small ownership interests Anderson held, Jones determined that a marketability discount of 25-30 percent was appropriate, less the legal costs incurred in liquidating which the Agreement provided were to be borne by the common stock. Jones believed that these costs would not exceed $ 2,000 to $ 2,500. Anderson thus also would be returned to essentially the same position if the Holding Company had been liquidated in 1982. He valued Anderson's common stock in the Operating Companies at the time of the recapitalization at $ 73,300 before deducting costs of liquidation. On formation of the Holding Company, decedent contributed stock worth $ 3,000,000 and Anderson contributed stock worth $ 86,910. Decedent's contribution amounted to 97.2 percent of the value of the Holding Company. 565 Had decedent sold his preferred stock at the valuation date, the purchaser would have been entitled to receive 97.2 percent of the assets of the Holding Company on liquidation before the common stock could receive anything. Because the sole asset of the Holding Company was the common stock in the Operating Companies, such as purchaser could acquire decedent's original investment of $ 3,000,000. Because such a purchaser would be effectively purchasing the stock in the Operating Companies, an arm's length purchase price for decedent's preferred stock on the valuation date was equal to the value of the Operating Companies stock contributed by decedent. Pursuant to the legal standard recognized universally, e.g., sec. 25.2512-1, Gift Tax Regs., a willing buyer and willing seller would exchange the preferred stock in the Holding Company on May 17, 1982, for $ 3,000,000. Decedent's and Anderson's Holding Company stock as of 1982 were approximately equal in value to the stock in the Operating Companies they exchanged. Decedent, therefore, did not make a gift to Anderson. To give effect to concessions and to permit calculation of additional estate administration expense incurred in*566 this litigation, Decision will be entered under Rule 155.Footnotes1. At trial, respondent raised for the first time an allegation that the transaction did not occur as corrected. The notice of deficiency assumed that the transaction occurred as corrected, and, until trial, respondent did not challenge the bona fides of the transaction. Having failed to raise this matter in his answer or by amended answer, having failed to move the file an amended answer and having failed to notify the Court or petitioner prior to trial, respondent gave petitioner no notice that respondent intended to challenge the transaction at trial. Respondent's new allegation is not simply a new argument on a pending issue but is a matter requiring different proof than the matters that have been the subject of this litigation from its inception. As a consequence, we ruled that such a challenge to the bona fides of the transaction would prejudice petitioner and constitute a new issue that respondent was barred from litigating. Estate of Goldsborough v. Commissioner,70 T.C. 1077">70 T.C. 1077, 1086, (1978); Estate of Horvath v. Commissioner,59 T.C. 551">59 T.C. 551↩ (1973). We decline to modify our ruling and find that the transaction occurred as corrected.2. It is idle to speculate what respondent's view would be if the positions of Anderson and decedent were reversed, viz, if decedent had received 86,910 shares of Holding Company common stock in exchange for his $ 3,000,000 worth of Operating Companies stock while Anderson received all of the Holding Company preferred stock.↩3. Revenue Ruling 59-60 provides in relevant part: It is advisable to emphasize that in the valuation of the stock of closely held corporations or the stock of corporations were market quotations are either lacking or too scare to be recognized, all available financial data, as well as all relevant factors affecting the fair market value, should be considered. The following factors, although not all-inclusive are fundamental and require careful analysis in each case: (a) The nature of the business and the history of the enterprise from its inception. (b) The economic outlook in general and the condition and outlook of the specific industry in particular. (c) The book value of the stock and the financial condition of the business. (d) The earning capacity of the company. (e) The dividend-paying capacity. (f) Whether or not the enterprise has goodwill or other intangible value. (g) Sales of the stock and the size of the block of stock to be valued. (h) the market price of stocks of corporations engaged in the same or a similar line of business having their stocks actively traded in a free and open market, either on an exchange or over-the-counter. 1 C.B. 237">1959-1 C.B. 237↩,238-239.4. We do not have before us the question of whether decedent would make a gift to Anderson by failing to declare a dividend on the preferred stock if funds were available.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619777/	WALTER JASINSKI and FRANCES JASINSKI, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentJasinski v. CommissionerDocket No. 2068-76.United States Tax CourtT.C. Memo 1978-1; 1978 Tax Ct. Memo LEXIS 511; 37 T.C.M. (CCH) 1; T.C.M. (RIA) 780001; January 3, 1978, Filed 511 Held: Petitioners failed to prove that certain debentures became worthless in 1973. They are not entitled to a loss deduction under sec. 165(a), I.R.C. 1954. Walter Jasinski, pro se. John D. Steele, Jr., for the respondent. DRENNENMEMORANDUM FINDINGS OF FACT AND OPINION DRENNEN, Judge: Respondent determined a deficiency of $1,192.45 in petitioners' income tax for the calendar year 1973. The only issue to be decided is whether under section 165, I.R.C. 1954, 1 a deductible loss was sustained by petitioners during 1973 on 6-1/2 percent subordinated debentures. Among other contentions, petitioners claim the debentures became worthless during 1973. FINDINGS OF FACT Petitioners Walter and Frances Jasinski filed a joint Federal income tax return for 1973 with the director, Internal514 Revenue Service Center, Andover, Mass. They resided in North Tonawanda, N.Y., when their petition was filed. During January and February 1973 petitioners purchased $10,000 face value 6-1/2 percent subordinated debentures of First National Realty and Construction Corp. maturing on November 1, 1976. The debentures cost $6,334.59 and were purchased on a 30-percent margin. In March 1973 petitioners' broker increased the margin requirements for all bonds in petitioners' account to 35 percent. In November 1973, the broker called the full margin and petitioners paid the remaining balance due on the full purchase price of the above bonds.Active trading in the debentures on the American Stock Exchange ceased in 1973. The interest due November 1, 1973, on the debentures was not paid when due. The unaudited balance sheet of First National Realty and Construction Corp. as of January 1, 1974, was as follows: FIRST NATIONAL REALTY & CONSTRUCTION CORP. BALANCE SHEETJANUARY 1, 1974 (UNAUDITED) ASSETSOperating Properties at CostProperties Held for Sale at Cost$ 4,294,618.55Deferred Charges32,137.44Cash59,219.31Accounts and Miscellaneous Receivables74,084.60Mortgage and Notes Receivable190,067.01Prepaid Expenses, Deposits, Escrows and Other118,738.23Investment at cost or below - Affiliate - Realty Equities346,770.50Investment in Subsidiaries(3,533,932.20)Advances to Subsidiaries7,099,062.28Notes and Accounts Receivable including interest duefrom Affiliate - Realty Equities Corp.1,791,644.59TOTAL ASSETS$10,472,410.31LIABILITIES AND STOCKHOLDERS' EQUITYMortgages Payable$ 3,164,978.92Notes Payable - Banks1,311,174.03Other Notes Payable105,000.006 1/2% Subordinated Debentures, due 11/1/761,986,500.00Accounts Payable, Accrued Expenses and Sundry Liabilities559,839.51Notes and Accounts Payable including interest dueto Affiliate - Realty Equities Corp.3,619.783.53TOTAL LIABILITIES$10,747,275.99STOHKIOLDERS' DEFICITCapital Stock246,224.30Capital Surplus8,155,865.43Retained Earnings(8,637,855.41)Less - Notes Receivable(39,100.00)TOTAL STOCKHOLDERS' DEFICIT$ (274,865.68)TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT$10,472,410.31515 On June 24, 1974, First National Realty and Construction Corp. filed a petition under chapter XI of the Bankruptcy Act. As of the date of trial in March 1977, First National Realty and Construction Corp. still was operating under chapter XI of the Bankruptcy Act. On their joint income tax return for 1973 petitioners reported interest income in the amount of $12,016.74. They also reported short-term and long-term capital losses in the amounts of $3,966 and $8,073, respectively, and claimed a capital loss deduction of $1,000. On their 1973 return petitioners also claimed a "casualty loss" deduction with respect to the debentures in the amount of $6,150 2 less the $100 limitation, or $6,050. In the notice of deficiency respondent disallowed the entire amount of the claimed casualty loss for the reason that it had not been established that the loss was a casualty within the meaning of section 165 of the Code or that the loss was sustained during the year 1973. OPINION Section516 165(a) authorizes a deduction for any loss "sustained" during the taxable year and not compensated for by insurance or otherwise. Under section 1.165-1(b), Income Tax Regs., a loss is sustained during the year in which the loss occurs as evidenced by closed and completed transactions, fixed by identifiable events. For individuals, the deduction under section 165(a) is limited by section 165(c) to (1) losses incurred in a trade or business, (2) losses incurred in any transaction entered into for profit, and (3) certain casualty and theft losses in excess of $100. Section 165(d) limits losses from wagering transactions to the extent of gains from such transactions. Under section 165(f) losses from the sale or exchange of capital assets are allowed only to the extent allowed in sections 1211 and 1212. And under section 165(g) if any security which is a capital asset becomes worthless during the taxable years, the loss resulting therefrom shall be treated as a loss from the sale or exchange, on the last day of the taxable year, of a capital asset. At the trial and on brief petitioners claim that the debentures became worthless in 1973 and that their517 investment therein should be allowed as a deduction either as a casualty loss, or a gambling loss, or a business loss. We would disagree even if it was proved that the debentures became worthless in 1973. Petitioners base their casualty loss claim on the theory that the president of the corporation either stole assets of the corporation or in some way swindled it. Not only is there no evidence to support this claim, but a theft of corporate property would not qualify as a casualty loss on petitioners' debentures in any event. To qualify as a casualty loss for petitioners, their property, rather than the property of the corporation, must have been damaged or destroyed by some sudden, unexpected, or unusual cause such as fire, storm, shipwreck or other similar casualty, Durden v. Commissioner,3 T.C. 1">3 T.C. 1 (1944), or by theft. Petitioners claim of a gambling loss is based on the theory that in buying these low-priced high-yield debentures they were gambling and since they reported the interest received therefrom as ordinary income they should be entitled to deduct their518 loss on their investment to the extent of the interest received under section 165(d). The short answer to this is that interest income is not wagering income and investing in capital assets is not a wagering transaction in the sense those terms are used in section 165(d). Petitioners offered no evidence to prove that their alleged loss was incurred in their trade or business. They attempt to relate the loss to the fact that they had interest income but the collection of interest on investments does not constitute a trade or business. Since the purchase of the debentures was a transaction entered into for profit, any loss sustained would be allowable under section 165(c)(2). However, since the debentures were "capital assets," see sec. 1221, and "securities," see sec. 165(g)(2), absent an actual sale or exchange, under section 165(g)(1) any loss resulting from their worthlessness during 1973 would be treated as a loss from the sale or exchange, on the last day of the taxable year, of capital assets. These would be long-term capital losses, see sec. 1222(4), subject to the limitations on deductibility prescribed by sections 165(f) and 1211. Since petitioners did not sell519 or exchange the debentures in 1973 they have the burden of proving that the debentures became worthless during 1973. As stated in section 1.165-5(c), Income Tax Regs., to claim a deduction for worthless securities the debentures must be shown to have become "wholly worthless" during the taxable year; no loss deduction is allowed for partial worthlessness or mere decline in value. To prove worthlessness in a particular year, ordinarily the taxpayer must prove first that the security had value at the beginning of the year and second that some identifiable event occurred during the year that caused the security to have no value at the end. Morton v. Commissioner,38 B.T.A. 1270">38 B.T.A. 1270 (1938), affd. 112 F.2d 320">112 F.2d 320 (7th Cir. 1940). However, since the debentures involved were purchased in 1973, we do not have the question of value at the beginning of the year and attention here is solely on whether worthlessness was fixed by identifiable events in 1973. 520 The identifiable (events) must clearly evidence that no probability of realization of anything of value from sale, liquidation, or otherwise, thereafter existed. Watson v. Commissioner,38 B.T.A. 1026">38 B.T.A. 1026 (1938). Applying these standards, we find that petitioners have not met their burden of proving that their debentures became worthless during 1973. The only evidence of worthlessness occurring during 1973 is that active trading in the debentures on the American Stock Exchange ceased in 1973 and that the corporation defaulted in making its interest payment due November 1973. But these facts alone are inconclusive. Compare West End Pottery Co. v. Commissioner,7 B.T.A. 927">7 B.T.A. 927 (1927) (no readily available market); Merrill Trust Co. v. Commissioner,21 B.T.A. 1395">21 B.T.A. 1395 (1931) (default in payment of interest or principal). In particular, petitioners have failed to show that the debentures had no potential value in 1973. The only evidence in the record on this point is an unaudited First National Realty & Construction Corp. balance sheet dated January 1, 1974, reporting that liabilities exceeded the cost of assets. However, it does not521 purport to show the value of the assets, only their book values. Furthermore, if the investments in, advances to, and receivables from subsidiaries are ignored on the asset side of the balance sheet, and the notes and accounts payable to the subsidiaries, along with the debentures themselves, are ignored on the liabilities side, we find that the corporation had other substantial assets having a total book value of $5,115,635 and liabilities to others of only $4,581.53. This would indicate that there was some excess of asset values over liabilities that would be available to the debenture holders. Moreover, the corporation was still operating outside of bankruptcy in 1973; it did not file a petition in bankruptcy until June 24, 1974. The continued operation of the business outside of bankruptcy supports a finding that petitioners' debentures were not wholly worthless in 1973. Compare Morton v. Commissioner,supra (worthlessness depends not only on current liquidating value but also on what value may be acquired through foreseeable operations). In short, no identifiable event in 1973 has been shown to fix a total loss of potential value in that year. Because522 petitioners have failed to prove that a loss was sustained in 1973, we hold that no deduction is allowable under section 165(a). Decision will be entered for the respondent. Footnotes1. All section references are to the Internal Revenue Code of 1954 unless otherwise indicated.↩2. We have no explanation of why the amount claimed was less than the $6,334.59 paid for the debentures.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619778/	RICHARD I. AND ELLEN A. MANAS, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentManas v. CommissionerDocket No. 13013-90United States Tax CourtT.C. Memo 1992-454; 1992 Tax Ct. Memo LEXIS 477; 64 T.C.M. (CCH) 449; August 11, 1992, Filed Decision will be entered under Rule 155. For Petitioners: Howard W. Gordon. For Respondent: John F. Hernandez. GOLDBERGGOLDBERGMEMORANDUM OPINION GOLDBERG, Special Trial Judge: This case was heard pursuant to section 7443A(b)(3) and Rules 180, 181, and 182. All section references are to the Internal Revenue Code in effect for the years in issue. All Rule references are to the Tax Court Rules of Practice and Procedure. By a notice of deficiency dated April 11, 1990, respondent determined deficiencies in petitioners' Federal income tax for tax years 1982, 1983, and 1984 as follows: YearDeficiency1982$ 4,32419832,43419841,705This case was submitted fully stipulated pursuant to Rule 122. The stipulation of facts, supplemental stipulation of facts, and attached exhibits are incorporated by this reference. Petitioners resided in North Bay Village, Florida, when they filed their petition. After concessions, the only issue for decision is whether the expiration of the period of limitations bars assessment of petitioners' liability for tax attributable to partnership items for the years in question. Petitioners held a 2.475-percent partnership478 interest in Fort Myers Office Center, Ltd. (the Partnership). On their Federal income tax returns, petitioners claimed their distributive share of losses from the Partnership for the years 1982, 1983, and 1984 in the following amounts: YearClaimed Loss1982$ 20,135198322,61519846,746Respondent determined that certain Partnership deductions should be disallowed as follows: Partnership YearDeductions Disallowed orAdjustments to Income1982$329,3241983251,7221984163,952Respondent disallowed petitioners the following deductions with respect to each tax year: YearAmount Disallowed1982$ 8,82519836,23019844,058Given the fact that petitioners held a 2.475-percent interest in the Partnership, respondent concedes in the supplemental stipulation of facts that the amount of the disallowed deduction for 1982 should have been $ 8,150. The Partnership filed its initial return for the taxable period beginning October 14, 1982, and ending December 31, 1982, on April 15, 1983. In a notice dated September 17, 1984, respondent sent the Partnership's tax matters partner (sometimes referred to as the TMP) notice of the beginning of an479 administrative proceeding for tax year 1982. In 1984, respondent was furnished the names and addresses of all partners, including petitioners. On March 13, 1985, respondent sent the Partnership's TMP notice of the beginning of an administrative proceeding for tax year 1983. Neither petitioners nor respondent has a copy of any notice to the partners of the beginning of the administrative proceeding for the Partnership's 1984 tax year. On July 4, 1985, respondent sent petitioners a notice of the beginning of an administrative proceeding at the partnership level for tax year 1983. Neither petitioners nor respondent has a copy of any notice sent to petitioners with respect to tax year 1982 or 1984. Prior to the expiration of the period of limitations for the assessment of income tax attributable to a partnership item for 1982 and 1983, the Partnership's authorized representative executed a series of 3 Forms 872-P, Consent to Extend the Time to Assess Tax Attributable to Partnership Items of a Federally Registered Partnership. These 3 consents operated to extend the period of limitations for assessment for tax years 1982 and 1983 until December 31, 1988. No consent was signed with480 respect to tax year 1984. On March 23, 1988, a notice of Final Partnership Administrative Adjustment (the FPAA) was mailed by respondent to the Partnership's TMP; this notice dealt with tax years 1982, 1983, and 1984. No copy of the notice of FPAA was sent to petitioners by respondent before the 60th day after the mailing of the FPAA to the TMP as required by section 6223(a) and (d)(2). Respondent concedes that she failed to provide the partners with timely notice of FPAA under this provision. On May 30, 1989, three notices of FPAA concerning Partnership tax years 1982, 1983, and 1984 were mailed to petitioners and some other partners by respondent. Neither the TMP nor any other partner petitioned for a redetermination of the adjustments proposed in the notice of FPAA dated March 23, 1988. No partner who received the notice of FPAA dated May 30, 1989, petitioned for a redetermination of the proposed adjustments. On April 11, 1990, respondent issued the notice of deficiency which is the basis of the dispute in this case. Petitioners' position is that the notice is not timely. They feel that their refusal to make the election to have the FPAA apply to them should not have the481 effect of extending the period of limitations for assessment with respect to them and that, if the statute so provides, it is unconstitutional. Petitioners argue that the notice of FPAA mailed to them on May 30, 1989, was an impermissible second notice within the meaning of section 6223(f). They further argue that even if such notice of FPAA was not a second notice, it is not timely for 1984, as the period of limitations expired 3 years after the filing of the Partnership return on April 15, 1985. In this case, we must resolve a question concerning the interrelationship of the notice requirements concerning the unified partnership proceedings and the period of limitations for assessment with respect to partnership items. Specifically, we address the question of whether under the facts of this case respondent's failure to provide partners with a timely notice of FPAA, as required by section 6223(a) and (d)(2), has any impact upon the period of limitations for assessment. For the reasons stated below, we conclude that the notice of deficiency was timely for tax years 1982, 1983, and 1984. In the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA), Pub. L. 97-248, 96 Stat. 482 324, Congress introduced a unified procedure whereby the tax treatment of partnership items is determined at the partnership level in a single proceeding at both the administrative and judicial levels. Secs. 6221 through 6233. These provisions apply to partnership taxable years beginning after September 3, 1982. TEFRA sec. 407(a)(3). Section 6229 governing the period of limitations in TEFRA partnership cases states that, except as otherwise provided in this section, the period for assessing tax attributable to a partnership item "shall not expire before the date" which is 3 years after the later of the date on which the partnership return was filed or the last day for filing such return. Sec. 6229(a). A partnership item is an item of income, loss, deduction, or credit with respect to a partnership which is more appropriately determined at the partnership level than at the partner level. Sec. 6231(a)(3). The statement that, except as otherwise provided, the period of limitations "shall not expire before" a date 3 years after the filing of the return provides for a minimum period. Such period may be extended, suspended, or otherwise affected as provided in section 6229. It483 does not mean that the period shall, without exception, expire in 3 years. The 3-year period of assessment may be extended in a number of ways. For example, section 6229(b)(1)(B) provides that it may be extended for all partners in a partnership by the consent of the TMP. Section 6229(d) provides that the running of the limitations period is suspended from the date when the FPAA is mailed to the partnership's TMP for (1) the period during which an action may be brought for judicial review of the FPAA, and if such an action is brought, until the decision of the court becomes final, and (2) for 1 year thereafter. The period during which an action may be brought is typically 150 days. Sec. 6226(a) and (b); see sec. 7503. To say that the running of the period of limitations is "suspended" clearly implies that, after the suspension, any time remaining at the date of suspension is allowed to run before the period expires. Aufleger v. Commissioner, 99 T.C. (1992). The final modification relevant to this case may occur if partnership items of any partner become nonpartnership items. Sec. 6229(f). A nonpartnership item is an item which is not a partnership item or which484 is not treated as such. Sec. 6231(a)(4). In other words, such an item is determined with respect to the partner individually, not as part of an FPAA, and the normal deficiency procedures rather than the TEFRA procedures apply: If, before the expiration of the period otherwise provided in this section for assessing any tax imposed by subtitle A with respect to the partnership items of a partner for the partnership taxable year, such items become nonpartnership items by reason of 1 or more of the events described in subsection (b) of section 6231, the period for assessing any tax imposed by subtitle A which is attributable to such items (or any item affected by such items) shall not expire before the date which is 1 year after the date on which the items become nonpartnership items. * * [Sec. 6229(f).] Contrary to petitioners' contention, the application of section 6229(f) does not require the partners' consent. As applied to this case, it requires (1) that the notice of FPAA be mailed to the partner before the expiration of the limitations period otherwise provided in section 6229, and (2) that the partner not have made the election to have the FPAA apply to him or her. 485 The conversion of partnership items into nonpartnership items, specified in section 6231(b)(1)(D), cross-referencing section 6223(e), takes place when any notice which respondent is required to provide under the TEFRA procedure is not timely. Under section 6223(e), the treatment depends upon whether, at the time when notice is mailed to the partners, the partnership proceedings are still going on or are finished. In this case, the proceedings were finished. With exceptions not relevant to this case, respondent is required to provide partners in a partnership subject to the TEFRA partnership-level audit proceeding with notice of the beginning and the end of such an administrative proceeding. Sec. 6223(a). Respondent failed to provide petitioners with notice of the beginning of administrative proceeding (NBAP) for tax years 1982 and 1984. No NBAP was apparently provided to the partners for tax year 1984. The dispute here, however, concerns only the effect of respondent's May 30, 1989, mailing of the notice of FPAA to petitioners after the expiration of the 60-day period specified in section 6223(d)(2). For purposes of this case, the relevant portions of section 6223(e) provide486 that if a partner receives notice of the FPAA after the proceedings are finished, the partner may elect to have the FPAA apply to him. If the partner makes no election, the partnership items are treated as nonpartnership items as to him. Sec. 6223(e)(2). Section 301.6223(e)-2T(a)(2), Temporary Proced. & Admin. Regs., 52 Fed. Reg. 6785 (Mar. 5, 1987) provides that the partnership items become nonpartnership items as of the day on which respondent mails the partner notice of the proceeding. As stated above, if the notice of FPAA is sent to the partner before the limitations period for the partnership year expires, the limitations period "shall not expire before the date which is 1 year after the date on which the items become nonpartnership items". Sec. 6229(f). The limitations period for partnership items with respect to the Partnership's tax years 1982 and 1983 had been extended by consent of the Partnership's authorized representative until December 31, 1988. Sec. 6229(b)(1)(B). No consent was executed with respect to tax year 1984. The FPAA, mailed March 23, 1988, was issued within the period of limitations, as extended, for the Partnership's tax years 1982487 and 1983 and within 3 years of the due date of the return for the Partnership tax year 1984. Section 6229(d) provides, as previously noted, that when an FPAA is issued, the running of the period of limitations is suspended for the period during which a partnership action may be commenced and for 1 year thereafter. The running of the remaining period of limitations then resumes. Aufleger v. Commissioner, supra. For the Partnership's tax years 1982 and 1983, section 6229(d), in conjunction with the Partnership's consents, operated to extend the period of limitations until at least August 20, 1989. 1 For taxable year 1984, section 6229(d) operated to extend the period of limitations until September 12, 1989. On May 30, 1989, respondent mailed the FPAA for all 3 taxable years 488 to petitioners. As stated above, section 6229(f) provides that the period of limitations shall not expire for 1 year after the day the partnership items become nonpartnership items, in this case May 30, 1989, the date on which respondent mailed petitioners the notice of FPAA. Thus, the period of limitations for assessment of a deficiency with respect to petitioners' Partnership items would have expired on May 30, 1990. The notice of deficiency was mailed to petitioners on April 11, 1990, and was timely for all 3 years in question. As we have demonstrated, the "statutory period" to which petitioners refer on brief extended to May 30, 1990. Contrary to petitioners' contention, their consent was not required for the modification of the period of limitations under section 6229(f). Petitioners' only available election, under the facts of this case, was to have the terms of the FPAA apply to them; in default of the election, the partnership items became nonpartnership items with respect to them on the date on which the FPAA was mailed, and the limitations period was modified as provided for in section 6229(f). We held in Wind Energy Technology Associates III v. Commissioner, 94 T.C. 787 (1990),489 that the election provided in section 6223(e) is the only remedy when respondent does not provide notice of the beginning of a partnership proceeding as required in section 6223(a)(1) within the period specified in section 6223(d)(1). The same conclusion applies when notice under section 6223(a)(2) is untimely under section 6223(d)(2), provided that such notice is mailed within the applicable period under section 6229. Accord White & Case v. United States, 22 Cl. Ct. 734">22 Cl. Ct. 734, 740 (1991) (holding that the notice requirements of section 6223 are procedural, not jurisdictional, and they do not affect the statute of limitations set forth in section 6229). Consequently, the notice of deficiency mailed to petitioners was timely. Petitioners' contention is that the notice of FPAA mailed on May 30 was an invalid "second notice". Section 6223(f) provides that if a notice of FPAA is mailed with respect to a partner, respondent may not mail another such notice to such partner with respect to the same taxable year and partnership "in the absence of a showing of fraud, malfeasance, or misrepresentation of a material fact". The regulations state that section 6223(f) "does 490 not prohibit the Service from issuing a duplicate copy of the notice of final partnership administrative adjustment (for example, in the event the original notice is lost)". Sec. 301.6223(f)-1T, Temporary Proced. & Admin. Regs., 52 Fed. Reg. 6785 (Mar. 5, 1987). This Court held in Barbados #6 Ltd. v. Commissioner, 85 T.C. 900">85 T.C. 900, 907 & n.13 (1985), that mailing of a duplicate notice does not constitute a second notice proscribed by section 6223(f). Cf. Barbados #7 Ltd. v. Commissioner, 92 T.C. 804 (1989) (calling such a notice a "duplicate original"). It is clear to us that the term "another such notice" in section 6223(f) refers not to a duplicate of the first notice but to a notice of a second determination. Petitioners argue that section 6229(f), which gives respondent an additional year after mailing the FPAA to mail a deficiency notice to them, is unconstitutional as lacking in a rational basis. This argument is not worthy of serious consideration. Essentially, petitioners feel that it is unfair that the period of limitations may be modified without their consent; that by delaying the mailing of the FPAA to the partners, 491 respondent obtained more time in which to send a deficiency notice than she would have had if the partners' notices of FPAA had been sent within the period specified in section 6223(d)(2). As we have noted elsewhere in regard to alleged unfairness surrounding the FPAA:Be that as it may, that is the procedure which the Congress has created, and we have no authority to rewrite the statute in order to change procedure and substitute our own idea of "fairness." If there is any such inequity, it is up to Congress to revise the law. * * [Genesis Oil & Gas v. Commissioner, 93 T.C. 562">93 T.C. 562, 566 (1989).] For the operation of section 6229(f), see Aufleger v. Commissioner, 99 T.C. (1992); Harvey v. Commissioner, T.C. Memo. 1992-67. For the reasons stated above, we hold that the notice of deficiency mailed to petitioners for tax years 1982, 1983, and 1984 was timely. Decision will be entered under Rule 155. Footnotes1. Since the FPAA was sent to petitioners before Aug. 20, 1989, we need not reach the question of whether sec. 6229(d)↩ also operated to suspend the running of the period set forth in the consents to extend the period of limitations.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619779/	DEAN E. SCHADE, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentSchade v. CommissionerDocket No. 29759-82.United States Tax CourtT.C. Memo 1986-265; 1986 Tax Ct. Memo LEXIS 341; 51 T.C.M. (CCH) 1295; T.C.M. (RIA) 86265; July 1, 1986. Rogelio A. Villageliu, for the respondent. WILBURMEMORANDUM OPINION WILBUR, Judge: Respondent determined the following Federal income tax deficiencies and additions to tax: Additions to TaxYearDeficiencySec. 6651(a) 1Sec. 6653(a)1979$7,253.43$623.07$362.6719804,718.961,178.06235.95The only issue remaining for decision in this case is whether damages should be awarded to the United States pursuant to section 6673. Petitioner resided in Cedar Rapids, Iowa, when he filed the petition in this case. In addition to disputing all the determinations made by respondent in his statutory342 notice of deficiency, the petition alleges that respondent's determination of petitioner's gross income was based on an "arbitrary assumption" without "verification, substantiation or basis." It is further alleged that respondent denied petitioner legitimate expenses and exemptions and arbitrarily imposed additions to the tax. However, there are no facts alleged which support petitioner's claims or naked assertions. Petitioner was invited to meet with respondent's counsel on November 25, 1983, in order to prepare a stipulation of facts but he never responded to the invitation and subsequently failed to appear for the conference on the scheduled date. A second conference was scheduled by respondent's counsel for August 23, 1984, but petitioner again neglected to respond to the invitation and failed to appear for the conference. After the Court issued the notice of trial in this case, respondent sent petitioner a proposed stipulated of facts which he ignored. Pursuant to Rule 91(f) of the Tax Court Rules of Practice and Procedure, 2 this Court issued an Order to Show Cause requiring petitioner to show why respondent's proposed stipulation of facts should not be accepted. Petitioner343 did not respond and he failed to appear for the hearing on October 3, 1984. Consequently, the Court's Order to Show Cause was made absolute and the facts contained in respondent's proposed stipulation were deemed admitted. When the case was called at the trial session in Des Moines, Iowa, petitioner did not appear to prosecute his case. His failure to produce evidence, with regard to issues as to which he bears the burden of proof, led this Court to grant respondent's motion to dismiss pursuant to Rule 123 for failure to properly prosecute. See also Rule 149. Therefore, the deficiencies and additions to tax determined by respondent were sustained. At the trial session, respondent filed a motion for an award of damages in the amount of $500 pursuant to section 6673. We will award damages of $500 to the United States pursuant to section 6673, 3 which provides as follows: Whenever it appears to the Tax Court that proceedings before it have been instituted or maintained by the taxpayer primarily for delay or that the taxpayer 's position in such proceedings is frivolous or groundless, damages344 in an amount not in excess of $5,000 shall be awarded to the United States by the Tax Court in its decision. Damages so awarded shall be assessed at the same time as the deficiency and shall be paid upon notice and demand from the Secretary and shall be collected as a part of the tax. This is clearly a situation where petitioner filed forms that failed to disclose any information or data from which respondent could compute and assess petitioner's tax liability for the years 1979 and 1980. They do not constitute income tax returns. Cupp v. Commissioner,65 T.C. 69">65 T.C. 69, 79 (1975), affd. by order 559 F.2d 1207">559 F.2d 1207 (3d Cir. 1977). Furthermore, petitioner's blanket assertion of the privilege against self-incrimination on his Forms 1040 as grounds for refusing345 to disclose any information is rejected. Thompson v. Commissioner,78 T.C. 558">78 T.C. 558, 562 (1982). His failure to stipulate facts, respond to the Court's orders and appear at the trial to prosecute his case, when considered along with his frivolous and groundless petition, convinces us that this proceedings was instituted and maintained primarily for delay. Petitioner was well aware that the income which he received was reportable as gross income and that he was required to file income tax returns. Petitioner knew that the arguments he asserted were frivolous, but nevertheless proceeded to advance them. May v. Commissioner,752 F.2d 1301">752 F.2d 1301 (8th Cir. 1985), affg. a Memorandum Opinion of this Court; Abrams v. Commissioner,82 T.C. 403">82 T.C. 403, 408-413 (1984). Accordingly, we think damages are appropriate and respondent's motion will be granted. An order and decision will be entered.Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954, as amended and in effect for the years in issue.↩2. All Rule references are to the Tax Court Rules of Practice and Procedure.↩3. The amount of damages that can be awarded pursuant to section 6673 was increased from $500 to $5,000 as part of the Tax Equity and Fiscal Responsibility Act of 1982, Pub. L. 97-248, 96 Stat. 574. New section 6673 is applicable to any action or proceeding in the Tax Court commended after December 31, 1982 or pending in the United States Tax Court on the day which is 120 days after July 18, 1984.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619780/	ESTATE OF MICHAEL NEWMAN, DECEASED, SIDNEY NEWMAN, EXECUTOR, AND ALICE NEWMAN, EXECUTOR, AND ALICE NEWMAN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentEstate of Newman v. CommissionerDocket No. 4224-89United States Tax CourtT.C. Memo 1990-230; 1990 Tax Ct. Memo LEXIS 264; 59 T.C.M. (CCH) 543; T.C.M. (RIA) 90230; May 10, 1990, Filed 264 Steven Kamerman, for the petitioners. Curt M. Rubin, for the respondent. WELLS, Judge. WELLS772 MEMORANDUM OPINION Respondent determined a deficiency in petitioners' Federal income tax for taxable year 1977 in the amount of $ 109,230. The issues for us to decide concern petitioners' proper distributive share of ordinary income and capital gain from the partnership known as Digitax of Michigan (hereinafter "Digitax"). For convenience we will combine our findings of fact and opinion. The facts are fully stipulated. The stipulation of facts and attached exhibits are incorporated herein by reference. At the time they filed their petition in the instant case, petitioners resided in New York, New York. During taxable year 1977, petitioner Alice Newman and her husband, Michael Newman, who died subsequently (petitioner Alice Newman and Michael Newman will hereinafter be referred to together as the "Newman"), were limited partners in Digitax. Through taxable year 1977, the Newmans had contributed capital to Digitax in the total amount of $ 100,000. As of January 1, 1977, and prior to the liquidation of Digitax, the Newmans' capital account265 in Digitax was $ 159,610; their adjusted basis in their partnership interest in Digitax was $ 54,655; and their relative ownership interest in Digitax was 37.62 percent. The Newmans were solvent during the entire taxable year 1977. The parties stipulated that the stipulation of facts submitted in the trial of the consolidated Tax Court cases, Herbert Gershkowitz, et al. v. Commissioner of Internal Revenue, docket Nos. 4413-82, 23158-82, 23159-82, 23160-82, 23192-82, 23238-82, 23241-82, 23242-82, and 23245-82, is incorporated into the stipulation of facts in the instant case. That case (hereinafter "Gershkowitz"), also a fully stipulated case, was decided in a Court-reviewed opinion rendered on April 21, 1987 and reported at . The parties neither filed briefs nor requested to do so, and the Court did not order the filing of briefs as the facts and issues in the instant case are the same as those in Gershkowitz. On the basis of the facts found in Gershkowitz, we held that (1) the insolvency exception to the discharge of indebtedness doctrine applies at the partner level, not the partnership level, (2) the "freeing of assets" theory of 266 United, does not apply to limit the amount of gain recognized, (3) the conveyance of property to creditors in satisfaction of indebtedness is a sale or exchange on which gain or loss must be recognized, and (4) the 1977 amendments to the limited partnership agreements lack substantial economic effect. Except as to the facts pertaining to the partners' capital contributions, adjusted basis, capital accounts, and percentage interests in the partnership findings, which we made above with respect to the Newmans, we *773 incorporate herein the findings of fact we made in Gershkowitz. On the basis of our holding in Gershkowitz, and to reflect the foregoing, Decision will be entered under Rule 155.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4473982/	Filed 1/16/20 CERTIFIED FOR PUBLICATION IN THE COURT OF APPEAL OF THE STATE OF CALIFORNIA SECOND APPELLATE DISTRICT DIVISION FIVE THE PEOPLE, B296613 Plaintiff and Respondent, (Los Angeles County Super. Ct. No. BA471975) v. EDWIN VILLATORO, Defendant and Appellant. APPEAL from a judgment of the Superior Court of Los Angeles County, James R. Dabney, Judge. Affirmed in part and reversed in part. Ricardo D. Garcia, Public Defender, Albert J. Menaster, Dana Branen, and Nick Stewart-Oaten, Deputy Public Defenders, for Defendant and Appellant Xavier Becerra, Attorney General, Lance E. Winters, Chief Assistant Attorney General, Susan Sullivan Pithey, Michael C. Keller and David A. Voet, Deputy Attorneys General, for Plaintiff and Respondent. ____________________________ Appellant Edwin Villatoro appeals from the trial court’s order imposing a $100 fine under Penal Code section 29810 for failure to complete a firearms disclosure form.1 Section 29810 provides that the failure to timely file a completed firearms disclosure form “shall constitute an infraction punishable by a fine not exceeding one hundred dollars ($100).” (§ 29810, subd. (c)(5).) Villatoro contends the $100 fine is unauthorized by law in this case because the prosecutor never charged him with an infraction in violation of section 29810. The Attorney General takes the position that the trial court properly charged and convicted Villatoro of the infraction because the prosecutor’s silence at the proceedings implied the prosecutor’s “concurrence and approval.” Given that the statutory procedures for prosecuting an infraction were not followed here, we conclude the trial court had no authority to impose punishment for committing an infraction under these circumstances. The trial court’s order is reversed. FACTUAL AND PROCEDURAL BACKGROUND Villatoro was charged and pled no contest to assault (§ 245, subd. (a)(4)). The court accepted Villatoro’s plea and placed him on three years of formal probation. At the sentencing hearing, the court imposed a $30 conviction assessment (Gov. Code, § 70373), a $40 operations assessment (§ 1465.8), a $300 restitution fine (§ 1202.4), and imposed and stayed a $300 parole revocation restitution fine (§ 1202.45). Villatoro declined to complete the Prohibited Persons Relinquishment Form, invoking his Fifth Amendment right 1 All further statutory references are to the Penal Code unless otherwise stated. 2 against self-incrimination. The court declined to “uphold[] the privilege” because Villatoro had no prior convictions. The court informed Villatoro: “It’s going to be a $100 fine if you don’t sign this form” and then set a “nonappearance date” for a “Prop. 63 report.”2 At the subsequent hearing, the following exchange occurred between Villatoro’s counsel and the trial court, Villatoro not being present: “[Counsel]: Your Honor, if the court’s going to [] set the fine, he has a right to an infraction and our office is taking it up. [Court]: What? You should have had him come in. . . . I told you at the time of the agreement I was going to do this when I sentenced him. He waived his appearance. [Counsel]: I didn’t want my client to sign a form that’s going to be seen by the federal government when he faces collateral consequences of his plea. [Court]: Great. Excellent. He has no record. I said that at the time of the agreement that I was going to impose the fine because he had no record. So this is his infraction hearing. We can do it right now. Go ahead.” After defense counsel made an argument, the court found that Villatoro had failed to complete the Prohibited Persons Relinquishment Form as required by section 29810 and imposed a $100 fine. Villatoro timely appealed. 2 In November 2016, the voters passed Proposition 63, the “Safety for All Act of 2016,” which amended section 29810 to provide for the use of the Prohibited Persons Relinquishment Form. (People v. Romanowski (2017) 2 Cal.5th 903, 904, fn. 2; § 29810; Prop 63, § 10.4.) 3 DISCUSSION3 Villatoro argues the trial court lacked the authority to sentence him for a violation of section 29810 because the prosecutor never charged him with this infraction. The Attorney General argues the trial court had the authority to charge Villatoro because the prosecutor “did not object to the court holding an infraction proceeding” and, therefore, “the trial court had the implicit concurrence and approval of the district attorney to initiate infraction proceedings under section 29810.” The Attorney General does not cite to any authority for this novel argument, and we cannot support it. Section 29810 provides that the trial court shall, upon conviction of a defendant for a felony, provide the defendant with a Prohibited Persons Relinquishment Form. (§ 29810, subd. (a)(2).) The form requires the defendant to declare any firearms in his possession and their location “to enable a designee or law enforcement officials to locate the firearms.” (§ 29810, subd. (b)(3).) Prior to final disposition or sentencing, the court must make findings as to whether the court received the 3 Respondent argues we should dismiss the appeal or transfer it to the superior court appellate division because the imposition of the $100 fine was analogous to an independent infraction case. (See § 1466.) Leaving aside the issue of efficiency, we cannot view the fine in this manner given that the prosecutor never charged an infraction and no trial was held on such a charge. Rather, these unusual proceedings involve the imposition of a fine in conjunction with the sentencing on Villatoro’s felony plea; no separate charges were filed and the infraction proceedings were part and parcel with the felony plea and sentence. We conclude jurisdiction properly rests in this court, as part of an appeal from a felony conviction. (People v. Rivera (2015) 233 Cal. App. 4th 1085, 1095–1096.) 4 completed form. (§ 29810, subd. (c)(3).) “Failure by a defendant to timely file the complete Prohibited Persons Relinquishment Form with the assigned probation officer shall constitute an infraction punishable by a fine not exceeding one hundred dollars ($100).” (§ 29810, subd. (c)(5).) Villatoro cites to People v. Municipal Court for Ventura Judicial District (Pelligrino) (1972) 27 Cal. App. 3d 193 for the principle that a criminal complaint filed without the district attorney’s authorization is a nullity. (Id. at p. 204.) The Pelligrino court observed that “all criminal proceedings must be brought in the name of the People of the State of California” citing to article six, section 20 of the California Constitution. (Id. at p. 201.) “Due process of law requires that criminal prosecutions be instituted through the regular processes of law. These regular processes include the requirement that the institution of any criminal proceeding be authorized and approved by the district attorney.” (Id. at p. 206.) Here, the trial court essentially charged defendant with an infraction, conducted a trial, found him guilty, and imposed the $100 fine on him for violating section 29810—all in the presence of the district attorney. Yet, the district attorney did not charge or approve the charging of an infraction. The People’s position that the district attorney may “implicitly concur” to a trial court’s “initiation of infraction proceedings under section 29810” by simply not voicing opposition is not supported by any authority. Certainly the district attorney had the opportunity to file the infraction. Even if it could be said that the prosecutor impliedly concurred with court’s initiation of infraction proceedings, nothing in the Attorney General’s appellate briefs suggests that 5 the court has the power to initiate proceedings at all, with or without the concurrence of the prosecutor, express or implied. We also note that the defendant has a right to be present when a fine is imposed upon him. In a criminal case, the trial court’s oral pronouncement of sentence constitutes the judgment. (People v. Mesa (1975) 14 Cal. 3d 466, 471.) The judgment must be imposed in the presence of the accused. (People v. Zackery (2007) 147 Cal. App. 4th 380, 386–387 (Zackery).) Because fines are punishment, a “judgment includes a fine.” (People v. Hong (1998) 64 Cal. App. 4th 1071, 1080.) Therefore, a fine may only be imposed in the presence of the accused. (Zackery, at pp. 386– 389.) Here, the court imposed the fine at a “nonappearance” hearing at which Villatoro was not present. Although we reverse the order imposing the fine, we recognize the practical dilemma that trial courts and district attorneys may face in order to secure defendants’ compliance with a law founded on strong public policy. However, frustration is not a substitute for authority. If prosecuting an infraction is too onerous a requirement for district attorneys seeking compliance with section 29810, one remedy would be to seek legislative change. In the present case, Villatoro was placed on probation. We express no opinion whether completing the Prohibited Persons Relinquishment Form could be included as a term of probation. We hold only that the court may not initiate infraction proceedings on its own. /// /// 6 DISPOSITION The January 30, 2019 order imposing a $100 fine is reversed. The judgment is otherwise affirmed. RUBIN, P. J. WE CONCUR: MOOR, J. KIM, J. 7	01-04-2023	01-16-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619781/	Standard Oil Company of New Jersey, Petitioner, v. Commissioner of Internal Revenue, RespondentStandard Oil Co. v. CommissionerDocket No. 7512United States Tax Court11 T.C. 843; 1948 U.S. Tax Ct. LEXIS 27; November 29, 1948, Promulgated 27 Decision will be entered under Rule 50. During 1936 and prior to the liquidation of Standard Oil Export Corporation, petitioner and the other guarantors of this corporation's preferred stock dividends were called upon to pay the final dividend on Export's preferred stock. Held, any claim petitioner had against Export for reimbursement of its share of the final dividend which it paid in 1936 was worthless in 1936; held, further, petitioner is entitled to deduct, either as an expense or loss in the taxable year 1936, that part of the amount paid in 1936 for which it was liable under its contract of guaranty, which liability is determined as representing the difference between the amount of the final dividend paid and the earnings of Export which were available for the payment of a part of the final dividend. Marion N. Fisher, Esq., D. Nelson Adams, Esq., Maxwell E. McDowell, Esq., and George S. Koch, Esq., for the petitioner.Henry C. Clark, Esq., for the respondent. Black, Judge. BLACK 843 This is a reconsideration of our report published at 7 T.C. 1310">7 T. C. 1310. After the promulgation of that report petitioner filed a "Motion 28 for Reopening of Case to Permit Introduction of Evidence and Rehearing," on the ground that our holding that petitioner could not deduct the payment in question to Export of guaranteed dividends of $ 764,914.24, because it impliedly had a valid enforceable claim against Export for reimbursement, was a holding on a point which had not been previously considered by the parties in their negotiations or in arriving at their stipulation of facts and that, unless petitioner be permitted to show that any claim it had for reimbursement was worthless in 1936, serious injustice would be done. The respondent filed objections to the granting of the motion, but after considering the 844 motion and the objections, we granted the motion. At the rehearing in New York City January 7, 1948, the parties filed a supplementary stipulation and other documentary evidence. Some oral testimony was also received, and petitioner was granted permission to amend its petition by adding assignment of error (b) so that the errors now assigned by petitioner and denied by the respondent are as follows:(a) The disallowance as a deduction under Section 23 of the Revenue Act of 1936 of the sum of $ 764,914.24 paid in 29 1936 by petitioner with respect to 1936 under an agreement entered into on November 6, 1929 whereby petitioner undertook, among other things, to pay to the holders of the 5% Preferred Shares of Standard Oil Export Corporation such part of the 5% yearly dividend on such shares as might be defaulted by Standard Oil Export Corporation.(b) The Commissioner erred in failing to allow as a deduction the sum of $ 764,914.24 on the ground that petitioner's claim for that amount against Standard Oil Export Corporation was worthless in 1936.The facts hereinafter appearing which are not from the stipulations are facts otherwise found from the record.FINDINGS OF FACT.We incorporate herein by reference our findings of fact, without change, contained in our report at 7 T. C. 1311 to 1319, inclusive. We also adopt as a part of our findings the supplementary stipulation and we incorporate it herein by reference.The earned surplus of Anglo-American Oil Co., Ltd., of London, England, hereinafter sometimes referred to as "Anglo," on December 31, 1929, was # 4,633,827-1-2, which, converted into American dollars at $ 4.881, is $ 22,617,709.87. The earnings or (losses) and net dividends paid, all in sterling, 30 of Anglo for the calendar years 1930 to 1935, inclusive, and the six-month period ended June 30, 1936, are as follows:Year or period ended --Earnings or (losses)Dividends paid12-13-1930# 512,700-8-5 # 853,882-0-012-31-1931(901,343-8-9)391,362-11-812-31-1932(899,963-15-8)None12-31-1933680,029-2-4 None12-31-1934341,281-10-8 None12-31-1935594,431-13-4 903,923-3-96-30-1936462,989-15-0 177,868-15-2The above dividends paid by Anglo were received by Standard Oil Export Corporation, hereinafter sometimes referred to as "Export." The greater part of these dividends was paid by Anglo out of its earned surplus which it had on hand on December 31, 1929. After converting these dividends into American dollars, the amounts paid by Anglo and received by Export and the part which was paid out of Anglo's earned surplus which it had on hand on December 31, 1929, were as follows: 845 ConversionYear or period ended --Sterlingrate12-31-1930# 853,882-0-0$ 4.858 12-31-1931391,362-11-84.8648 12-31-1935903,923-3-94.909576-30-1936177,868-15-24.9894 Total Paid from surplusYear or period ended --Americanon handdollarson Dec. 31,192912-31-1930$ 4,148,545.75$ 1,778,078.6512-31-19311,903,882.911,910,240.7712-31-19354,437,881.923,111,127.256-30-1936887,463.78Total 11,337,774.366,799,446.6731 The principal income of Export consisted of these dividends received from Anglo. The earned surplus of Export on December 31, 1929, was $ 40,213.41. Upon the final audit of its income tax returns the net income or (loss) of Export (after making certain adjustments for nontaxable income and unallowable deductions) and the dividends paid on the preferred stock of Export for the calendar years 1930 to 1935, inclusive, and the six-month period ended June 30, 1936, were as follows:Year or period ended --Net income or (loss)Dividends paid12-31-1930$ 3,869,542.13 $ 3,824,420.0012-31-19311,881,685.49 3,824,930.0012-31-1932(11,131.41)3,824,675.0012-31-1933(6,020.50)3,824,538.2512-31-1934(21,266.60)3,824,652.0012-31-19353,978,269.25 3,824,617.456-30-1936921,704.29 1,912,285.60Total 10,612,782.65 24,860,118.30The greater portion of the above dividends paid on the preferred stock of Export was paid from money furnished by the guarantors. The amounts paid by the guarantors and the portion (40 per cent) contributed by petitioner were as follows:40% contributed bypetitionerDividendsYear or period ended --paid by guarantorsForAmountyear --12-31-193012-31-1931$ 1,912,337.501931$ 764,935.0012-31-19323,824,675.0019321,529,870.0012-31-19333,824,675.0019331,529,870.0012-31-19343,824,675.0019341,529,870.0012-31-19341,778,078.651930711,231.4612-31-19341,910,240.771931764,096.316-30-19362,284,557.851935913,823.146-30-19361,912,285.601936764,914.24Total 21,271,525.378,508,610.1532 The above dividends paid by the guarantors represent one-half of the dividend requirement for 1931 and all of the dividend requirements for 1932, 1933, and 1934. The second and third payments for 1934, in the respective amounts of $ 1,778,078.65 and $ 1,910,240.77, represent a reimbursement to Export for that part of the dividends Export paid in 1930 and 1931 from the dividends it had received from 846 Anglo which had been paid by Anglo out of the earned surplus on hand on December 31, 1929. The payment of $ 2,284,557.85 in 1936 represents a reimbursement to Export of a part of the dividends Export paid in 1935 and also represents the book deficit of Export (prior to the final audit of its income tax returns) on June 30, 1936, which was caused principally by crediting $ 3,111,127.25 of the dividends received from Anglo in 1935 to its investment account in Anglo stock instead of to surplus. The payment of $ 1,912,285.60 in 1936 represents the dividend requirement for the first six months of 1936.Petitioner's share of the dividends paid by the guarantors was at all times 40 per cent, which was the percentage of common stock it originally owned in Export. That percentage of the dividend 33 requirement for the first six months of 1936 paid by the guarantors in the amount of $ 1,912,285.60 is the amount of $ 764,914.24, which is the amount petitioner contends it is entitled to deduct from its gross income for the taxable year in question. This latter amount was charged off on the books of petitioner in 1936 by a charge to a profit and loss account bearing the caption "Other Charges and Credits."Standard Oil Co. organized Anglo in England in 1888 and continuously thereafter held all of the outstanding stock of that company until it was disposed of in 1912 as a result of the decision of the United States Supreme Court in Standard Oil Co. v. United States, 221 U.S. 1">221 U.S. 1. For many years prior to 1929 Anglo maintained an office in the United States. This office was continued until October 1932, and thereafter Anglo maintained no office in the United States.Stated in a condensed form, Export's balance sheet as of December 31, 1935, as shown by its books prior to the final audit of its income tax returns by the respondent is as follows:Assets:Cash $ 94,422.31Accounts receivable 33.75Investmet in Anglo stock 73,589,105.89Preferred stock in treasury 1,486.00Prepaid taxes 35,000.00Special deposit 255.55Total 73,720,303.50Liabilities and capital:Accounts payable to affiliated compay $ 111,685.11Accounts payable to others 5,213.71Accrued taxes 74,854.65Preferred stock 76,493,500.00Common stock 100.00Capital surplus 1,755.63Deficit (2,966,805.60)Total 73,720,303.5034 847 During February 1936 the board of directors of Standard Oil Co., after due consideration, arrived at the decision that Standard Oil Co. should acquire all of the outstanding common stock of Export not already owned by it, with the view of liquidating that company. Preliminary to the liquidation of Export, it was necessary that provision be made with respect to the 764,935 shares of Export's preferred stock, and the board of directors of Standard Oil Co. decided that the preferred stock should be redeemed at the redemption price of $ 110 per share. Counsel for Standard Oil Co. advised the board that legally it would have been proper under the strict terms of Export's certificate of incorporation to extinguish the preferred stock by payment of the par value of $ 100 per share. The board determined as a matter of policy, however, that it would not be in the best interests of the company to rely on this technical legal right because the preferred stock had been selling in the market for approximately $ 116 a share in reliance on the redemption provision and the public might accuse Standard Oil Co. of taking advantage of an unfair technicality.On May 19, 1936, the Standard Oil Co. acquired 35 from the petitioner, the Standard Oil Co. of Louisiana, and the Carter Oil Co. all of their common stock in Export, with the understanding of all parties that Standard Oil Co. would proceed as expeditiously as possible (a) to furnish Export with funds to retire Export's preferred stock and (b) to liquidate Export and distribute to Standard Oil Co. all of its assets. Pursuant to this understanding, the Standard Oil Co., on or about June 5, 1936, turned over to Export $ 84,142,850, which was used by Export on June 30, 1936, to redeem its preferred stock, and thereafter Export was liquidated and its assets distributed to Standard Oil Co. and Export was left with no assets.The annual profits or (losses) as adjusted of Anglo and all of its affiliated companies for the calendar years 1929 to 1935, inclusive, and the six-month period ended June 30, 1936, were as follows:Year or period ended --Profits or (losses)12-31-1929# 1,497,637 12-31-1930710,035 12-31-1931(1,197,601)12-31-1932(1,388,522)12-31-1933910,315 12-31-1934595,585 12-31-1935# 977,603 6-30-1936 517,221 Total 2,622,273 Average 349,636 In arriving at the above adjusted profits for 1933 there was included an abnormal profit 36 of approximately # 735,000 realized on dollar exchange as a result of the increase in the rate of exchange during that year from $ 3.32875 to $ 5.1225. In arriving at the above adjusted profits for 1933 to 1935, inclusive, there was deducted debenture interest paid in each of those years on indebtedness no longer outstanding 848 in 1936 the amounts of # 83,046, # 72,430, and # 26,347, respectively.The average capital of Anglo outstanding during 1933 to 1935, inclusive, was 4,401,410 shares, par value # 1 each. The number of shares outstanding on June 30, 1936, was 4,665,410, all of which were owned by Export. At the time Anglo was organized its outstanding capital stock was # 200,000, and by 1929 it had increased to # 4,244,618. In 1889 Anglo's net worth was # 152,538-9-8 and on June 30, 1936, it was # 8,895,159-16-2, which latter figure, converted into American dollars at $ 5.015, amounts to $ 44,609,226.44.The fair market value of all of Anglo's stock owned by Export on June 30, 1936, was not in excess of $ 55,000,000.The earnings of Export for the six-month period ended June 30, 1936, of $ 921,704.29 were available for the payment of the final dividend of $ 1,912,285.60 to the 37 extent of $ 266,552.34. This left the guarantors liable for the balance of $ 1,645,733.26. Petitioner's share of that balance was 40 per cent, or $ 658,293.30. Petitioner's claim against Export for reimbursement of this latter amount was worthless in 1936 and petitioner is entitled to deduct from its gross income for the year 1936 the amount of $ 658,293.30 instead of the amount of $ 764,914.24 which it claimed as a deduction on its return.SUPPLEMENTAL OPINION.As stated in our earlier report (7 T. C. 1310) petitioner contends that it is entitled to deduct the entire amount of $ 764,914.24, either as a business expense or as a loss. The respondent contends primarily that no part of the payment of $ 764,914.24 is so deductible, and in the alternative that, if any amount is deductible, the amount deductible can not be in excess of $ 350,139.21. This alternative contention is based upon the further contention that the $ 6,799,446.67 distributed by Anglo out of its earned surplus on hand on December 31, 1929, was available to Export for the payment of dividends, whereas petitioner contends that the $ 6,799,466.67 was a return of capital to Export and was not available to Export for 38 the payment of dividends.In our earlier report we held that petitioner had a right under an implied agreement on the part of Export to reimbursement from Export for any amount it was called upon to pay under its contract of guaranty dated November 6, 1929, and that, in the absence of any evidence that such claim for reimbursement was worthless in 1936, petitioner was not in any event entitled to any deduction for the year 1936. In this holding we said:It seems to us that the only way that petitioner would be entitled to a deduction for the $ 764,914.24 which it paid in the taxable year on account of its guaranty of dividends on Export's preferred stock would be to show that Export 849 was insolvent and petitioner's claim for reimbursement was worthless. Petitioner makes no claim that it could make such a showing. At the time of the dissolution of Export in 1936 it owned all the stock of Anglo, which it carried on its books at a cost of more than $ 73,000,000, and was clearly solvent. That the guarantors, including petitioner, made no effort to be reimbursed can not, as we have already said, give them the benefit of the deduction which they claim.Basically, we think what we said above 39 was entirely correct in the light of the record which we then had before us, and we adhere to it. However, the word "insolvent" as used above was not very accurately used. It was plain then, and it is still plain, that Export at the time of its liquidation was "solvent" as that term is ordinarily understood. It would have been more accurate if the word "insolvent" had not been used and the opening sentence of the above quoted paragraph had read something like this: "It seems to us that the only way that petitioner would be entitled to a deduction for the $ 764,914.24 which it paid in the taxable year on account of its guaranty of dividends on Export's preferred stock would be to show that Export did not have sufficient assets to pay its creditors and to discharge its obligation to its preferred stockholders to pay them $ 100 per share upon liquidation, and, therefore, petitioner's claim for reimbursement was worthless." The reason why such latter statement would have been more accurate than the one which we did use will appear from later discussion in this supplemental opinion. Under the holding which we made in our former report it was not necessary to decide what would be the 40 situation if petitioner's claim for reimbursement was in fact worthless in 1936; namely, whether in that event petitioner would be entitled to any deduction, and, if so, the amount thereof.At the rehearing a considerable amount of evidence was received. Without discussing the evidence in detail, we think petitioner has definitely proved that any claim it had against Export for reimbursement was worthless in 1936. We shall now consider that matter.It was decided early in 1936 that Export should be liquidated. Its operations had not been successful. Its earnings were insufficient to pay the 5 per cent dividend on its preferred stock and as a result the guarantors of the stock, of whom petitioner was one, were called upon to pay by far the greater part of the dividends that were paid. It looked as if this situation would continue indefinitely and the burden was onerous, so it was decided to liquidate. At that time Export's balance sheet (set out in our findings) indicated that it had assets, exclusive of the Anglo stock, of only $ 131,197.61 to meet $ 191,753.47 of liabilities, exclusive of any liability to the guarantors for past payments by the guarantors. It had a net deficit 41 of $ 2,965,049.97. This left on the asset side of the balance sheet Export's investment in the Anglo stock, which it was carrying at a cost of $ 73,589,105.89, and, on the liability side, the two issues of its stock, namely, preferred 850 $ 76,493,500 and common $ 100. Any claim that petitioner might have against Export for reimbursement of past or future payments was subordinate to the rights of the preferred stockholders, for it is well settled that as a matter of law a surety may not assert his rights to the prejudice of the party whose protection he has guaranteed. See Jenkins v. National Surety Co., 277 U.S. 258">277 U.S. 258; American Surety Co. v. Westinghouse Electric Mfg. Co., 296 U.S. 133">296 U.S. 133; Pou v. South Carolina Warehousing Corporation, 27 Fed. (2d) 418. Petitioner's claim for reimbursement could not, therefore, have been enforced against the assets of Export until the rights of the preferred stockholders had been satisfied in full. It would, therefore, have been necessary for Export to sell the Anglo stock for more than the par value of Export's preferred stock ($ 76,493,500) if petitioner were to realize anything on any claim it had or might have against Export. We have found as a 42 fact, however, that the fair market value of the Anglo stock on June 30, 1936, was not in excess of $ 55,000,000. The greater part of the evidence offered at the rehearing was towards proving the fair market value of the Anglo stock. The book value of the stock on June 30, 1936, was $ 44,609,226.44.Brian D. Beestom, a witness for petitioner, stated that in his opinion the value would not exceed $ 52,643,318. Beestom is a fellow of the Institute of Chartered Accountants and a partner of Broads, Paterson & Co. of London, England. He based his valuation substantially on the following factors:193319341935Adjusted profits of Anglo# 910,315# 595,585# 977,603Add: Debenture interest as this wouldnot occur after 1935 83,04672,43026,347993,361668,0151,003,950Deduct: Abnormal profit on DollarExchange 735,000Adjusted profits of Anglo# 258,361# 668,015# 1,003,950Average adjusted profits of Anglo for 3 years# 643,442Estimated future maintainable revenue per annum# 675,0007% on average capital stock of Anglo outstanding during 1933to 1935, inclusive [Beestom took 7% of # 4,274,111 or # 299,188, which he increased to an even # 300,000. He made a slight error on the average capital stock which was # 4,401,410 instead of # 4,274,111, but this error may be passed.] # 300,000Maximum value per # 1 share:# 675,000 divided by # 300,000 which is # 2-5-0Maximum value for 4,665,410 shares:4,665,410 times # 2-5-0 # 10,497,172Converted into American dollars at $ 5.015$ 52,643,31843 851 Perry E. Hall, a witness for petitioner, stated that in his opinion the top price would not be in excess of $ 45,000,000. Hall is a partner in the investment banking firm of Morgan Stanley & Co. of New York City, with wide experience in marketing securities over a period of many years. He entertained serious doubt as to whether the stock could have been marketed at any fair price in the United States. In arriving at the top price of $ 45,000,000, he took into consideration such factors as the wide fluctuation in Anglo's earnings from 1920, the heavy losses sustained in 1931 and 1932, the fact that the company was a foreign corporation, and the fact that the company was exclusively a marketing and distributing company. These factors, as well as others, made it impossible in his opinion to place Anglo in the same category with such American companies as were reflected in the Dow-Jones group of 50 companies representing a cross section of our industrial economy. As of June 30, 1936, these stocks were selling at an average ratio of 15 times the then estimated 1936 earnings. The average of the ratios of prices to earnings for the years 1934, 1935, and 1936 was 18.6, and for the year 44 1936 it was 18. Using these averages by way of comparison, and recognizing the competitive disadvantage of Anglo stock as against seasoned, high grade American securities, the very highest ratio that Hall felt it possible to give to Anglo was 12 times earnings. Indeed, he considered even this, if anything, too high, and had he not been arriving at an outside figure he would have used a ratio of not more than 10 times earnings. Before applying this ratio to Anglo's adjusted earnings, Hall had to make one adjustment in Beestom's final figures. Beestom added back British income taxes and allowed a reserve for such taxes in arriving at his rate of 7 per cent, whereas the ratio of price times earnings is based upon net earnings after taxes. Anglo's adjusted net earnings or (losses) after taxes over the period in question were as follows:1929$ 6,710,973 19303,710,794 1931loss(6,118,486)1932loss(6,970,740)1933984,254 19342,960,590 19353,646,206 1936 (1st 6 mos.)2,225,045 In applying the ratio to Anglo's earnings Hall used an even more favorable base than Beestom did. For he took the earnings of 1934 and 1935 and doubled the earnings for the first six months of 1936, even though the latter 45 would not have been in fact available in the spring of 1936 and even though the earnings for the full year 1936 were actually less than double the earnings for the first six months. This gave him the figure of $ 44,227,548 which he rounded out at $ 45,000,000.852 So long as Anglo's stock was worth less than the par value of Export's preferred stock, the exact fair market value thereof at the end of 1935 or at June 30, 1936, is not of great importance in this case. We have found the fair market value to be not in excess of $ 55,000,000, which is based upon a consideration of all the evidence and a statement in petitioner's reply brief that "Export's assets were worth no more than approximately $ 55,000,000 at the outside, as the proof clearly shows."It is thus apparent that, if Export had been liquidated without any assistance from Standard Oil Co., petitioner would not have realized anything on any claim it had against Export, but would have had to pay, in addition to what it paid as a guarantor of dividends, 40 per cent of the difference between $ 76,493,500 and $ 55,000,000, or about $ 8,597,400 more as one of the guarantors of the par value of the preferred stock on liquidation. 46 But the liquidation of Export was not carried out without assistance from Standard Oil Co.The parties have stipulated in the supplementary stipulation that on May 19, 1936, the Standard Oil Co. acquired from the petitioner, the Standard Oil Co. of Louisiana, and the Carter Oil Co. all of their common stock in Export, "with the understanding of all parties" that Standard Oil Co. "would proceed as expeditiously as possible (a) to furnish Export Corporation with funds to retire Export Corporation's preferred stock and (b) to liquidate Export Corporation and distribute to Standard Oil Companyall of its assets. Pursuant to this understanding Standard Oil Company on or about June 5, 1936 turned over to Export Corporation $ 84,142,850.00 which was used by Export Corporation on June 30, 1936 to redeem its preferred stock and thereafter Export Corporation was liquidated and its assets distributed to Standard Oil Company." (Italics supplied.)The respondent now contends that, since Standard Oil Co. furnished Export with sufficient funds to redeem its preferred stock at $ 110, this left the assets of Export (principally the Anglo stock) free to be used to pay petitioner any claim petitioner 47 might have against Export for payments it had made or would make as one of the guarantors of dividends. We regard such a contention as being directly contrary to the facts as above stipulated. The parties all agree that Standard Oil Co. was to get all of the assets of Export in liquidation if it acquired all of Export's common stock and furnished Export with $ 84,142,850 for use in redeeming Export's preferred stock. It is quite obvious that such an agreement was greatly beneficial to petitioner, for it relieved petitioner of its guaranty as to dividends after June 30, 1936, and the par value of the preferred stock on any subsequent 853 liquidation. It is true that petitioner was still called upon to pay its 40 per cent of the final dividend due for the six-month period ended June 30, 1936, but this was the end of its liability as a guarantor. Humble Oil & Refining Co., not a wholly owned subsidiary of Standard Oil Co., had paid the latter on December 26, 1934, $ 3,600,000 for the undertaking by Standard to pay any and all payments thereafter required of Humble under its guaranty of November 6, 1929. This is a forcible reminder of the burden of the guaranty contract. This obligation 48 was as definitely to be considered in determining whether Export had assets sufficient with which to pay all of its liabilities as any other debt it owed, when it comes to the question of the right of guarantors to be reimbursed for what they had paid out under their guaranty contract. That fact was made plain by the court in Pou v. South Carolina Warehousing Corporation, supra.The court in that case said:But so far as the present question is concerned, the fact that the preferred stockholders are postponed to the bondholders and other creditors, and are merely entitled to a preference as against the common stock, can make no difference in the question now presented as between the Association and the preferred stockholders. What is due the preferred stockholders by the Corporation is a liability of the Corporation, and that liability has been guaranteed by the Association, and, no matter whether it is called a debt, obligation, or liability, or whether the preferred stockholders are called stockholders, instead of creditors, can make no difference. The liability is there, in favor of the preferred stockholders. The Association has guaranteed that liability, and it cannot in equity 49 be allowed to compete with the preferred stockholders until their claims have been paid in full.Respondent in his brief lays much stress on the meaning of the word "insolvent," quoting a concise definition from Cunningham v. Norton, 125 U.S. 77: "* * * When a person is unable to pay his debts he is understood to be insolvent. It is difficult to give a more accurate definition of insolvency. * * " Respondent then argues that it was clear that Export could have sold all of its assets, including its holdings of Anglo stock, for enough money to have paid all of its debts, including whatever it owed its guarantors for what they had paid under their guaranty contracts, and would still have had money left. But in making this argument respondent seems to overlook that Export had another obligation to which it was definitely committed, and that was to pay its preferred stockholders $ 100 per share upon liquidation of the corporation. That obligation amounted to more than $ 76,000,000. Under these circumstances it seems plain that any claim which petitioner had against Export for reimbursement for payments made under its guaranty was worthless.Having found that any claim petitioner had 50 against Export for 854 reimbursement was worthless in 1936, we turn now to the question of what amount is deductible by petitioner.Petitioner, in its brief filed after the original hearing, in contending that it was entitled to a deduction either as a business expense or as a loss, relied principally upon Camp Manufacturing Co., 3 T. C. 467. In our report promulgated December 10, 1946, 7 T. C. 1310, 1323-1324, we distinguished that case upon its facts and said "There was involved in the Camp case no question of a right to reimbursement of the sum paid by Camp." In view of our present holding that any claim petitioner had against Export for reimbursement was worthless in 1936, our ground for previously distinguishing the Camp case from the instant case disappears for all material purposes. The payment in the Camp case, as we said in our report promulgated December 10, 1946, p. 1324, "was the payment of an original undertaking made solely for Camp's benefit, and after making the payment Camp had no right to reimbursement from anyone, either express or implied." In the instant proceeding the origin and nature of the guaranty agreement of November 6, 1929, shows that it was entered into 51 by petitioner as an essential, direct, and intimate part of its sales of petroleum products to Anglo. Petitioner considered it was necessary, and, as we said in the Camp case, it was "a type of obligation which business concerns under similar circumstances might normally and ordinarily be expected to incur." We think that the protection and development of sales in the instant case is as much a business purpose as was the obtaining of working capital in the Camp case. We hold, therefore, that, since any claim petitioner might have against Export was worthless in 1936, petitioner is entitled to deduct in the taxable year 1936, either as an ordinary and necessary expense or as a loss, any payment made in 1936 for the dividends due in 1936 for which petitioner was liable under the guaranty contract of November 6, 1929.We now consider the extent of petitioner's liability under the guaranty contract. Petitioner contends it was liable for the full amount of $ 764,914.24 which it actually paid. The respondent, on the other hand, contends that on December 31, 1935, Export had on hand a surplus of $ 115,233.29 which was available for the payment of dividends, to which should be added the 52 earnings of Export for the first six months of 1936 of $ 921,704.29, thus giving a total of $ 1,036,937.58 available for the payment of the final dividend of $ 1,912,285.60; that the guarantors were liable for only the difference between $ 1,912,285.60 and $ 1,036,937.58 or $ 875,348.02; and that petitioner was liable for only 40 per cent of this difference, or $ 350,139.21.The respondent arrives at the surplus on hand on December 31, 855 1935, of $ 115,233.29 by treating the $ 6,799,446.67 of dividends Export received from Anglo which Anglo had paid out of its surplus on hand at December 31, 1929, as being available to Export for the payment of dividends. Petitioner contends that this $ 6,799,466.67 was a partial return to Export of its investment in the capital stock of Anglo; that it was not available to Export for the payment of dividends as far as the guaranty contracts were concerned; and that, instead of a surplus on hand on December 31, 1935, Export had a large deficit, which deficit was decreased by the earnings of Export for the first six months of 1936, and the balance of the deficit was then made good by the guarantors in 1936 at the time they paid the final dividend due on 53 Export's preferred stock of $ 1,912,285.60. Petitioner correctly concedes that any distribution by Export to its stockholders of any part of the $ 6,799,446.67 would be taxable as a dividend to the recipient. Coudon v. Tait, 56 Fed. (2d) 208; affd., 61 Fed. (2d) 904; certiorari denied, 289 U.S. 773">289 U.S. 773. But petitioner contends that, for the purpose only of determining the liability of the guarantors under their contracts of guaranty, the $ 6,799,446.67 should not be treated as income to Export, but as a return of capital, to be credited by Export against its investment in the stock of Anglo. Both Export and the guarantors agreed that the $ 6,799,446.67 should be so treated under their contracts and in accordance therewith the guarantors have actually paid Export under their guaranty contracts the total amount of $ 21,271,525.37, whereas, if under the guaranty contracts the $ 6,799,446.67 had been treated as income to Export rather than a return of capital, the guarantors would have paid that much less on their contracts of guaranty. The manner in which the guarantors and Export have treated the $ 6,799,446.67 seems to be supported by the principles of accounting. Montgomery, in volume 54 1, p. 348, of Auditing, Theory and Practice, says:Dividends paid by Subsidiaries to Holding Company. -- Holding companies frequently purchase the stocks of subsidiaries and pay considerable premiums above par. In nearly all such cases the subsidiaries have large surplus accounts. The payment of dividends out of such surplus is not income to the holding company, because the dividends merely offset in whole or in part the premiums paid for the stock. For this reason alone, surplus at date of acquisition and subsequently earned surplus should be segregated. All dividends out of "prior" surplus, when received, should be credited to the holding company's investment account.We hold that for the purpose only of determining the liability of the guarantors under their contracts of guaranty the $ 6,799,446.67 should not be treated as income to Export, but as a return of capital, 856 to be credited by Export against its investment in the stock of Anglo. 157 It follows, therefore, that on December 31, 1935, Export did not have on hand a surplus of $ 115,233.29 which was available for the payment of dividends so far as the guaranty contracts were concerned. Instead, it had a capital deficit of 55 $ 2,941,465.43, which, after applying against it the capital surplus of $ 1,755.63 and the $ 2,284,557.85 contributed by the guarantors in 1936 which is not here involved, left a capital deficit of $ 655,151.95. It thus remains to be determined whether the earnings for the first six months of 1936 of $ 921,704.29 were available for the payment of dividends so far as the guaranty contracts were concerned. The Delaware corporation law, as it existed in 1936 (Revised Code of Delaware 1935), provided in section 2066:Sec. 34. Dividends; Reserves. -- The directors of every corporation created under this Chapter, subject to any restrictions contained in its Certificate of Incorporation, shall have power to declare and pay dividends upon the shares of its capital stock either (a) out of its net assets in excess of its capital as computed in accordance with the provisions of Sections 14, 26, 27 and 28 of this Chapter, or (b), in case there shall be no such excess, out of its net profits for the fiscal year then current and/or the preceding fiscal year; provided, however, 857 that if the capital of the corporation computed as aforesaid shall have been diminished by depreciation in the value 56 of its property, or by losses, or otherwise, to an amount less than the aggregate amount of the capital represented by the issued and outstanding stock of all classes having a preference upon the distribution of assets, the directors of such corporation shall not declare and pay out of such net profits any dividends upon any shares of any classes of its capital stock until the deficiency in the amount of capital represented by the issued and outstanding stock of all classes having a preference upon the distribution of assets shall have been repaired. * * Under the above law we hold that, for the purpose of determining the liability of the guarantors under their contracts of guaranty, $ 655,151.95 of the earnings for the first six months of 1936 must be applied to wipe out the capital deficit of that amount, and that so much of the earnings were not available for the payment of the final dividend of $ 1,912,285.60.In determining that Export had a capital deficit of $ 655,151.95, such determination has been made without taking into consideration Export's $ 100 in common stock. Common stock is not protected against impairment by the foregoing statute, but only "outstanding stock of all classes having a preference upon the distribution of assets."This leaves for our determination whether the balance of the 1936 earnings after making good the capital deficit, which balance was in the amount of $ 266,552.34, was available for the payment of dividends. If it was not available petitioner is entitled to deduct the entire *58 amount of $ 764,914.24 (40 per cent of $ 1,912,285.60), and, if it was, the amount deductible is limited to $ 658,293.30, as set out in our footnote 1.We are of the opinion that, in accordance with the resolution of May 22, 1936, of the board of directors of Export, which is set out in our previous findings at 7 T.C. 1316">7 T. C. 1316, the amount of $ 266,552.34 must be held to have been available for the payment of the final dividend of $ 1,912,285.60. We so hold. It follows that petitioner was liable under its guaranty contract to pay only its share, 40 per cent, of the difference between $ 1,912,285.60 and $ 266,552.34 or $ 658,293.30. We hold, therefore, that petitioner's deduction here in question is limited to the amount of $ 658,293.30, and it is not entitled to deduct the full amount of $ 764,914.24 which it claims.Decision will be entered under Rule 50. Footnotes1. For convenience we are setting out for comparison the respondent's computation wherein he treats the $ 6,799,446.67 as income and a similar computation on the basis of our holding that the $ 6,799,446.67 should, for the purpose of determining the liability of the guarantors, be treated as a return of capital. The computations follow:Respondent'sPresentcomputationholdingSurplus of Export, Dec. 31, 1929$ 40,213.41 $ 40,213.41 Earnings for 1930, including and excluding$ 1,778,078.65 plus $ 1,910.240.77 plus $ 3,111,127.25 equals $ 6,799,446.67.1 $ 1,778,078.61 3,869,542.13 2,091,463.48 Available for dividends3,909,755.54 2,131,676.89 Dividends paid during 19303,824,420.00 $ 1,778,078.65 of the $ 3,824,420 was paid by the guarantors in 1934.2 2,046,341.35 Balance available85,335.54 85,335.54 Earnings or (loss) for 1931, including and1 excluding $ 1,910,240.77 1,881,685.49 (28,555.28)Available for dividends1,967.021.03 56,780.26 Dividends paid during 19313,824,930.00 $ 3,822,578.27 of the $ 3,824,930 was paid by the guarantors in 1931 and 19343↩ 2,351.73 Capital (deficit)(1,857,908.97)Paid by guarantors in 19311,912,337.50 Balance availableNone 54,428.53 Earnings or (losses) for 1932-3-4(38,418.51)(38,418.51)Available for dividends(38,418.51)16,010.02 Dividends for 1932-3-4 were paid by theguarantors. Earnings for 1935, including and excluding1 $ 3,111,127.25 3,978,269.25 867,142.00 Available for dividends3,939,850.74 883,152.02 Dividends paid during 19353,824,617.45 3,824,617.45 Balance available or capital (deficit)115,233.29 (2,941,465.43)Less capital surplus of $ 1,755.63 and$ 2,284,557.85 contributed by guarantors in 1936, not here involved 2,286,313.48 Balance of capital (deficit)(655,151.95)Earnings for first six months of 1936921,704.29 921,704.29 Available for dividends1,036,937.58 266,552.34 Dividend paid on June 30, 19361,912,285.60 1,912.285.60 Liability of guarantors875,348.02 1,645,733.26 Petitioner's share (40 per cent)350,139.21 658,293.30	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/265141/	335 F.2d 86 UNITED STATES of America, Plaintiff-Appellee,v.John E. BECKLEY, Defendant-Appellant.UNITED STATES of America, Plaintiff-Appellee,v.Anderson STONE, Jr., Defendant-Appellant. No. 15789. No. 15790. United States Court of Appeals Sixth Circuit. July 20, 1964. 1 Roger Boesky, Detroit, Mich., for Stone. 2 Henry Heading, Detroit, Mich., on brief for Beckley. 3 Milton J. Trumbauer, Jr., Asst. U. S. Atty., Detroit, Mich., Lawrence Gubow, U. S. Atty., Detroit, Mich., on brief, for appellant. 4 Before CECIL and O'SULLIVAN, Circuit Judges, and BAILEY BROWN, District Judge. 5 BAILEY BROWN, District Judge. 6 John E. Beckley and Anderson Stone, Jr., defendants-appellants, were charged in an indictment with knowingly, and with intent to defraud the United States, smuggling, receiving and concealing marihuana which they knew had been imported into the United States contrary to law (Count I) and with conspiring to do these same acts (Count II) in violation of 21 U.S.C. § 176a. 7 They waived a jury trial, and the trial court found Beckley guilty as to both counts and found Stone guilty as to Count II. The Court made a general finding but did not make a special finding of fact as there was no such request under Rule 23(c). In this appeal they contend that the trial court erroneously overruled their motions to suppress evidence. The trial court, from the record, could have found the following facts which are relevant to the issues here. 8 A sealed package was deposited in the United States mail in the Canal Zone and addressed to defendant Beckley at his home in Detroit. The package was designated for air parcel post, weighed between nine and ten pounds, and bore postage of $8.00. This amount was less than air mail letter (first class) postage. Attached to the package was a customs declaration indicating that it contained two wall mats, four pillow cases and two dress robes of a total value of $23.00. When the package arrived at a post office in Miami, a Customs Entry Clerk examined the attached declaration and, suspicious that it contained items other than those listed, without a search warrant opened the package. He then called a Customs Agent, experienced in such matters, who confirmed that the package contained marihuana. Thereafter, a sample was taken from the package, and the package was rewrapped as nearly as possible as it had been prior to opening. The package was then sent by air to the postmaster at Detroit. There a postal inspector arranged to have the package delivered the next day by a post office motor vehicle driver to the home of defendant, Beckley, the addressee, after which, a warrant having been obtained, the package and contents were seized. 9 Defendants contend that the trial court should have suppressed the evidence having to do with the mailing of the marihuana to and receipt thereof by defendant Beckley. Boiled down, they contend, first, that the opening of the package at Miami without probable cause and a search warrant constituted an unlawful search, which, if true, would have required suppression of all of this evidence. (They also contend that the search warrant obtained at Detroit was thus based on illegally gained information, but this raises the same question.) Secondly, they contend that the customs and post office employees violated federal statutes and regulations in delaying the package at Miami and at Detroit, in not placing a seal on the package indicating it had been opened, and in failing to confiscate the marihuana when it was discovered. Defendants contend that these alleged violations should have prevented the use of all, or at least some, of this evidence. 10 With respect to the alleged illegality of the search at Miami, defendants contend that, there being neither probable cause nor a search warrant, the opening of the package was a violation of federal statutes and regulations and was a violation of their Fourth Amendment rights. The Government contends that, without either probable cause or a search warrant, the opening of the package violated no statute or regulation and violated no Fourth Amendment rights. (Actually, the Government could have plausibly contended that there was probable cause for a customs search, but this contention would have availed it nothing because there was obviously ample time to obtain a search warrant.) 11 We conclude that the opening of the package violated no statute or regulation and, indeed, was authorized by the customs and postal statutes and regulations. 12 Title 19 U.S.C. § 126 provides that all laws affecting imports of merchandise from foreign countries shall apply to merchandise coming from the Canal Zone. Sec. 1499 requires that not less than one package of "imported merchandise" under every invoice and not less than one such package of every ten packages be opened and examined by customs agents unless the Secretary of the Treasury is of the opinion that examination of a less proportion will protect the revenues and by regulation or instruction permits a less number to be examined. Moreover, by Treasury Department regulation (19 C.F.R., § 9.5) the opening of sealed parcel post packages by customs agents is authorized immediately upon receipt. And the package involved here was under the postal law (39 U.S.C. § 4301(2)) an "air parcel post" package. So far as the postal regulations are concerned, an imported parcel post package may be opened without formality even though sealed. 39 C.F.R. § 151.3(a). 13 As stated, defendants contend that even if the opening of the package at Miami was not prohibited by customs and postal statutes and regulations, the Fourth Amendment requires probable cause and a search warrant. Such cases as Matter of Jackson, 96 U.S. 727, 24 L. Ed. 877 (1878) and Oliver v. United States, 239 F.2d 818, 61 A.L.R. 2d 1273 (C.A.8, 1957) do hold that these requirements of the Fourth Amendment may be applicable to mail moving entirely within the country. The requirement of a warrant, it appears from these cases, is applicable if first class (the highest rate) postage has been paid, for in that event the postal authorities have no reason to open the package to determine whether, because of the contents, additional postage is required. Here first class postage was not paid on the package. 14 We, however, prefer to rely on another principle and that principle is that Fourth Amendment standards applicable to mail matter moving entirely within the country are not applicable to mail matter coming in from outside the country at least where it appears that a customs determination must be made. There seem to be no adjudicated cases dealing with the necessity of probable cause and search warrants for inspection of imports by mail, but there are many cases holding or indicating that such is not required generally for searches by customs agents at the borders of the country. 15 In Carroll v. United States, 267 U.S. 132, at page 153, 45 S. Ct. 280, at page 285, 69 L. Ed. 543 (1925) the Court said: 16 "It would be intolerable and unreasonable if a prohibition agent were authorized to stop every automobile on the chance of finding liquor, and thus subject all persons lawfully using the highways to the inconvenience and indignity of such a search. Travelers may be so stopped in crossing an international boundary, because of national self-protection reasonably requiring one entering the country to identify himself as entitled to come in, and his belongings as effects which may be lawfully brought in. But those lawfully within the country, entitled to use the public highways, have a right to free passage without interruption or search unless there is known to a competent official, authorized to search, probable cause for believing that their vehicles are carrying contraband or illegal merchandise." (Emphasis added.) 17 In Murgia v. United States, 285 F.2d 14, at page 17 (C.A.9, 1960), cert. denied 366 U.S. 977, 81 S. Ct. 1946, 6 L. Ed. 2d 1265 (1961), the Court said: 18 "The right of border search does not depend on probable cause. Carroll v. United States, 1924, 267 U.S. 132, 154, 45 S. Ct. 280, 69 L. Ed. 543. Cf.: People v. Brown, 1955, 45 Cal. 2d 640, 290 P.2d 528; Johnson v. United States, 1948, 333 U.S. 10, 16-17, 68 S. Ct. 367, 92 L. Ed. 436; People v. Simon, 1955, 45 Cal. 2d 645, 290 P.2d 531. `[The] searches of persons entering the United States from a foreign country are in a separate category from searches generally * * * [and] "are totally different things from a search for and seizure of a man's private books and papers. * * ."' King v. United States, 5 Cir., 1958, 258 F.2d 754, at page 756, certiorari denied 359 U.S. 939, 79 S. Ct. 652, 3 L. Ed. 2d 639, quoting Boyd v. United States, 1886, 116 U.S. 616, 623, 6 S. Ct. 524, 29 L. Ed. 746. Cf.: Blackford v. United States, 9 Cir., 1957, 247 F.2d 745, certiorari denied 356 U.S. 914, 78 S. Ct. 672, 2 L. Ed. 2d 586; United States v. Yee Ngee How, D.C.N.D.Cal.1952, 105 F. Supp. 517." 19 See also: Landau v. United States, 82 F.2d 285 (C.A.2, 1936) and Olson v. United States, 68 F.2d 8 (C.A.2, 1933). 20 There seems to be no reason why these principles should not apply to mail coming into the country, especially where, as here, there is a representation on the package that it contains merchandise. 21 Having held that the search of the package by the customs agents at Miami was not an illegal search, we come now to defendants' second major contention. This contention is that the delay of the package at Miami and at Detroit, the failure to place a stamp on the package indicating that it had been opened, and the failure to confiscate the marihuana when it was discovered were violations of federal statutes and regulations. It follows, defendants argue, that all or at least some of this evidence should have been suppressed. Before passing to a discussion of these contentions, we should point out that defendants have not asserted the defense of entrapment. We do not, of course, mean to indicate that this defense might have been available to them. 22 With respect to the delay at Miami, as we have held that the search there was legal in that it was not prohibited by federal statutes and regulations and did not violate Fourth Amendment rights, it would certainly follow that this delay, incident to the search, would not violate federal statutes or regulations. 23 With respect to the delay of this package subsequent to its being rewrapped and sent to Detroit, defendants argue that this delay constituted a violation of Title 18, §§ 1701-1703, which have to do in general with unlawful delays and obstructions of the mails. At the same time they argue, inconsistently we think, that the law was violated when the marihuana was not confiscated upon its discovery. Certainly, having the duty to confiscate, there was no violation of the statutes by delaying the delivery. 24 Even if there were violations of federal statutes both in delaying the package and in failing to confiscate, these violations would not be a basis for suppressing evidence. In United States v. Davis, 272 F.2d 149 (C.A.7, 1959), it appears that federal customs agents saw one Esquivel purchasing marihuana in Mexico. He indicated a willingness to co-operate with the agents, and thereafter they, Esquivel being in his car and the agents in their cars, drove together to Illinois. The arrest of the defendant was made in Illinois when he received some of the marihuana from Esquivel. After his conviction and upon appeal, defendant contended that the evidence should have been suppressed because, he contended, the agents violated federal statutes in, among other things, failing to confiscate the marihuana when it came into this country and in allowing it to be transported to Illinois. The Court held that such violations would not require suppression of the evidence, saying at page 153: 25 "In [the] Nardone, Upshaw and Rea [cases] [Nardone v. United States, 302 U.S. 379, 58 S. Ct. 275, 82 L. Ed. 314; Upshaw v. United States, 335 U.S. 410, 69 S. Ct. 170, 93 L. Ed. 100; Rea v. United States, 350 U.S. 214, 76 S. Ct. 292, 100 L. Ed. 233], the evidence sought to be introduced was gained directly through the admitted violation of federal law. Further, those cases involved basic personal rights. Neither of these conditions is to be found in the case before us. 26 * * * * * 27 "However, assuming, arguendo, that the conduct of one or more of the federal agents was in violation of one or more of the federal statutes under consideration, we do not believe this case comes within the holdings of Nardone, Upshaw and Rea. None of the statutes discussed were designed for the protection of marihuana dealers. None of them conferred any rights upon appellant. The allegedly illegal course of conduct of the agents neither deprived appellant of any substantial personal right nor violated any deep-rooted social value. In such a situation, short of the defense of entrapment (not present here) or the overriding principles of Nardone, Upshaw and Rea, appellant's estoppel theory is without merit. We hold that the trial court did not err in overruling the appellant's motion to suppress evidence." 28 Defendants also make the contention that a failure to place a seal on the package indicating it had been opened, in violation of a Treasury Department regulation (19 C.F.R., § 9.5), is a proper basis for suppression of evidence. Actually, the record is not clear as to whether or not such a seal was placed thereon. In any event, under the holding in the Davis case, supra, which we follow, this would not be a basis for suppression. Moreover, there seems to be some question as to whether a violation of an administrative regulation, as opposed to a statute, is a basis for suppression of evidence. Compare Oliver v. United States, 239 F.2d 818, 61 A.L.R. 2d 1273 (C.A.8, 1957) with United States v. Schwartz, 176 F. Supp. 613 (E.D.Pa., 1959). 29 We conclude that the trial court committed no error in refusing to suppress this evidence and therefore the judgments below will be affirmed.	01-04-2023	08-23-2011
https://www.courtlistener.com/api/rest/v3/opinions/4619782/	RIVERVIEW STATE BANK, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Riverview State Bank v. CommissionerDocket No. 11180.United States Board of Tax Appeals12 B.T.A. 1261; 1928 BTA LEXIS 3377; July 10, 1928, Promulgated 3377 1. The evidence establishes that the Commissioner erred in refusing to allow the petitioner deductions from gross income in the years 1920 and 1921 of losses sustained upon the sale of securities. 2. The returns of the petitioner for the years 1920 and 1921 were not willfully false or fraudulent with intent to evade the tax and the 50 per cent fraud penalty should not be imposed. H. L. Washington, Esq., for the petitioner. O. Bennett, Esq., for the respondent. LITTLETON1261 OPINION. LITTLETON: The Commissioner determined deficiencies in income and profits tax of $2,925.91 for the year 1919, $8,765.30 for 1920, and $1,910.20 for 1921. The only errors urged by the petitioner at the hearing are (1) that the Commissioner erred in refusing to allow deductions for losses of $9,135 for 1920 and $2,940 for 1921 alleged to have been sustained on the sale of certain securities, and (2) that the Commissioner erred in including in income for 1921 the amount of $1,365 as interest received. The Commissioner did not in the deficiency notice mailed to the petitioner assert any penalty for any year, but at the hearing he amended his answer and3378 alleged that the deficiencies for 1920 and 1921 were due in part to evasion and that the 50 per cent penalty provided in the Revenue Acts of 1918 and 1921 should be imposed. Under the first issue petitioner claims that it sustained the losses mentioned upon the sale of certain industrial bonds and certain securities as a result of a ruling by the Banking Department of the State of Kansas; that these securities could not be carried by the bank as legal assets. The Commissioner's position is that the sale was not bona fide; that after the purported sale the petitioner remained the real owner of the bonds and, therefore, the interest accrued upon such bonds in the year 1921 was income to petitioner. Petitioner is a Kansas corporation engaged in the general banking business at Kansas City. January 10, 1920, petitioner purchased certain bonds of the Atlantic Fruit Co. at a cost of $19,300. Petitioner also owned certain bonds of the Ruping Leather Co. and the A. O. Smith Corporation. In July, 1920, the Banking Department of the State of Kansas made an investigation of the affairs of the petitioner to the close of business June 30, 1920, and notified petitioner in writing 1262 3379 that these bonds were not legal assets and ordered the bank to dispose of them. Petitioner ascertained the market price of the bonds and on July 21, 1920, sold the Atlantic Fruit Co. bonds to one Dwight Coburn, an employee of the bank, for $10,165, their then market price. Coburn gave the bank his promissory note for the bonds and placed the bonds with the note as security. The bank charged off a loss of $9,135 on this sale. March 21, 1921, petitioner sold the bonds of the Ruping Leather Co. and the A. O. Smith Corporation to C. W. Keith, an employee of the bank, at the then market price of such bonds at a loss of $2,940. Keith gave petitioner his demand promissory note for the purchase price and placed the bonds with his note as security. Coburn was bookkeeper and teller, and filled various other positions in the bank as occasion required. Keith occupied the position of teller. When the State Banking Department ordered the bank to dispose of these bonds, the cashier, who was also a director, discussed with Coburn and Keith the matter of their purchasing the bonds, giving their note therefor, placing the bonds with the note as collateral, and having the interest upon the bonds3380 together with any amount that might be derived from a subsequent sale thereof, applied on the purchase price by said Coburn and Keith. Coburn and Keith were willing to purchase the bonds and pay for them in this manner but they wanted to be protected against any possible loss in the matter. The cashier discussed the matter of selling the bonds to Coburn and Keith with certain individuals who were also directors of the bank, and these individuals, including the cashier, agreed with Coburn and Keith to protect them against any loss they might sustain upon the future disposition of the bonds in question. This arrangement was made by the individuals constituting the directors of the bank in their personal rather than in their official capacities. The bank was in no wise a party to the arrangement between the individuals constituting its directors and Coburn and Keith, and there was no understanding between the bank and Coburn and Keith that if any surplus should be derived from the disposition by them of the bonds it should belong to the bank. At the time of the sale, however, it was understood by the bank, Coburn and Keith, and the directors who had agreed individually to protect3381 the purchasers of the bonds from the bank against loss, that if the bonds sold to Coburn were disposed of for an amount in excess of his note, the surplus would be applied upon the note of Keith if it should not be fully satisfied, out of the bonds purchased by him, and, similarly, if the bonds sold to Keith were disposed of for an amount in excess of his note, the surplus would be applied on Coburn's note if it should not be fully satisfied from proceeds of bonds purchased by him. Coburn left the bank before his note had been paid and Keith took 1263 over the bonds purchased by Coburn and gave the bank his note therefor. Thereafter the proceeds from the bonds were credited to Keith's notes to the bank. The petitioner deducted from gross income in its return for 1920 the amount of $9,135 as a loss on the sale of bonds of the Atlantic Fruit Co. to Dwight Coburn in July, 1920, and in its return for 1921 deducted the amount of $2,940 as a loss on the sale of bonds of the Ruping Leather Co. and the A. O. Smith Corporation to C. W. Keith in March, 1921. The Commissioner disallowed these deductions and also increased income in the amount of $1,365, representing the interest3382 accrued in 1921 on the bonds sold to Coburn in 1920 and to Keith in 1921. There is no dispute between the parties as to the amount of the losses, if any were sustained, or as to the amount of interest accruing on the bonds in question in the year 1921. In the opinion of the Board the Commissioner erred in disallowing the losses claimed and increasing the petitioner's income in the amount representing the interest accrued upon the bonds in question. The greater weight of evidence before the Board is to the effect that so far as the bank was concerned, the sale of the bonds of Coburn and Keith was a completed and closed transaction made in absolute good faith at the then market price of the bonds. The bonds were actually delivered to the purchasers. They gave petitioner their notes for the bonds with the bonds as collateral and agreed to apply the interest and any proceeds which might be derived from the sale of the bonds to the satisfaction of their notes and the bank had the additional guarantee by certain other individuals that the notes of Coburn and Keith would be paid if the interest and proceeds derived from the sale of the bonds should not be sufficient for this purpose. 3383 The fact that the purchasers were employees of petitioner; that the bonds were placed as collateral security for their notes; that the interest on the bonds and any proceeds derived from the sale thereof were to be applied to the satisfaction of the notes; and that certain individuals who were directors of petitioner agreed in their individual capacities to guarantee the full payment to the bank of the notes of Coburn and Keith, does not establish that the sale was not a bona fide one. On the contrary we think the evidence establishes that the bank parted absolutely with all right, title, and interest in the bonds and that all it could ever claim in respect thereof was the price at which it sold them to Coburn and Keith. The petitioner was to receive only the amount for which it sold the bonds to Coburn and Keith. There is some evidence in the record to the effect that under the arrangement between Coburn and Keith, and the individuals who agreed to protect them against any loss, any profit that should result from the sale of the bonds would accrue to the latter. The Commissioner disallowed 1264 these deductions and increased income by the amount of the interest accrued3384 on the bonds upon the ground that the transfer of the bonds to Coburn and Keith was never intended by the parties to the transaction to be a sale, that it was merely a scheme to evade the ruling of the Banking Department of the State of Kansas, and when the petitioner deducted the lowses from gross income for 1920 and 1921 and failed to include in income the interest accrued upon the bonds in 1921 it did so with willful intent to defeat and evade the tax upon its income for these years. The evidence satisfactorily establishes that this was not the case. The petitioner sustained the losses claimed and the interest of $1,365 was not income to it for 1921. Reviewed by the Board. Judgment will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619783/	ESTATE OF ROBERT C. SCULL, DECEASED, THOMAS EPSTEIN AND MARIE DICKSON, EXECUTORS, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentEstate of Scull v. CommissionerDocket No. 20201-90United States Tax CourtT.C. Memo 1994-211; 1994 Tax Ct. Memo LEXIS 209; 67 T.C.M. (CCH) 2953; May 12, 1994, Filed 209 Decision will be entered under Rule 155. For petitioner: Thomas Epstein and Arthur Karger (specially recognized). For respondent: Steven R. Winningham and Patricia C. Dagati. PARKERPARKERMEMORANDUM FINDINGS OF FACT AND OPINION PARKER, Judge: Respondent determined a deficiency in decedent's Federal estate tax of $ 710,725.82 and an addition to tax under section 6651(a) of $ 151,303.76. Based upon expert valuation reports, respondent filed an Amendment to Answer on March 11, 1992, resulting in an increased deficiency, from $ 710,725.82 to $ 1,745,589, and an increased addition to tax, from $ 151,303.76 to $ 358,276. After concessions, 1 the issues for decision are: (1) The fair market value, as of January 1, 1986, of decedent's undivided 65-percent interest in the art collection owned by decedent, Robert C. Scull, and his former wife, Ethel Redner Scull. 210 (2) Whether the estate of Robert C. Scull is liable for the addition to tax under section 6651(a) for late filing of the estate tax return; and (3) Whether the estate of Robert C. Scull must increase taxable gifts by $ 5,000 for two checks in the amounts of $ 10,000 and $ 5,000 written by decedent to one of his sons in 1985. Unless otherwise indicated, all section references are to the Internal Revenue Code in effect on the date of decedent's death, and all Rule references are to the Tax Court Rules of Practice and Procedure. FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts and accompanying exhibits are incorporated herein by this reference. Robert C. Scull (Scull or decedent) died testate on January 1, 1986, a resident of the State of Connecticut. Thomas Epstein (Epstein) and Marie Dickson are the co-executors 2 of the estate of Robert C. Scull (the estate or petitioner). At the time of filing of the petition, the co-executors were both residents of the State of New York. 211 Decedent's will was duly admitted to probate and made various bequests of cash and property to his widow, Stephanie Scull, his three sons from his first marriage, and others. One-third of the residuary estate, which included decedent's art collection, was bequeathed in trust for the benefit of his widow. Upon his widow's death, the principal of the trust is distributable to his three sons. The balance of the residuary estate passed directly to decedent's three sons, and the executors were authorized to distribute the balance of the residuary estate in kind. BackgroundIn the late 1950s, decedent and his first wife, Ethel Redner Scull (Ethel Scull), became interested in "pop" art. During the late 1950s and 1960s, the Sculls became prominent collectors of pop and minimalist art. They began to amass one of the most comprehensive collections of modern art at the time, purchasing works of art by "pop artists" such as Andy Warhol, James Rosenquist, and Claes Oldenburg. Not only were they collectors, they were advocates and promoters of modern art. The Sculls opened a gallery in Manhattan that gave many now renowned artists their first exposure in the art world. The Sculls212 befriended these emerging artists and acquired their works at a time when their works were not known and the prices were low. The Sculls sought the limelight and publicity for the art and themselves. Due to his patronage and taste making in the area, Scull became known as the "Pop of Pop Art". The Sculls were so popular with artists that they themselves became the subjects of many works of pop art, such as Segal's sculpture of the Sculls and Warhol's Ethel Scull 36 Times. By 1966, art museums from all parts of the world were inundating the Sculls with requests to display and/or purchase portions of their collection. The Sculls did lend many works of art to museums during the 1960s, 1970s, and 1980s. In 1965 some of the Sculls' works of art were auctioned at Sotheby Parke Bernet, Inc. (Sotheby's). The proceeds were used to establish a family foundation to help finance young, unknown artists. Another portion of the Scull collection was auctioned by Sotheby's in 1973. It was a single-owner sale entitled "A Selection of Fifty Works from the Collection of Robert C. Scull". The promotion of the 1973 auction excited extensive attention by print and broadcast media. The auction213 yielded an unprecedented $ 2.3 million. The auction was the subject of a documentary film and was considered a milestone in the contemporary art market, demonstrating that money could be made by investing in contemporary art. In 1974, after 30 years of marriage, the Sculls separated. On April 9, 1975, Ethel Scull filed an action against Scull in the Supreme Court of the State of New York, New York County (the trial court). In her complaint, Ethel Scull sought, inter alia, a judgment granting her a divorce and imposition of constructive trusts for her benefit on the art collection owned by Scull, the proceeds of art sales made by Scull since 1973, and the real property situated in Connecticut owned by Scull. For purposes of the divorce litigation, the Sculls obtained from Sotheby's an appraisal of the fair market value of 215 items in the art collection (the 1978 appraisal). On October 19, 1981, the trial court entered a judgment and decision in the divorce action, granting Ethel Scull a divorce and other relief but dismissing her claims for the imposition of constructive trusts on the art collection, proceeds from the prior sales of works of art, and the Connecticut property. 214 Ethel Scull appealed the decision of the trial court to the Appellate Division, First Department, of the Supreme Court of the State of New York (the Appellate Division). On June 2, 1983, the Appellate Division held that Ethel Scull was entitled to the imposition of constructive trusts for her benefit. The case was remanded to the trial court for a determination of the parties' respective interests in the various properties that were subject to the constructive trusts. In February of 1984, Ethel Scull's attorney commissioned another appraisal by Sotheby's to provide high and low estimates of 175 items in the art collection (the 1984 appraisal) for purposes of determining the parties' respective interests for the constructive trust to be established. The low estimates totaled $ 4,856,400, and the high estimates totaled $ 6,792,350. In February of 1985, prior to the trial court hearing on remand, Sotheby's reexamined 10 works of art and prepared an updated appraisal (the 1985 appraisal). The 1985 appraisal is identical to the 1984 appraisal except that the values of 5 of the 10 works reexamined in 1985 and 2 additional works were increased as follows: 1984 1985 Work AppraisalAppraisalJohns - Out the Window$ 1,250,000 $ 1,500,000Johns - Two Flags 19621,250,000 1,750,000Johns - Zero Through Nine175,000 275,000Johns - Small Black Target140,000 175,000Rosenquist - Portrait of"research the Scull Family necessary"70,000Kline - Blue Center160,000 175,000Warhol - Double Self Portrait22,500 42,500215 The 1985 appraisal valued the works listed therein, in total, at a low value of $ 5,821,400 and a high value of $ 7,807,350. The 1984 and 1985 appraisals both contained a list of unvalued "paintings from 1978 appraisal not included on current list". For purposes of dividing the collection according to their proportionate shares, the Sculls stipulated that, on remand, the collection would be valued at the median of the high and low estimates on the 1985 appraisal, subject to certain credits and setoffs. On March 28, 1985, the trial court, on remand, determined that Ethel Scull was entitled to a 35-percent share of the art collection, as well as a 35-percent share of the proceeds from the sale of the works of art since 1973, and a 10-percent share of Scull's real property in Connecticut. The trial court held that the parties were entitled to the distribution of their respective interests in the art collection in kind in accordance with the following procedure. The parties were to take turns selecting pieces of art until Ethel Scull's 35-percent share was exhausted. They were to flip a coin to see who would start selecting first. There was no contemplation that the award would216 be in the form of money. To make the in-kind distribution, the parties were to use the 1985 Sotheby's appraisal and the median figure between the high and low estimate. However, for purposes of the in-kind distribution, it did not matter whether the high, low, or median figures were used so long as a consistent basis was used to preserve the parties' respective proportionate interests in the art collection. The trial court also awarded Ethel Scull a monetary judgment against Scull in the amount of $ 1,135,371, representing her 35-percent share of proceeds from past sales, costs, and certain other adjustments, but did not include interest on the proceeds from the prior sales. On December 17, 1985, the trial court entered an amended order and judgment to reflect the parties' consents to the amendments made by the trial court in the prior order and judgment, dated March 28, 1985. The parties stipulated to the median value of the works of art and to Ethel Scull's dollar amount for purposes of making the selection. Certain other claims were severed from that proceeding and became the subject of another case by Ethel Scull against her ex-husband. On January 31, 1986, Ethel Scull 217 appealed to the Appellate Division from the amended order and judgment of the trial court, dated December 17, 1985. In her appeal, she sought to increase to 50 percent her share in all property in which constructive trusts had been imposed. She also sought an award of interest on her share of the proceeds of art sales made by Scull since 1973. In February of 1987, the Appellate Division held that Ethel Scull was not entitled to any greater percentage for her constructive trusts but was entitled to interest. The case was again remanded to the trial court for determination of the amount of interest due to Ethel Scull. The amount was determined in April of 1988. In 1989 and 1990 the remaining various claims by Ethel Scull against decedent or his estate were finally settled by the estate. On December 20, 1985, Scull had also appealed the decision of the Appellate Division, imposing the constructive trusts, to the Court of Appeals for the State of New York. The trial court granted a stay of the amended order and judgment (granting the monetary award to Ethel Scull for the prior art sales) pending Scull's appeal. On January 1, 1986, Scull died at the age of 70. At the time of his218 death, there were over 350 works of art in the collection and, as yet, no division of the collection had been made between Scull and Ethel Scull. The estate continued decedent's appeal. In April of 1986, the Court of Appeals for the State of New York affirmed the decision of the Appellate Division as to the constructive trusts. The stay imposed by the trial court, prohibiting Ethel Scull from collecting the monetary award for the prior art sales, was automatically lifted. The Brant AgreementIn April 1986, following the lifting of the stay, petitioner attempted to raise cash to pay Ethel Scull the monetary judgment of $ 1,135,371 for the prior art sales. In the beginning of May of 1986, James Mayer, an English art dealer, advised Peter Brant (Brant), an art collector and art magazine publisher, that petitioner might be interested in selling all or part of its interest in the Scull collection prior to auction. Brant initially contacted Epstein to ascertain whether petitioner would be interested in selling certain of the works in the Scull collection. Epstein advised Brant that petitioner could not sell individual items from the collection since it did not have title to219 any particular pieces at that time. Epstein informed Brant that petitioner owned an undivided 65-percent interest in the art collection and that Ethel Scull owned the remaining undivided 35-percent interest. Brant really just wanted certain specific items to add to his collection, but stated that he would be interested in buying petitioner's undivided 65-percent interest in the collection. Epstein provided Brant with a copy of the 1985 appraisal. Following negotiations over the weekend of May 10 and 11, 1986, Epstein and Brant entered into an agreement on May 12, 1986, for the purported sale to Brant by petitioner of its undivided 65-percent interest in the works of art listed in the Sotheby's 1985 appraisal (the Brant Agreement). The first 29 pages of the 1985 appraisal, listing the works valued in that appraisal, were attached as an exhibit to the agreement. The list of paintings from the 1978 appraisal (included in but not valued on both the 1984 and 1985 appraisals) was not included in the exhibit. At the time petitioner and Brant entered into the agreement, the works listed in the 1985 appraisal had not been divided between Ethel Scull and petitioner. Brant was represented220 by counsel in this transaction. The Brant Agreement required Brant to purchase from petitioner and petitioner to sell to Brant for a minimum purchase price of $ 5,300,000 the works of art listed and appraised in the 1985 appraisal remaining after Ethel Scull had selected her works of art. The minimum purchase price was payable as follows: The sum of $ 1,250,000 on May 13, 1986; b) The sum of $ 2,000,000 on or before July 1, 1986; and c) The balance of $ 2,050,000 from the first net proceeds received from the auction * * * but in no event later than December 15, 1986, less the expenses of the sale and commissions as negotiated by the parties with the auction house.The Brant Agreement further required that the works of art remaining in the estate after the division of the collection be placed for sale at public auction prior to December 1986 at Sotheby's or Christie Manson & Woods International (Christie's), as to be selected by Brant. The Brant Agreement provided that, if all works were sold at auction, all net proceeds of the auction sale in excess of $ 5,300,000 would be divided equally between Brant and petitioner, except that petitioner would not be entitled 221 to share in the excess proceeds resulting from the sale of eight of the most prized works, if such works were not selected by Ethel Scull. The agreement set ceiling prices on the eight prized items over which Brant would not have to share the excess proceeds, as follows: Out The Window$ 2,250,000Two Flags2,000,000Zero Through Nine350,000Small Black Target300,000Alphabets500,000Blue Center250,000The Charcoal Flag100,000Sketch for False Start65,000The Brant Agreement permitted Brant to bid for himself at the auction. Under the Brant Agreement, Brant also had the right to set the reserve price for each piece of art to be offered for sale at auction, subject to certain limitations. "Reserve price" is defined as the minimum price at which a seller is willing to sell the item. If all bidding fails to reach the reserve price, then the item is withdrawn from auction. On May 13, 1986, Brant made the initial payment of $ 1,250,000 to petitioner in accordance with the agreement. On May 14, 1986, the Scull art collection was divided between Ethel Scull and petitioner and distributed in accordance with the procedures set forth in the order and judgment 222 and the amended order and judgment of the trial court. On that date, Brant and Epstein met with Ethel Scull and her representatives at the warehouse where the Scull art collection was stored. Brant lost the coin toss, and Ethel Scull chose Johns' Out the Window, the most valuable work in the collection. Ethel Scull selected three more of the most prized works, including Small Black Target, Alphabets, and Blue Center, plus an additional five works. The nine items represented her 35-percent interest in the collection. Thereafter, following negotiations with both Sotheby's and Christie's, Brant and Epstein selected Sotheby's for the auction. Brant informed Sotheby's that he had purchased an interest in petitioner's share of the collection. He engaged in further negotiations with Sotheby's with respect to the terms of the proposed consignment agreement for the auction. Brant and Sotheby's agreed to mutually set a reserve price not exceeding the high of Sotheby's presale estimate for each item or lot. Prior to auction, for purposes of setting the estimates for the auction catalog, Sotheby's again reevaluated the works of art to be auctioned. The reserve prices for Johns' Two Flags223 and Rosenquist's F-111 were set in the consignment agreement at $ 1,750,000 and $ 600,000, respectively. Sotheby's had the option to sell any lot at a price below the reserve price, provided Sotheby's paid to petitioner the net amount it would have received if the lot had been sold at the reserve price. Brant succeeded in securing Sotheby's agreement to forgo any seller's commissions and to look solely to the buyer for a commission on every sale. The consignment agreement provided: Commission. You agree to pay us a commission equal to 0% of the successful bid price for each lot sold. You authorize us, as your agent, to collect from the purchaser and retain as our commission a premium equal to 10% of the hammer price for each lot sold (the "buyer's premium"). For example, if the hammer price on a lot of the Property is $ 100,000, we will collect from the purchaser $ 100,000 plus 10% of $ 100,000 ($ 10,000) or a total of $ 110,000. We will remit to you in accordance with paragraph 3 herein $ 100,000 (the "net proceeds") and retain $ 10,000 (the "buyer's premium") for our account.Further, to enable Brant to bid at the auction for works he personally wanted, Sotheby's224 included in the consignment agreement and auction catalog a provision that permitted individuals who had an interest in the property to bid at the auction. Brant was responsible for, and did pay to Sotheby's, full buyer's commissions for all the works he successfully bid upon at auction. Brant and Epstein also engaged in discussions with Sotheby's concerning the various aspects of the impending auction sale, including the times when the auction would be held and the lot order of the works to be offered for sale at each session. The most valuable works of art were offered for auction, but some works were not placed at auction. Although the Brant Agreement required Brant to pay petitioner $ 2 million on or before July 1, 1986, Brant did not make that payment. He and petitioner informally agreed that the $ 2 million payment plus interest would be paid from the proceeds of the auction. Furthermore, although the agreement required Brant to pay his share of insurance and warehousing fees for the works of art, he never did so. The AuctionOn November 10, 1986, the works Ethel Scull had selected were auctioned at Sotheby's for a total of $ 4,797,100. 3 Epstein and Sotheby's225 selected 138 works of art from petitioner's collection to be auctioned in 135 lots. 4 On November 11 and 12, 1986, 119 lots of those works were sold for $ 8,639,070, representing bids (hammer prices) totaling $ 7,853,700 plus 10/percent commission fees totaling $ 785,370. Sixteen lots were returned to petitioner: two were withdrawn from the auction, and 14 were "bought-in" because the highest bids were made by Sotheby's on petitioner's behalf. The highest bids for the 14 "bought-in" items totaled $ 50,750. In addition, pursuant to the terms of the consignment agreement, Sotheby's paid to petitioner the $ 150,000 difference between the hammer price of $ 1,600,000, for Johns' Two Flags, and the reserve price of $ 1,750,000. 226 Brant's PurchasesAt the Sotheby's auction, Brant successfully bid on the following works of art: HammerBuyer'sLot No.Artist/Work PriceCommissionTotals 0001C. Oldenburg/Cake Wedge$ 40,000 $ 4,000 $ 44,000 0002C. Oldenburg/Sock & 15 Cents43,0004,30047,3000022J. Johns/Charcoal Flag320,00032,000352,0000015J. Johns/0 Through 9800,00080,000880,0000018J. Rosenquist/(Blue Sky)220,00022,000242,0000037M. DiSuvero/Che Faro Senza290,00029,000319,0000066C. Oldenburg/Stocking Legs26,0002,60028,6000006R. Rauschenberg -90,0009,00099,000Living Theater0069C. Oldenburg - Ray Gun31,0003,10034,1000070C. Oldenburg - Now Media47,5004,75052,2500093M. Heizer - Keno Cards2,5002502,750Total: $ 1,910,000$ 191,000$ 2,101,000Of the $ 2,101,000 total sales prices listed above, Brant paid only the $ 191,000, representing the 10-percent buyer's commission. In addition to the works of art listed above, Brant made winning bids (hammer prices) totaling $ 217,950 for other, unidentified works of art, for which he paid Sotheby's only $ 21,795, the 10-percent buyer's commission. Brant's227 total hammer-price purchases amounted to $ 2,127,950 and were paid from the proceeds of the auction. The hammer price of Johns' The Charcoal Flag was $ 320,000, which was $ 220,000 more than the ceiling price of $ 100,000 set in the Brant Agreement. The hammer price for Johns' Zero Through Nine was $ 800,000, which was $ 450,000 more than the ceiling price of $ 350,000 set in the Brant Agreement. Under the agreement, petitioner was not entitled to any of the $ 670,000 of excess funds. After the auction, Brant prepared the following accounting, in accordance with the Brant Agreement, that set forth the division of the proceeds from the auction: Estate of Robert C. Scull AccountingAccounting for Peter BrantGross Sales Proceeds [hammer prices]$ 7,853,700Sotheby's Guaranty for Two Flags150,000Total $ 8,003,700Adjustment in Peter's favor ofItem 21 [The Charcoal Flag] Sales Price 320,000Base Price 100,000220,000Item 67 [Zero Through Nine]Sales Price 800,000Base Price 350,000Difference 450,000Total Credit to Peter Brant$ 670,000 $ 8,003,700Less 670,000New Total $ 7,333,700Other ExpensesSotheby's Expenses 3,180.00Crozier and Eagle expenses - 4,358.50(Photographs, etc.) 7,326,161.50Subtract sales still unpaid 251,450.007, 074,711.50Less Guaranty by Brant to Scull Estate 5,300,000.001,774,711.50Peter's share: 50% of 1,774,711.50887,355.75Plus amount already paidto the Estate 1,250,000.001,250,000.00Plus 670,000.00670,000.002,807,355.75Less interest 82,952.00Less paintings already bought 2,127,950.00Balance due Peter Brant 596,453.75Less $ 200,000 given on 12/23/86 Balance Due:396,453.75Accounting for the Estate Amount due Estate$ 7,074,711.50Less5,300,000.001,774,711.5050%887,355.75Plus5,300,000.006,187,355.75Less already paid1,250,000.00Less in escrow [proceeds of2,000,000.00auction held in escrow by 3,250,000.00Sotheby's in connection with Ethel Scull's other claims against the estate] $ 2,937,355.75228 Brant never took possession of any of the works of art listed on the 1985 appraisal that were not offered for auction or that were offered but not sold at auction. The estate retained those works of art. The Estate Tax ReturnPetitioner's United States Estate Tax Return (Form 706) was due on October 1, 1986 (9 months after the date of decedent's death). Petitioner's accountant, Richard S. Joseph (Joseph), filed an Application for Extension of Time to File U.S. Estate Tax Return and/or Pay Estate Tax (Form 4768), signed by Marie Dickson as executor. This request was granted by respondent on November 25, 1986, extending the due date for the filing of the estate tax return to April 1, 1987. Joseph was in ill health during this time and was unable to work more than a few hours a day. Another Form 4768 and a transmitting letter from Joseph requesting an additional extension of time within which to file were received by respondent on April 10, 1987. That application was not approved because extensions of time to file a return may not be granted for a period in excess of 15 months from the date of decedent's death. Epstein and Marie Dickson knew that the extended due date229 was April 1, 1987. Epstein, as an attorney, also knew that extensions to file an estate tax return could not be granted for a period in excess of 15 months from date of death. The executors of the estate filed Form 706 on July 6, 1987. Petitioner's Form 706 was filed with the office of the Internal Revenue Service (IRS) at Holtsville, New York. The Estate's Valuation of the Art CollectionOn the Form 706, the estate reported a total value of $ 4,638,411 for decedent's 65-percent undivided interest in the art collection. 5 The return divided the art collection into three categories: (1) works of art included in the 1985 appraisal prepared by Sotheby's were valued at $ 4,446,378 ($ 6,799,375 - $ 2,352,997); (2) additional paintings in the warehouse not listed in the original inventory were valued at $ 135,418 ($ 208,335 - $ 72,917); and (3) paintings sold but not listed in the Sotheby's 1985 appraisal were valued at $ 56,615 ($ 87,100 - $ 30,485). See supra note 5. In support of its valuation of the art collection, the estate attached to the estate tax return two appraisal reports, corresponding to the first two categories, and a schedule, corresponding to the third230 category. The first appraisal report attached to the return is identical to the 1985 appraisal prepared by Sotheby's, determining total high estimates and low estimates of 143 works located at a warehouse at that time and 32 works located in decedent's home (the Sotheby's Report). The231 Sotheby's Report represents a listing of auction estimates prepared by Lucy Havelock-Allan (now known as Lucy Mitchell-Innes) of Sotheby's. The total high estimate equals $ 7,807,350, and the total low estimate equals $ 5,821,400. These estimates were used in the trial court in determining the value of the total collection for purposes of dividing the collection in kind between Robert Scull and Ethel Scull. The total median value was stipulated by the parties in that proceeding to be $ 6,799,375. Ethel Scull's share was stipulated to be $ 2,352,997 for purposes of making the in-kind distribution contemplated by the trial court. The estate later used those stipulated median figures to determine decedent's 65-percent undivided interest in this portion of the collection, or $ 4,446,378. The report does not include the list of unvalued paintings from the 1978 appraisal referred to in the original report. It includes additional typed statements, indicating that the appraisal is for the items reported on Schedule F of the estate tax return and that the total value claimed is the "Total Medium (sic) Fixed by Court at $ 6,799,375.00". 6232 The second appraisal report attached to the estate tax return is an appraisal, dated March 20, 1987, and prepared by Richard Bellamy (Bellamy), of 170 numbered items from decedent's art collection that were not listed on the 1985 appraisal report and that were not sold. In his 12-page report, Bellamy provides his qualifications and information about the Institute for Art and Urban Resources, Inc., of which he is a member of the board of directors. The remaining eight pages of the report merely list the artist and title of work, the medium of the work (i.e., acrylic on canvas), the date of production, the size of the work, and Bellamy's valuation of the work. There is no explanation as to the method of valuation or the factors that Bellamy considered in his valuation. Of the 170 numbered items, item number 138 was deleted and not identified or valued, and item number 170 is purported to be a "Box of 293 unframed dwgs. mixed media" by John Tweddle valued at $ 25 each. Also attached to the estate tax return is a schedule of works of art sold at auction that were not listed on either of the appraisals above (the Schedule). Notice of DeficiencyPrior to issuing the notice233 of deficiency, respondent obtained valuations of certain works of art in the collection from the Art Advisory Panel of the Commissioner of the Internal Revenue Service (the Art Panel) and from Robert Bodnar, an IRS Valuation Engineer (Bodnar). In a report dated February 14, 1990, the Art Panel valued 39 of the works of art listed in the Sotheby's 1985 appraisal at $ 8,510,000. Sotheby's 1985 appraisal listed the value of those 39 items as $ 6,248,000. The Art Panel reviewed the 1985 appraisal and determined that the values of 17 items were acceptable, that 3 items had been overstated, and that the remaining 19 items had been understated. The Art Panel considered the aesthetic quality, historical importance, and the market value of the subject art in redetermining its value as of January 1, 1986. For each work of art, the Art Panel members considered the value claimed by petitioner, the presale estimate, and the sale price achieved at auction. The Art Panel's valuations were often between petitioner's values and the auction results. Bodnar valued the remaining works listed in the 1985 appraisal at $ 995,465. In the statutory notice of deficiency, respondent valued the works234 of art listed in the Sotheby's Appraisal at $ 9,305,465, rather than $ 6,799,375 as reported in the estate tax return. The notice of deficiency did not clearly distinguish between decedent's interest and Ethel Scull's interest in the art collection, and to some extent ignored her interest. Later, in the amendment to answer, respondent asserted that in the deficiency notice decedent's interest in the art collection had been determined to have a value of $ 6,298,422. In the amended answer, based upon expert reports prepared for trial, respondent asserted that decedent's interest in the art collection had a total fair market value of $ 8,179,991 on January 1, 1986. OPINION I Valuation of Decedent's Interest in the Art CollectionProperty includable in a decedent's gross estate is generally included at its fair market value on the date of decedent's death. 7Sec. 2031(a); sec. 20.2031-1(b), Estate Tax Regs. Fair market value has long been defined as "the price at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell and both having reasonable knowledge of relevant facts." Sec. 20.2031-1(b), 235 Estate Tax Regs.; United States v. Cartwright, 411 U.S. 546">411 U.S. 546, 551 (1973). Furthermore, section 2031 and the regulations promulgated thereunder provide that fair market value is to be determined by the price at which the property would change hands in the market "in which such item is most commonly sold to the public". Sec. 20.2031-1(b), Estate Tax Regs. If the item is generally obtained by the public in the retail market, the fair market value of that item is the price at which it would be sold at retail. Id.Since valuation is a question of fact, the trier of fact has a duty to weigh all relevant evidence of value and to draw appropriate inferences. Hamm v. Commissioner, 325 F.2d 934">325 F.2d 934, 938 (8th Cir. 1963), affg. T.C. Memo. 1961-347. Both parties in this case have relied upon experts to derive a valuation of236 the Scull art collection. However, due to fundamental differences in the approaches taken by the parties and their experts, particularly with respect to the use of pre-auction appraisals as opposed to actual auction sales results, the valuations determined by the litigants are quite far apart. The estate claims a value of just over $ 4.4 million for works of art that sold for $ 8 million just 10-1/2 months after the date of decedent's death. The estate bears the burden of proof in showing that the value determined by respondent in the statutory notice of deficiency is incorrect. Rule 142(a); Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933). Respondent bears the burden of proof with respect to the increased valuation and increased deficiency asserted in the amended answer. Rule 142(a). A. The Expert Reports1. The Bellamy ReportAt trial, petitioner offered into evidence an expert report of six pages prepared by Bellamy (the Bellamy Report). 8 In that report, Bellamy summarized the testimony he intended to give at trial. 9 He stated that he would testify that there was a sharp increase in the values of contemporary art throughout all of 237 1986. Bellamy began studying works of contemporary art in 1948 and238 became actively engaged as an art dealer in 1955. He has been associated with a number of galleries in the New York City area. He founded and currently operates the Oil & Steel Gallery in Long Island City, New York. Bellamy personally knows a majority of the artists whose works were in the collection and has either represented some of those artists or has exhibited or sold some of their works. By art world definitions, to "represent" an artist means to be the main dealer and promoter of that artist's works. Bellamy performed the original appraisal of the approximately 169 works of art and 293 rolled-up drawings stored at the Crozier warehouse. Of those works, 60 paintings and all 293 of the drawings were created by John Tweddle. Bellamy was Tweddle's agent in the 1970s. Bellamy stated that there was hardly any market for Tweddle's works. In 1984, four to six Tweddle works were put up for sale by Sotheby's, but none was sold. In addition, no paintings were sold at an exhibition of the artist's works by the Blum Helman Gallery around the same time. Epstein and Bellamy decided that none of these Tweddle works would be offered at the auction for fear of depressing the value239 of the other works. Bellamy concluded that his appraisal of the Tweddle works was generous. Of the remaining works stored in the warehouse, there was a substantial number of sculptures by William Crozier. Crozier was represented by the Xavier Fourcade Gallery from September of 1980 until 1987. Bellamy stated that, during that time, he knew of only two sales of this artist's works. The Fourcade Gallery came to own casts of practically all of Crozier's works in lieu of repayment of the monthly stipend paid to the artist. At the Fourcade Estate's auction, these Crozier works either did not sell or sold at a loss. Crozier had an exhibition at the Jason McCoy Gallery in December of 1990 and January of 1991, and nothing was sold. Bellamy again concluded that his appraisal of the Crozier works was generous. In addition, Bellamy discussed two works of art created by Dan Christensen, which Bellamy had earlier appraised at $ 6,000 each. They were stored in the LeBron warehouse. He stated that decedent had planned to have those paintings stretched, mounted, and framed, but just never had gotten around to it. At the time of decedent's death, there were substantial outstanding warehousing240 fees. Since the Christensen works had become damaged during storage, Bellamy suggested to the co-executors that they try to arrange with the warehouse that it keep the paintings in satisfaction of the outstanding fees. Bellamy concluded his report with the following observations: I do not wish to burden the Court with a discussion of the many other artists involved. I will, of course, be able to respond to questions about the other artists at the trial. In the 706 Estate Tax return, my appraisal was stated to be $ 208,355 [sic]. * The local art appraiser noted that the correct figure was $ 151,055 because of a duplication of items valued in Sotheby's appraisal and because of a mathematical error. The total of $ 151,055, instead of $ 208,355 [sic], * appears to be the correct value of my appraisal of the works in the warehouse at the time of Mr. Scull's death. 2. The Castelli ReportPetitioner also offered a six-page expert report prepared by Leo Castelli241 (Castelli) who testified at trial. Castelli was born in 1907 in Trieste, Italy, and, at an early age, developed an interest in the arts, especially contemporary art. In 1957, he opened the Leo Castelli Gallery in New York City and has operated it continuously to the present. Among many other artists, Castelli has represented and/or dealt in the works of Nassos Daphnis, Jasper Johns, Robert Morris, Bruce Nauman, Robert Rauschenberg, and James Rosenquist. He also represented Andy Warhol until Warhol's death and formerly represented Larry Poons, Cy Twombly, Claes Oldenburg, and Richard Artschwager. In preparing his report, Castelli reviewed the Sotheby's report attached to the estate tax return as well as the report prepared by the Commissioner's Art Panel, dated February 14, 1990, and a letter signed by Richard S. Wolf, vice president of Sotheby's. 10242 After noting that "the art market in general experienced a sharp increase in value in 1986 and continuing thereafter", Castelli opined that "the fair market values of the works at the time of the auctions rose appreciably during the eleven months after Mr. Scull's death." Castelli noted that during the 1980s and continuing until 1989, the prices of many of the artists represented in the Scull collection rose steeply as more and more investors were attracted to the art market as an area for investment. He stated, "This upward rise continued all through 1986 and had a definite effect on the increase in the fair market value of these works between January, 1986 and November, 1986." However, Castelli did not attempt to quantify this "appreciable" or "steep" increase. Castelli also stated that the name Scull generated tremendous publicity for the auction, added excitement, and resulted in higher bids at auction: "And it is my further opinion that this interest [in the Sculls themselves as collectors and encouragers of contemporary art] added to the prices bid at the auctions, over and above the fair market value of those works, at the time." Castelli concluded that the 1985 appraisal243 by Sotheby's, as modified, represented the fair market value of the works therein listed as of the date of decedent's death. He also stated that the estate's estimate of $ 87,100 for the 13 works that were not in the Sotheby's appraisal but were in the auction catalog and were sold at auction represents the fair market value of those works. 113. The Carolan ReportRespondent's expert, Karen E. Carolan (Carolan), is chief of the Art Valuation Section of the Internal Revenue Service (IRS) and chairwoman of the Commissioner's Art Panel. Carolan has published numerous articles on documenting and valuing art for Federal tax purposes and has participated in lectures and panel discussions concerning the valuation of art. Her areas of specialization are late 19th and 20th century American and European paintings and sculpture, American western art, and 20th century decorative arts. On February 26, 1992, Carolan and respondent's second expert, Ivan C. Karp (Karp), examined244 and valued the items in storage at the Crozier warehouse. Carolan prepared an appraisal report, dated March 3, 1992, expressing her expert opinion as to the fair market value of decedent's total interest in the art collection at the date of his death as approximately $ 8,180,000. Carolan used the hammer prices obtained at auction on November 11 and 12, 1986, plus the 10-percent buyer's commission paid to Sotheby's, discounted by 15 percent, to arrive at a valuation of $ 7,512,100 for petitioner's works sold at auction. Karp's Report, discussed below, covers the balance of the $ 8,180,000. Carolan opined that it was reasonable and preferable to use the November 1986 auction results in determining the date of death valuation of decedent's 65-percent interest in the art collection. In evaluating the outcome of the auction, Carolan noted that: The record prices achieved at the November 1986 Scull sale were not an anomaly. Robert Scull was a legendary collector of pop and minimalist art. The quality of the Scull Collection was well known in the art community, and, historically when works from the Scull collection had been offered for sale, such as the auction of 50 works in 1973, 245 record prices were achieved. Considering the provenance and quality of the works at issue, high prices would have been anticipated for the 1986 sale. The conclusions of the IRS in the notice of deficiency were very conservative, and, a better case could arguably be made that the sales prices were in fact, the best evidence of fair market value. At the time of the IRS determination certain facts, such as the Brant purchase and the date of the appraisal on which the returned values were based were not known. The argument for higher values, closer to the sales prices, is supported by the previous sales of other Scull works, the date of the returned values to 1984 or 1985, the $ 5.3 million sale of a 65% interest of the collection in May 1986 by [sic] P. Brant, the state of the contemporary art market in 1986, and public and private sales of other works by these artists near the valuation date.Carolan further elaborated on those aspects of the collection that she considered in her valuation: (1) Scull's reputation as a collector and advocate of pop art -- Both Robert and Ethel Scull became legendary collectors of pop and minimalist art. The Sculls assembled one of the most 246 comprehensive collections of modern art in the 1950s and 1960s. They were publicity seekers and succeeded in raising the stature of the artists whose works they chose to nurture. Thus, there came a time when a new work or artist chosen by the Sculls gained quick acceptance in the pop art world. (2) The effect of provenance (i.e., history of ownership) of the items in the collection -- The provenance of a piece of art also factors into its valuation. A buyer is reassured by acquiring a work that has been preselected by someone with, developed taste. Hence, a work of art from the Scull collection would sell at a premium compared to similar items from a no-name collection. (3) The results of the 1973 Scull auction -- This auction was heavily publicized and, for the time, yielded astonishing prices and price records. Fifty pieces of art sold for a then unprecedented $ 2.3 million. Many art critics found this sale to represent a landmark event in auction history. It provided "a standard against which all future sales of contemporary art would be measured, both in terms of the quality of the material sold and the overall success of the sale." (4) The lure of single-owner sales 247 -- Single-owner sales give collectors an opportunity to own pieces from the collection of a renowned collector. (5) The steady growth of the art market during 1986 and 1987 -- By 1986, the auction market for modern art had been strong for a number of years and was steadily growing. Publicity and "hoopla" were the norm during this period. Catalogs displaying items to be auctioned with color illustrations and extensive research notes were themselves becoming collector's items. The auction market attracted the press and became the place to buy and sell art. The Sotheby's Art Index, which tracks prices in different sectors of the art market in nominal dollars, illustrates this phenomenon. The index shows a steady but undramatic increase in contemporary art from 1980 to the beginning of 1987, about a 10-percent increase per year from the beginning of 1985 to the beginning of 1987. Not until 1987 does the steep rise in contemporary art prices begin, and super record prices were not achieved until 1988. (6) The Brant Agreement -- Carolan characterized the Brant Agreement as unusual and, "Given the circumstances and the significant restrictions and conditions, it [the Brant Agreement] 248 would not appear to be indicative of fair market value as defined, but appears to represent a distressed sale." She noted that Brant nevertheless was willing to purchase the 65-percent interest, with all of these difficulties and restrictions and without knowing what specific works of art would be left in that interest, and paid almost $ 1 million more than the estate valued decedent's interest, even before the additional sales proceeds. (7) The 1986 auction and its results -- The Scull collection was well known and considered to be of top quality. The auction yield set a record for a single-owner sale of contemporary art. Carolan stated that "I have attended the day and evening Contemporary Impressionist and Modern sales since about 1974 or 1975, and I attended the Scull sales in 1986. The publicity and promotion for this sale were not unique to the Scull sale, but typical and similar to that for other important collections." (8) The presale estimates -- Carolan stated that, in strong market conditions, she has observed that presale estimates are often low, probably to encourage buyers. She quotes Christie's Martha Baer from her proposal for the Scull sale, dated June 19, 1986: 249 Please note I have changed some of the estimates as I have had a chance to do further research on auction prices for these artists. However, as you will see I am still quoting conservative estimates for the most part as I feel they entice active bidding.(9) The relevant public and private sales in proximity to the valuation date -- Carolan stated that many of the highest prices achieved, while not previously achieved at auction, are nevertheless supported by private sales during the period. Carolan points to a number of newspaper articles in which Lucy Mitchell-Innes herself commented on the remarkable quality of the pieces by Johns and other artists in the Scull collection and how she was not surprised by the prices achieved at auction. In comparing relevant private sales occurring during the same period, Carolan concluded that the prices achieved for Johns' Out the Window, Warhol's Two Hundred One Dollar Bills, DiSuvero's Che Faro, and Rosenquist's F-111 are not out of line or extraordinary and that the preauction estimates appear too low. Carolan concluded her report by stating: In conclusion, the quality of the Scull Collection was well known by the art buying250 community. The past history of the sales of other Scull works confirm[s] that works from the Scull collection were esteemed and achieved high prices in the market. The subject properties sold at auction only ten months after the valuation date. In view of the contemporary art market in 1986, while there was an increase, no substantial or dramatic change in market conditions was observed between the date of death and the sale date. Consequently, I do not believe that the subject works doubled in value in these ten months. Whether the sale had taken place in January or in November, the results would probably have been much the same. The high prices achieved for the sale of these works ten months after the valuation date were not, as has been demonstrated, unexpected with no basis in reality. The values indicated in the IRS deficiency were very conservative and, after conducting extensive additional research for this report, probably too low. Using the 10% increase in contemporary art prices indicated in the Sotheby's Index as a benchmark, I would estimate that only about a 15% reduction of the sales prices would be warranted at the valuation date.4. The Karp Report251 Ivan C. Karp (Karp) submitted an expert report, dated March 3, 1992. Karp opened the O.K. Harris Gallery in New York City in 1969 and has been its director since that time. Karp was assistant director of the Leo Castelli Gallery from 1959 to 1969. Karp has lectured and published extensively on art and has taught art history courses. For purposes of his valuation, Karp has considered the collection in two parts, the works of art sold at auction and the works not offered at auction. In reaching his conclusions, Karp considered the appraisals attached to the estate tax return, the auction catalog and sales results, the 1978, 1984, and 1985 appraisals prepared by Sotheby's, the Brant Agreement, and contemporaneous sales data and publications. Karp and Bellamy agreed on the valuations of various of the works of art not offered at auction and contained in the Bellamy Report. On most of the remaining works in this category, Karp's valuations were between Bellamy's and Bodnar's. Karp has known Bellamy over 35 years and respects his vast knowledge of contemporary art; however, Karp explained that he must challenge certain of Bellamy's valuations because Bellamy focused on aesthetics252 and not the economics of the art market. On the other hand, Karp found the values set forth in the notice of deficiency to be rather high at times because Bodnar based his valuations strictly on economics and comparative sales with little regard for artistic merits or the lack thereof. For example, Karp reduced the values for the works of John Tweddle, as determined in the notice of deficiency, by 50 percent, to account for blockage and unevenness of quality. Karp opined that the fair market value of all of these works (not offered at auction and contained in the Bellamy Report) on the date of decedent's death was $ 323,150. Karp's valuation of the works of art contained in the 1985 appraisal by Sotheby's but not offered at auction was lower than the valuation determined in the notice of deficiency but higher than the median value claimed on the estate tax return. Karp explained: The difference between my valuation and that claimed on the estate tax return is largely explained by the fact that the estate's valuation is based upon the March 1985 Sotheby's appraisal which, as regards these works, is identical to an appraisal prepared by Sotheby's in February 1984. In essence, 253 the values claimed by the estate for these works are average values circa February 1984, two years before the applicable valuation date. My values are my appraisal of the fair market value of the works circa January 1, 1986 which I note, are very close to the "high estimates" of $ 208,650 on the 1984/1985 Sotheby's appraisals.Karp concluded that the fair market value of these works as of January 1, 1986, was $ 219,800. Karp also discussed the outcome of the auction. He suggested that only an uninformed observer would think that the prices achieved at auction were unexpected in view of the presale estimates. Karp asserted that, by 1986, the art world had been awash for at least 2 years in a flush of excited prices for fine art in all categories. Karp concluded that Sotheby's placed low estimates on pieces in the Scull collection -- to create the same degree of astonishment at the prices achieved as occurred in the first (and by then historic) auction of Scull works. There was no one involved in contemporary art commerce who was not aware that the Jasper Johns, 0 Through 9 painting would achieve over $ 750,000. And to have estimated the monumental James Rosenquist254 F111 at less than $ 1,000,000 was a serious lapse in judgment. One might ascribe this kind of estimating to a failure of information gathering or to a sudden burst of overcautiousness. But research is one of the strong points of the major auction houses. And 1985 to 1986 was not the moment or the environment for fine arts price anxiety. New records for the sale of art was a daily occurrence and none of this was anything but known to everyone involved.Karp also stated that respondent had generously taken into account the 10 months between the date of valuation and the date of the auction sales by discounting the auction results by 15 percent. He also saw "in the Peter Brant arrangement that this veteran collector held an accurate and realistic conviction as to the prevailing value of the works in question." Karp found that this esteemed collection could have sold at Christie's or, for that matter, in Europe or in a private home and achieved the very same results. Thus, Karp concluded that, with the 15-percent discount, decedent's 65-percent interest in this portion of the collection was worth $ 7,512,091. As for the works of art offered but not sold at the auction, 255 Karp accepted the $ 59,950 figure from the notice of deficiency, since that was lower than the value claimed on the estate tax return and lower than the presale estimates. Karp also found additional works of art at the warehouse that had not been reported on the estate tax return or included in any of the appraisals or statements relied upon by petitioner. He valued these items at $ 65,000. B. Positions of the PartiesRespondent contends that it is reasonable and preferable to use the November 1986 auction results in determining the date-of-death value of decedent's 65-percent interest in the art collection sold at the auction. Respondent further asserts that the values determined by Carolan and Karp for the remaining works of art represent the date of death values for those works. Petitioner asserts that it has met its burden of proving that it correctly reported the value of the estate's undivided interest in the art collection, as of the date of death, on the Form 706 based upon the median value between the high and the low estimated values as determined by Sotheby's in its 1985 appraisal. Petitioner reasons that, on the date of decedent's death, decedent did not have256 title to any of the individual works of art in the Scull collection. As determined by the New York State trial court, decedent possessed only an undivided 65-percent interest in the collection, and Ethel Scull possessed the remaining 35-percent interest. The 1985 appraisal prepared by Sotheby's valued 175 numbered items of art and fixed the high and low estimated values for each individual piece. The trial court's judgment provided that the collection be divided in kind on the basis of the median values between the high and low estimated values, with petitioner and Ethel Scull alternately selecting works until Ethel Scull's selections had reached a value equivalent to 35 percent of the median value of the entire collection. Petitioner emphasizes that no such division could have been made on the date of death or for 4 months thereafter due to the trial court's stay of judgment pending the determination of the appeal taken by decedent to the New York State Court of Appeals. Therefore, in view of the nonfungible nature of the collection as of the date of death, petitioner asserts that the fair market value was actually less than the proportionate share of the value of the entire257 collection and that the median value of the 1985 appraisal is the most appropriate valuation available in this case. In addition, petitioner further asserts that the sale 12 of the estate's interest in the collection to Peter Brant for $ 5,300,000, on May 12, 1986, provides strong evidence of the value of decedent's undivided 65-percent interest in the art collection on that date. Furthermore, petitioner states that the agreement demonstrates the substantial price rises in the art market between January, May, and November of 1986. Petitioner states that the Brant Agreement represents a bona fide sales transaction voluntarily entered into as a result of arm's-length negotiations258 by willing and informed participants. Petitioner relates that, although Epstein was at the time trying to raise funds to pay Ethel Scull the approximately $ 1.2 million money judgment for the earlier art sales awarded by the New York State trial court, this Brant sale was not a forced or distress sale. In fact, Epstein succeeded in obtaining a price, $ 5,300,000, that is almost $ 225,000 higher than 65 percent of the total high value of the works of art as estimated by Sotheby's in the 1985 appraisal. Even though there was the possibility that the auction yields would exceed $ 5,300,000 and the estate would share in that excess, petitioner argues that this possibility was purely speculative and that decedent's undivided 65-percent interest had a fair market value of $ 5,300,000 on May 12, 1986. Consequently, petitioner asserts that the Brant Agreement serves as strong evidence that petitioner properly reported the fair market value of decedent's interest on Form 706 in view of appreciation in the art market during the intervening period. We note that the art collection was in fact divided between the estate and Ethel Scull on May 14, 1986. Respondent characterizes the Brant 259 Agreement as a wholesale transaction that yielded $ 7,098,451 13 for works that sold at retail for $ 8,638,905. Respondent contends that the best evidence of the fair market value of those works of art that sold at the November 1986 auction is the amount paid by the purchasers of the art at the auction. Respondent asserts that both the hammer prices and the buyer's commissions should be included in the fair market value of the works of art sold at auction. Respondent's position 14 is that the fair market value of an item of property is measured by what would be paid for the item, not by the net amount received by the seller. 260 Petitioner counters that, if the auction results are to be used to determine fair market value, then only the hammer prices should be used. Petitioner further asserts that, if the auction results are to be used to determine value as of the date of death, an appreciation allowance must be made. Petitioner argues that there was "substantial" appreciation in the works of art represented in the Scull collection between January and November of 1986. Respondent agrees that there was some appreciation in works of art during the period from January to November of 1986. Respondent asserts, however, that such appreciation did not exceed an average rate 15 of 15 percent for that period. 261 C. The Court's ValuationWe agree that, on January 1, 1986, decedent did not have title to any of the individual works of art in the Scull collection. Rather, decedent owned a 65-percent undivided interest in the entire collection. Therefore, we think it is appropriate to value the entire collection, including the pieces selected by Ethel Scull, as of the date of decedent's death and then determine the value of decedent's 65-percent undivided interest. The Court often finds expert witnesses' opinions to be helpful in understanding an area requiring specialized training, knowledge, or judgment. 16 However, as the trier of fact, the Court is not bound to accept the experts' opinions. Silverman v. Commissioner, 538 F.2d 927">538 F.2d 927, 933 (2d Cir. 1976), affg. T.C. Memo 1974-285">T.C. Memo. 1974-285; Chiu v. Commissioner, 84 T.C. 722">84 T.C. 722, 734 (1985). We may adopt some portions and reject other portions of expert testimony as we weigh its persuasiveness and helpfulness. Helvering v. National Grocery Co., 304 U.S. 282 (1938). In fact, where both parties' valuations are defective, the 262 Court independently may reach a valuation determination. Tripp v. Commissioner, 337 F.2d 432">337 F.2d 432, 434 (7th Cir. 1964), affg. T.C. Memo. 1963-244; Goldstein v. Commissioner, 298 F.2d 562">298 F.2d 562, 567 (9th Cir. 1962), affg. T.C. Memo. 1960-276. In this case, we evaluate the estate's undivided 65-percent interest in the art collection in four separate categories: (1) works of art offered and sold at auction on November 10, 11, and 12, 1986, by petitioner and by Ethel Scull, (2) works of art offered but not sold at auction, (3) works of art included in the 1985 appraisal but not offered at auction, and (4) works of art not included in the 1985 appraisal and not offered at auction. 1. Works of Art Offered and Sold at AuctionWe do not263 agree with petitioner's positions. This Court has recognized that an appropriate retail market for art objects is the auction (distinguished from a forced-sale auction). Estate of Smith v. Commissioner, 57 T.C. 650">57 T.C. 650, 658 (1972), affd. 510 F.2d 479">510 F.2d 479 (2d Cir. 1975); Mathias v. Commissioner, 50 T.C. 994">50 T.C. 994, 999 (1968). Petitioner's expert, Castelli, acknowledged that the proper market for the decedent's collection was the auction market. We prefer evidence of actual sales of the property to be valued, within a reasonable period of time before or after the valuation date, rather than estimates or approximations of the price upon which a willing buyer and a willing seller might agree. Cf. Tripp v. Commissioner, 337 F.2d at 434-435. Foreseeable subsequent sales will be considered for date-of-death valuations, and no evidence is more probative of fair market value than direct sales of the property in question. Estate of Kaplin v. Commissioner, 748 F.2d 1109">748 F.2d 1109, 1111 (6th Cir. 1984), revg. T.C. Memo. 1982-440. 264 In addition, we often look to an ultimate disposition in valuing a fractional interest. See Andrews v. Commissioner, 38 F.2d 55">38 F.2d 55, 56 (2d Cir. 1930), affg. 13 B.T.A. 651">13 B.T.A. 651 (1928) (Board of Tax Appeals justified in valuing a decedent's fractional interest in property at the price at which it sold 14 months after death). In this case, works from the Scull collection were sold at auction on November 10, 11, and 12, 1986, 10-1/2 months after decedent's death and 8 months before the estate tax return (Form 706) was filed. On November 10, 1986, Ethel Scull offered for auction the nine works of art she had selected from the collection. All nine works were sold, yielding $ 4,797,100, which includes buyer's commissions. On November 11 and 12, 1986, petitioner offered 138 works and sold 119 lots at auction, yielding hammer prices of $ 7,853,700 and 10-percent buyer's commissions of $ 785,370, totaling $ 8,639,070. Petitioner's valuation is based upon appraisals prepared 10 months to 2 years prior to decedent's date of death. Those appraisals are merely Sotheby's estimates of the values of certain works for purposes of division of 265 marital property in kind between decedent and Ethel Scull. Those appraisals do not disclose the basis upon which the values were estimated and do not constitute expert reports or expert valuations in this case. Furthermore, the values in the appraisals do not incorporate any appreciation that occurred up to the date of death. Petitioner further objects to using the auction results as a means of valuing the works of art for estate tax purposes in light of the Brant Agreement. Other than the buyer's commissions that Brant paid directly to Sotheby's for his purchases at the auction, Brant's total cash-out-of-pocket expenditure under the Brant Agreement was $ 1,250,000, the initial payment to the estate. In addition to the $ 1,250,000 which he actually paid, Brant was credited with $ 670,000 of the auction proceeds in which the estate did not participate and with $ 887,355.75 of the excess proceeds of the auction above the $ 5,300,000 minimum figure guaranteed to the estate, for a total of $ 2,807,355.75. From this total was deducted the $ 2,127,950 hammer prices for the works Brant purchased at the auction and the $ 82,952 interest on the delayed $ 2,000,000 payment, which payment266 also came out of the auction proceeds, for a balance of $ 596,454. Thus, for a cash expenditure of $ 1,250,000, Brant received works of art with a hammer price of $ 2,127,950 and $ 596,454 in cash. After payment of the buyer's commissions of $ 212,795, Brant had the works of art plus $ 383,659 in cash. If the Brant Agreement constituted a sale of the Scull art collection rather than a financing arrangement, it was a bargain sale at less than the fair market value of the works. The facts do not show that Brant really assumed the benefits or burdens of ownership. He did not make the $ 2,000,000 payment that was due in July 1986; he did not pay any of the warehouse or insurance expenses for the collection; he did not take any of the works of art that were not sold at the auction. However, we need not decide whether there was a bona fide sale under the Brant Agreement. See supra note 12. We think that the Brant Agreement, however it is characterized, actually supports the use of the auction results. Throughout the period after decedent's death, an auction of the Scull collection was contemplated and planned. This plan did not change with the appearance of Brant. In fact, 267 Epstein negotiated to continue the plan for auction and to share in the auction yields in excess of $ 5,300,000. Petitioner and Brant were assured of getting at least four of the eight most prized pieces of the entire collection due to the alternating method of dividing the collection. Ethel Scull did select four of those eight most prized pieces, plus five others, to reach her 35-percent interest in the collection. We agree with respondent's characterization of the Brant Agreement as a wholesale transaction. Furthermore, the Brant Agreement is strong evidence that petitioner did not properly value decedent's interest in the collection on the estate tax return. The Brant Agreement, nevertheless, is not a conclusive indication of the proper value of decedent's interest. Considering all aspects of the Brant Agreement, including the contingencies, we think that a valuation based upon the Brant Agreement would necessitate incorporation of the auction results. Petitioner asserts that, if the auction results are to be used to determine fair market value, then only the hammer prices should be used and a substantial appreciation allowance should be made. Respondent asserts that both268 the hammer prices and the buyer's commissions should be included in the fair market value of the works of art sold at auction. See supra note 14. We agree with respondent. The fair market value of an item of property is measured by what would be paid for the item, not on the net amount received by the seller: "'price' herein is what a purchaser would pay for a piece of * * * [property]". Estate of Smith v. Commissioner, 57 T.C. at 659. In that case, the taxpayer argued that, in determining fair market value, the value of the unsold works of art of a deceased sculptor should be reduced by the commissions payable to decedent's exclusive agent. This Court rejected that argument and held that "The measure of value laid down by these cases is what could be received on, not what is retained from, a hypothetical sale." Id.; citing Publicker v. Commissioner, 206 F.2d 250">206 F.2d 250 (3d Cir. 1953); Estate of Gould v. Commissioner, 14 T.C. 414 (1950)). Although, in this case, the estate was not obligated, as was the taxpayer in Estate of Smith v. Commissioner, supra,269 to pay the commissions out of the gross sales price received, we think that the situations are analogous and the net effect is the same. Each buyer considered how much to bid by taking into account the additional 10-percent buyer's commission. As a result, these different considerations yield one price for an item that takes into account the buyer's bid price and the buyer's commission. Petitioner argues that it only "received" the hammer prices from the sale of the art pieces. We disagree. The estate constructively received the buyer's commissions. The amount received includes money and the fair market value of property received. In this context, property includes services. Therefore, even under petitioner's argument, the amount that petitioner received as a result of the auction was not only the hammer prices but also Sotheby's services. Sotheby's was petitioner's agent at the auction and had an obligation to use its best efforts to obtain the highest bid for each item. Sotheby's did not represent the purchasers of the items. An agent of a purchaser would have had an obligation to obtain the item at the lowest possible price. The consignment agreement authorized 270 Sotheby's to act as petitioner's agent to collect from the purchaser and retain as Sotheby's commission 10 percent of the hammer price. Brant negotiated this provision of the consignment agreement with Sotheby's, shifting the focus of the collection of the commission from the seller to the buyer. This provision does not substantively change the determination of the value of the works of art: it merely represents Sotheby's mechanism for collecting and accounting for the commissions. Therefore, we sustain respondent's computation of the fair market values of the items sold at auction as of November of 1986 as a combination of the hammer prices and the buyer's commissions paid. Petitioner further asserts that, if the auction results are to be used to determine value as of the date of death, an appreciation allowance must be made. Petitioner argues that there was "substantial" appreciation in the works of art represented in the Scull collection between January and November of 1986. Respondent agrees that there was some appreciation in works of art during the period from January to November of 1986. Respondent asserts, however, that such appreciation did not exceed an average rate271 of 15 percent for that period. Respondent's experts testified as to the state of the contemporary art market during the mid-1980s, and specifically 1986, by referring to contemporaneous publications as well as their own personal experiences during the period. Karp testified that much of the appreciation that occurred during 1986 was due in large part to the availability of the Scull collection at auction. He stated that "I don't think a lot of these things are worth the price paid for them, [but] that was the price paid and that is the fair market value according to the strictures of fair market value." Carolan further asserted that the data supports the contention that the auction results achieved in November could also have been achieved had the auction been held in January of 1986. Both of respondent's experts recognize that the results of effective publicity and "hoopla" cannot be separated from the concept of fair market value. Cf. Perdue v. Commissioner, T.C. Memo. 1991-478 (fair market value determined by what a willing buyer will pay even under the influence of the "glamour" of the particular sale and the "romantic appeal" and "glamour" 272 of the object offered for sale). We found the contemporaneous data presented by respondent's experts, as well as their analyses, to be helpful and persuasive. Petitioner has presented no quantitative evidence as to what its assertions of "substantial" appreciation mean in this case. Respondent has conceded a generous allowance of 15 percent for the appreciation that potentially occurred between January and November of 1986, and we will allow that amount. Therefore, the fair market value, as of January 1, 1986, of all of the works of art from the Scull collection (including Ethel Scull's pieces) sold at auction is $ 11,683,626 ($ 4,797,100 (Ethel) + $ 8,639,070 (Scull) = $ 13,436,170 + 1.15). 2. Works of Art offered but Not Sold at AuctionSixteen works of art were offered but did not sell at the auction. Respondent concedes that there is no issue as to the value of these works because both the notice of deficiency and respondent's experts determined that these works were worth $ 59,950, which is less than the amount claimed on the estate tax return. Therefore, we accept respondent's valuation of $ 59,950 for these works. 3. Works Listed on the 1985 Appraisal Not273 Offered at AuctionThere were 42 items included in the 1985 appraisal that were not offered or sold at auction. Petitioner reported those works on the Form 706 at a total value of $ 178,725. Respondent increased that value to $ 260,925 in the notice of deficiency. Upon further evaluation, respondent's expert Ivan Karp lowered the statutory notice valuation to $ 219,800. We found Karp to be a credible and persuasive witness and his analysis to be thorough and unbiased. Petitioner has not shown that Karp's figures should be further lowered. However, there are two works for which Karp has not sustained his valuations above those determined in the statutory notice: Artist/Sotheby'sStat.KarpItem No.Art WorkAppraisalNoticeValue13Komodre/"No Resale$ 100$ 650UntitledValue" 18Truxell/"No Resale50125UntitledValue" Therefore, we sustain Karp's fair market valuation of 40 works of art in the amount of $ 219,025 and the notice of deficiency's valuation of two works at $ 150, for a total of $ 219,175. 4. Works Not Included in the 1985 Appraisal and Not Offered at AuctionWorks of art from the Scull collection that were not included274 in the 1985 appraisal and not offered at auction fall into the following three subcategories: (1) works by John Tweddle, 17(2) remaining works included in petitioner's valuation on its Form 706, and (3) later-discovered works. Richard Bellamy valued 169 items and 293 rolled-up drawings in decedent's collection that were not included in the 1985 appraisal and that were not offered or sold at auction. He determined the fair market value of those items to be $ 168,795. 18In the statutory notice of deficiency, respondent determined the value to be $ 493,165, but now concedes that, due to mathematical error, that amount should have been reported as $ 492,155. Karp's revaluation totals $ 323,150. 275 a. Works by TweddleBellamy performed the original appraisal of those works, of which 60 paintings and all 293 of the drawings were created by John Tweddle. Bellamy valued the Tweddle works at $ 27,185. Karp valued the works at $ 143,500. Bellamy was Tweddle's agent in the 1970s and, except for decedent, there was hardly any market for Tweddle's works. In 1984, four to six Tweddle works were put up for sale by Sotheby's, but none was sold. In addition, no works were sold at an exhibition of the artist's works by the Blum Helman Gallery around the same time. This Court found Bellamy to be credible and thinks that he has the greatest knowledge of Tweddle's works. We accept his valuation of those works. Bellamy, however, did not value item number 39, and we accept Karp's value of $ 200. Therefore, the value of the works by Tweddle on the date of decedent's death was $ 27,385 ($ 27,185 + $ 200). b. Remaining Works included in Petitioner's Form 706Bellamy valued the remaining 109 works of art at $ 141,610 ($ 168,795 - $ 27,185) and Karp valued them at $ 179,650 ($ 323,150 $ 143,500). Again, this Court found Karp to be a helpful and credible witness and, except276 as noted below, we adopt his valuations for the remaining pieces. The following items bear more detailed discussion: Item No. 49 - Robert Goodnough. The valuation of $ 500 in the statutory notice of deficiency is sustained because petitioner failed to show why it should be lowered to $ 300, and respondent failed to show why it should be raised to $ 900 (difference in Karp value $ 900 - $ 500 = $ 400). Item No. 62 - $ 100 Bill by Andy Warhol. Karp has convinced this Court that the work he viewed was an authentic Warhol worth $ 8,500. Karp represented Warhol for many years throughout Warhol's career and was exceedingly familiar with the quality and characteristics of Warhol's artistic work. Item No. 111 - Malcom Morley. At trial, Bellamy conceded that this item, unidentified on his appraisal, was properly identified by Karp as a work by Malcom Morley. Therefore, we accept Karp's valuation of this item. Item No. 127 - Unidentified. Karp valued this item at $ 6,000 as the work of Frank Stella. It is not clear that this piece was created by Frank Stella. Therefore, the value of $ 10 in the statutory notice of deficiency is sustained (difference $ 277 6,000 - $ 10 = $ 5,990). Items No. 106, 117, and 132 - Bellamy determined that these items had no value. Karp valued these items at $ 75, $ 150, and $ 250, respectively (total $ 475). Again, neither party has supported their valuations sufficiently to merit disregarding the statutory notice valuations of $ 25, $ 10, and $ 50, respectively (total $ 85; difference $ 475 - $ 85 = $ 390).Therefore, after evaluating all of the valuations and analyses of the experts in this case, we conclude that the fair market values of these 109 items, as of January 1, 1986, totaled $ 172,870 (Karp value less adjustments: $ 179,650 - $ 400 - $ 5,990 $ 390 = $ 172,870). c. Later-Discovered WorksDuring his inspection of the unsold works of art stored in the warehouse, Karp discovered and valued eight pieces that were not listed on any of petitioner's appraisals. He determined that these works were valued at $ 65,000 as of January 1, 1986. These later-discovered works of art represent a new matter on which respondent bears the burden of proof. Respondent made sufficient showing that these works were indeed part of the Scull collection. We accept Karp's identification and valuation278 of these eight additional works of art. Therefore, we sustain respondent's valuation of the eight works at $ 65,000. Thus, the total fair market value for all of the works of art not listed on the 1985 appraisal and not offered at auction, as of January 1, 1986, is $ 265,255 ($ 27,385 (Tweddle) + $ 172,870 (remaining reported on return) + $ 65,000 (later-discovered)). 5. Entire Scull CollectionThe entire Scull collection had a fair market value of $ 12,228,006 on the date of decedent's death ($ 11,683,626 + $ 59,950 + $ 219,175 + $ 265,255). 6. Decedent's 65-percent Undivided InterestDecedent had a 65-percent undivided interest in the collection. Petitioner argues that the value of that interest was less than 65 percent of the value of the entire collection. Pursuant to the trial court in the divorce proceeding, Ethel Scull had a 35-percent undivided interest in the collection and the right to an in-kind distribution. Scull had appealed the Appellate Division's determination of constructive trusts to the Court of Appeals (highest court) which affirmed the lower court in April of 1986. In addition, after the valuation date, on January 31, 1986, Ethel Scull had279 appealed to the Appellate Division, seeking to increase her portion to 50 percent. That appeal was not disposed of until February of 1987. Under the willing buyer/willing seller standard, the willing buyer is assumed to have reasonable knowledge of material facts. Estate of Crossmore, T.C. Memo. 1988-494. Any purchaser of petitioner's interest in the collection as of January 1, 1986, would consider Ethel Scull's rights in the collection and Scull's pending appeal on the date of death. However, since Scull's appeal, if successful, would have increased his share, that appeal does not provide any basis for a reduction. Moreover, since Ethel Scull's appeal came later, it probably should not be taken into account. In any event, given the trial court's detailed explanation of its basis for its determination of the 65-35 split, we think that a purchaser would not require a reduction in excess of 5 percent for any uncertainties involved in acquiring decedent's 65-percent interest, despite one or both appeals. Therefore, we find that the fair market value of decedent's interest in the art collection on the date of death was $ 7,550,794 19 ($ 12,228,006280 x 65% = $ 7,948,204 - $ 397,410 = $ 7,550,794). 281 II Addition to Tax under Section 6651(a)Respondent has determined that petitioner is liable for an addition to tax under section 6651(a)(1) for failure to file timely its Federal estate tax return. The extended due date of the return was April 1, 1987. 20 Petitioner filed the estate tax return on July 6, 1987. Petitioner does not contest the fact that the return was untimely filed, but contends that there was reasonable cause for the delay in filing. The addition to tax under section 6651(a)(1) applies unless the taxpayer can show that the failure to file timely was due to "reasonable cause and not due to willful neglect". Sec. 6651(a)(1); United States v. Boyle, 469 U.S. 241">469 U.S. 241, 245 (1985);282 Crocker v. Commissioner, 92 T.C. 899">92 T.C. 899, 912 (1989). "Reasonable cause" is present if a taxpayer exercised ordinary business care and prudence and was nevertheless unable to file the return within the date prescribed by law. Sec. 301.6651-1(c)(1), Proced. & Admin. Regs.; United States v. Boyle, supra at 246; Estate of Paxton v. Commissioner, 86 T.C. 785">86 T.C. 785, 819 (1986). "Willful neglect" is defined as a "conscious, intentional failure or reckless indifference". United States v. Boyle, supra at 245. Petitioner asserts that reasonable cause for the late filing exists in this case due to the ill health of Richard Joseph, the estate's tax return preparer, and the complexities involved in preparing estimates of the estate's potential liability in a number of lawsuits that were pending during the period after decedent's death. It is respondent's position that petitioner's failure to file the estate tax return in a timely manner was due to willful neglect. The Supreme Court has held that reliance on an agent to file a return, no matter how reasonable, will not, 283 as a matter of law, constitute reasonable cause for a late filing under section 6651(a)(1). United States v. Boyle, 469 U.S. at 246-247. Furthermore, Congress has placed the burden of prompt filing on the executor, not on some agent or employee of the executor. The duty is fixed and clear; Congress intended to place upon the taxpayer an obligation to ascertain the statutory deadline and then to meet that deadline, except in a very narrow range of situations. Engaging an attorney to assist in the probate proceedings is plainly an exercise of the "ordinary business care and prudence" prescribed by the regulations, * * but that does not provide an answer to the question we face here. To say that it was "reasonable" for the executor to assume that the attorney would comply with the statute may resolve the matter as between them, but not with respect to the executor's obligations under the statute. Congress has charged the executor with an unambiguous, precisely defined duty to file the return within nine months; extensions are granted fairly routinely. That the attorney, as the executor's agent, was expected to attend to the matter does not284 relieve the principal of his duty to comply with the statute. [Emphasis in original.]United States v. Boyle, supra at 249-250. Petitioner asserts that a number of factors led to the late filing of the estate tax return. First, petitioner contends that petitioner's accountant, Richard Joseph, played an essential and irreplaceable role in the preparation of the return due to his special and exclusive knowledge of decedent's financial affairs. Joseph was unable to complete his work on the return until July of 1987 because he was suffering from polio-related health conditions. In addition, petitioner asserts that the complexity of the return and the ongoing litigation against petitioner hampered the timely filing of the estate tax return. We have found in certain limited cases that illness or incapacity may constitute reasonable cause if the taxpayer establishes that he himself was so ill that he was unable to file a return. See Williams v. Commissioner, 16 T.C. 893">16 T.C. 893, 906 (1951). 21 Further, the taxpayer must show that he was incapacitated to the extent that he was unable to exercise ordinary business care285 and prudence. Akins v. Commissioner, T.C. Memo. 1993-256; cf. United States v. Boyle, 469 U.S. at 248 n.6. However, the illness of an accountant or other agent is not reasonable cause for an executor's failure to timely file the return. Estate of Geraci v. Commissioner, 502 F.2d 1148">502 F.2d 1148, 1149 (6th Cir. 1974), affg. T.C. Memo. 1973-94. The facts were quite sympathetic in Geraci. The executrix was a housewife with little or no business experience. She relied entirely upon the estate's attorney to prepare and file the return. The attorney was incapacitated by illness at the time the return was due to be filed, and he was under the mistaken impression that the return was due 15 months from the date of the appointment of the executrix286 rather than from the date of death. Nevertheless, this Court found that those factors did not constitute reasonable cause for the failure to file the estate tax return in a timely manner. The United States Court of Appeals for the Sixth Circuit affirmed. In this case, the executors themselves were not incapacitated and knew they had the duty to file the return in a timely manner. They were aware of Joseph's declining health far in advance of the due date of the return. They contend that they offered him assistance in the preparation of the return but that he refused. Ordinary business care and prudence required the executors to actively manage and accomplish the preparation and filing of the estate tax return in a timely manner. An agent's refusal to accept assistance, causing delays in the preparation and filing of the return, does not rise to the level of reasonable cause to excuse the executors' duty to timely file the return. Petitioner further argues that the calculations required for the return were time consuming and extremely complicated and therefore constitute reasonable cause for the delay. Case law in this area, however, indicates otherwise. In United States v. Kroll, 547 F.2d 393">547 F.2d 393, 396 (7th Cir. 1977),287 the Seventh Circuit Court of Appeals held that: when there is no question that a return must be filed, the taxpayer has a personal, nondelegable duty to file the tax return when due. * * We are not convinced that the executors could not have made reasonable estimates of the complicated items, to be amended later, in order to timely file the return. Petitioner also asserts that the excessive and complex litigations in which it was embroiled during this period prevented the timely filing of the estate tax return. Pending litigation, even if the outcome affects the estate's final tax liability, is not reasonable cause for failing to timely file an estate tax return. Estate of Mayer v. Commissioner, 351 F.2d 617 (2d Cir. 1965), affg. 43 T.C. 403">43 T.C. 403 (1964); Estate of Duttenhofer v. Commissioner, 49 T.C. 200">49 T.C. 200 (1967), affd. per curiam 410 F.2d 302">410 F.2d 302 (6th Cir. 1969); Estate of Pridmore v. Commissioner, T.C. Memo. 1961-12; Sever v. Commissioner, T.C. Memo. 1954-63. In fact, we have held that pending litigation288 affecting the fair market value of a decedent's interest in property held at her death was not reasonable cause for untimely filing. Porter v. Commissioner, 49 T.C. 207">49 T.C. 207, 226-227 (1967). In Porter, we held that the executor should have filed a timely estate tax return by giving only tentative values pending the outcome of the litigation. In such situations, reasonable estimates are permitted and are preferable to the failure to file the estate tax return within the prescribed time. Id.The executors in this case, Epstein and Marie Dickson, are experienced professionals. Epstein is an experienced attorney and long-time associate of the Sculls. Marie Dickson is an experienced businesswoman who, from 1954 until decedent's death, managed all of the administrative duties of decedent's taxicab business and his art gallery. Both executors were fully aware of the due date of the estate tax return. As an attorney, Epstein was aware that an incomplete return could be filed by the estate and amended later. Thus, as the deadline for filing the estate tax return drew closer, ordinary business care and prudence required that the executors utilize 289 whatever information had been gathered and prepared to that point to file a timely return and to continue finalizing information for an amended return at a later date. We agree with respondent that the executors were willfully negligent in their failure to take these steps. Therefore, we sustain respondent's determination that petitioner is liable for an addition to tax under section 6651(a)(1). III Increase in Taxable GiftsRespondent asserts that petitioner's taxable gifts must be increased by $ 5,000 because decedent wrote two checks to one of his sons in the amounts of $ 10,000 and $ 5,000 during 1985. Petitioner has failed to present any evidence on this issue, and therefore, respondent's determination will be sustained. Rule 142(a); Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933). IV ConclusionThis Court holds that the fair market value of decedent's 65-percent undivided interest in the Scull art collection on January 1, 1986, was $ 7,550,794. We also hold that the taxable gifts are increased by $ 5,000 and that petitioner is liable for an addition to tax for the late filing of the estate tax return under section 6651(a)(1). Based upon290 the foregoing, Decision will be entered under Rule 155. Footnotes1. The parties have stipulated to the following adjustments to the estate tax return: a $ 103,402 adjustment to items 4(c) and 4(e) of Schedule F; administration expenses have been increased from $ 225,000, as reported in item B-2 of Schedule J, to $ 563,550; debts of the decedent in items 27 and 28 of Schedule K claimed in the total amount of $ 1,150,000 were reduced to $ 60,000; debts of the decedent in item 29 of Schedule K claimed in the amount of $ 221,642 were reduced to $ 25,000; and debts of the decedent in item 38 of Schedule K claimed in the amount of $ 100,000 were reduced to zero. The parties have also agreed to the following adjustments to Schedule B: ↩Per ReturnDeterminedAdjustmentItem 3$ 40,000$ 43,600$ 3,600Item 410,0009,700(300)Item 7268,181179,334(88,847)Total Adjustment:($ 85,547)2. Thomas Epstein is also petitioner's counsel in this case. Marie Dickson is an experienced businesswoman who, from 1954 until decedent's death, managed all of the administrative duties of decedent's taxicab business and his art gallery.↩3. The nine works of art that Ethel Scull received brought hammer prices totaling $ 4,361,000. The buyers paid a buyer's commission of 10 percent on the hammer price, totaling $ 436,100. Ethel Scull also paid seller's commissions of 2 percent of the hammer prices totaling $ 87,220.↩4. Two works, Jo Baer's Untitled, 1963 and Young's #9, 1972, were not assigned lot numbers and apparently were not offered for sale.↩5. On Schedule F of the estate tax return, the estate reported the following values of the collection: Works of Art (undivided)Original Appraisal - median value Prepared by Sotheby - Parke Bernet Inc. $ 6,799,375 Additional paintings in warehouse not listedin original inventory 208,335 Less: 35% due Ethel Scull (72,917)$ 135,418 Paintings sold - not listed in originalSotheby's inventory 87,100 Less: 35% due Ethel Scull (30,485)$ 56,615 Total:$ 6,991,408 On Schedule K of the estate tax return, the estate deducted $ 2,352,997 for Ethel Scull's share of the works of art listed on the 1985 appraisal. [($ 6,799,375 - $ 2,352,997) + ($ 208,335 $ 72,917) + ($ 87,100 - $ 30,485) = $ 4,638,411]↩6. The "Court" refers to the trial court in the Sculls' divorce action.↩7. Petitioner did not choose to value the property in question on an alternate valuation date. See sec. 2032(a).↩8. Bellamy also attached a copy of his curriculum vitae, a copy of his report that was attached to the estate tax return (Form 706), and a copy of the so-called Wolf letter (see infra↩ note 10).9. Despite this Court's repeated explanations of the Tax Court Rules pertaining to expert witness reports, petitioner did not seem to understand that an expert report, to be submitted to the Court and the opposing party not later than 30 days prior to trial, constitutes that expert's direct testimony in the case. Rule 143(f). The expert is to prepare a report setting forth in detail his qualifications as an expert, his opinion, and the facts and data on which that opinion is based. An expert witness' report can be excluded altogether for failure to comply with Rule 143(f). However, it is within this Court's discretion to allow additional direct testimony with respect to a report, and we exercised that discretion in petitioner's favor in this case.↩*. Figure on estate tax return was $ 208,335.↩10. Wolf refused to appear as an expert witness at the trial. This Wolf letter was not received into evidence because it was an improper attempt to use materials of someone who was not available to testify before the Court. It was not established that Castelli or Bellamy had firsthand knowledge of the statements in the Wolf letter.↩11. Bellamy had also supported that figure.↩12. The use of the word "sale" in reference to the Brant Agreement is not intended to mean that we have determined that this agreement represents a bona fide sale. Although there are many factors indicating that the benefits and burdens of ownership did not pass to Brant, as will be discussed in the text below, we need not reach that issue.↩13. This total is the sum of $ 5,300,000 plus $ 1,013,081 (one-half the net auction proceeds in excess of $ 5,300,000) and $ 785,370 (buyer's commissions).↩14. Respondent draws a distinction between income taxation under sec. 1001 and the tax imposed on transfers of a taxable estate under sec. 2001. For income tax purposes, the gain on sales of property cannot exceed the "amount realized", which is defined as "the sum of any money received plus the fair market value of the property (other than money) received." Sec. 1001(b). Respondent asserts that this concept of realization is not applicable to the tax imposed upon transfers of a taxable estate under sec. 2001 because the estate tax is based upon the value of the property transferred, not upon the gain from a particular transaction. We agree. See also Gillespie v. United States, F.3d ↩ (2d Cir. 1994).15. Petitioner takes exception to respondent's application of an average rate of appreciation on decedent's interest in the collection. Petitioner asserts that a separate rate of appreciation (or depreciation) should be determined for each individual artist or work of art. We do not agree in this case. The evidence shows that Jasper Johns and James Rosenquist, whose six works constitute 63 percent of the auction results achieved, were experiencing stagnation or declines in the value of their works during the relevant period. Respondent thus asserts that not only is an average rate more beneficial to petitioner but that it is in keeping with the characterization of the works of art as a "collection" with its enhanced marketability as such. We agree that the use of an average rate of appreciation is appropriate in this case.↩16. Estate of Bennett v. Commissioner, T.C. Memo. 1993-34; Estate of Rodriguez v. Commissioner, T.C. Memo. 1989-13↩.17. We reiterate that these works only include Tweddle works not included on the 1985 appraisal. There were Tweddle works in the Sotheby's appraisal upon which Bellamy and Karp agree as to the fair market value.↩18. The values provided by petitioner totaled $ 196,185; however, petitioner did not provide values for items no. 39, 123, and 145. Bellamy's appraisal stated a total value of $ 208,355; therefore, respondent assumed that the difference related to those unvalued items. In addition, certain items were included in Bellamy's appraisal that had already been valued in the Sotheby's report. Thus, respondent contends that, when the values of those items ($ 39,600) are subtracted from the total, the result is $ 168,795. Bellamy states that, when duplications and mathematical errors are corrected, the correct figure is $ 151,055. We have been unable to resolve these discrepancies.↩19. The Court has satisfied itself as to the reasonableness of the $ 7,550,794 valuation figure by comparing it to the result of another approach. Using only the hammer prices of only the estate's auction sales ($ 7,853,700), discounted by 15 percent for appreciation between January 1, 1986 and November 11-12, 1986, amounts to $ 6,829,304 for the auction sales items. The $ 6,829,304 for the auction sales items plus decedent's 65-percent interest in the other categories of the art collection ($ 353,847) gives a total of $ 7,183,151 for decedent's total interest in the art collection. Reducing the figure of $ 7,183,151 by a generous 5 percent for any litigation uncertainties ($ 359,158) results in a total figure of $ 6,823,993. This is about 10 percent less than the $ 7,550,794 we have found as the fair market value of decedent's 65-percent undivided interest in the art collection. The difference is somewhat less than the buyer's commissions of $ 785,370. However, we think the buyer's commission is clearly part of the auction sales price for the art collection. Possibly no discount is warranted for the 10-1/2 month period between the date of death and the auction sale, but we have allowed 15 percent. We have serious doubt that any reduction is warranted for litigation uncertainties in this case, but we have allowed 5 percent. Moreover, under both approaches, the Court has not included the $ 150,000 that Sotheby's paid the estate for Sotheby's guaranty for Two Flags. Valuation not being an exact science and the various experts having come up with different approaches and various figures, we are satisfied that our finding of a fair market value of $ 7,550,794 is reasonable and amply supported by the record in this case.↩20. Federal estate tax returns are due to be filed within 9 months after the date of the decedent's death. Sec. 6075(a). The time for filing the estate tax return may be extended, but for not more than 6 months and for not more than a total of 15 months after the date of the decedent's death. Sec. 6081(a); sec. 20.6081-1(a), Estate Tax Regs.↩21. See also Akins v. Commissioner, T.C. Memo. 1993-256; Fambrough v. Commissioner, T.C. Memo. 1990-104↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619784/	DEAN TUCKETT AND MARIE TUCKETT, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentTuckett v. CommissionerDocket No. 18307-81.United States Tax CourtT.C. Memo 1983-575; 1983 Tax Ct. Memo LEXIS 212; 46 T.C.M. (CCH) 1413; T.C.M. (RIA) 83575; September 19, 1983. 212 Held, in these circumstances, respondent's determinations of income tax deficiencies and additions to the tax under secs. 6653(a), 6653(b) and 6654, I.R.C. 1954, sustained.Held further, on the Court's own motion, damages are awarded to the United States in the amount of $500 since this proceeding was instituted merely for delay. Sec. 6673, I.R.C. 1954. Dean Tuckett and Marie Tuckett, pro se. Ralph W. Jones, for the respondent. CANTRELMEMORANDUM FINDINGS OF FACT AND OPINION CANTREL, Special Trial Judge: This case is before the Court on respondent's Motion for Summary Judgment filed pursuant to Rule 121, Tax Court Rules of Practice and Procedure, on June 27, 1983. 1 Therein respondent seeks summary adjudication in his favor on the legal issues at bar, i.e., the determined income tax deficiencies and the additions to the tax under sections 6653(a), 2 6653(b) and 6654. 3213 Respondent, in a separate notice of deficiency issued to each petitioner on April 13, 1981, determined deficiencies in each petitioner's Federal income tax and additions to the tax for the taxable calendar years 1977 to 1979, inclusive, in the following respective amounts: DEAN TUCKETTAdditions to Tax, I.R.C. 1954YearsIncome TaxSec. 6653(b)Sec. 66541977$1,316.00$658.00$18.0019781,609.00805.0049.0019791,475.00738.0050.00MARIE TUCKETTAdditions to Tax, I.R.C. 1954YearsIncome TaxSec. 6653(a)1977$1,217.00$61.0019781,609.0080.0019791,475.0074.00The sole income adjustments determined by respondent in his deficiency notices are for wages received by petitioners in 1977, 1978 and 1979 computed as follows: DEAN TUCKETT'S NOTICEEmployer197719781979Idaho Stud Mill (Mr. Tuckett)$17,000.00 $18,873.00 $21,319.00 Me N Stans (Mrs. Tuckett)3,256,00 3,702.00 146.00 Speedee Cleaners (Mrs. Tuckett)1,415.00 TOTAL WAGES$20,256.00 $22,575.00 $22,880.00 Less: spouse's one-half share(10,128.00)(11,287.00)(11,440.00)Mr. Tuckett's one-halfcommunity share 4214 $10,128.00 $11,288.00 $11,440.00 MARIE TUCKETT'S NOTICEEmployer197719781979Idaho Stud Mill (Mr. Tuckett)$17,000.00 $18,873.00 $21,319.00 Me N Stans (Mrs. Tuckett)3,256.00 3,702.00 146.00 Speedee Cleaners (Mrs. Tuckett)1,415.00 TOTAL WAGES$20,256.00 $22,575.00 $22,880.00 Less: spouse's one-half share(10,128.00)(11,288.00)(11,440.00)Mrs. Tuckett's one-halfcommunity share10,128.00 11,287.00 11,440.00 Less: Amount reported 5(3,256.00)(3,703.00)(1,561.00)Increase to wage income$ 6,872.00 $ 7,584.00 $ 9,879.00 Petitioners timely mailed 6 and, thus, timely filed their petition on July 13, 215 1981. Therein, at paragraphs 4 and 5, they allege-- 4. The determination of tax set forth in the said notice (sic) of deficiency is based upon the following errors: A. The amount allowed by the Commissioner for lawful deductions and expenses is incorrect. B. The determination, penalties and interest constitute an attempt on the part of the Commissioner to punish Petitioners for asserting their Constitutional right against self-incrimination. 5. The facts upon which petitioners rely, as the basis of their case, are as follows: A. Petitioners had more lawful deductions and expenses than what was allowed by the Commissioner. 7* * * Respondent filed his answer on September 21, 1981, wherein at paragraphs 7.(a) through (j) he makes affirmative allegations of fact in support of his determinations for the additions to the tax under section 6653(b) against Dean Tuckett, hereinafter called petitioner. Petitioners filed no reply, the time for the filing of which expired on October 30, 1981. Respondent filed no motion under Rule 37(c), the time for the filing of which expired 216 on December 14, 1981. Hence, the affirmative allegations of fact contained in respondent's answer are deemed denied. However, the pleadings are deemed closed and respondent's motion was filed more than 30 days after the pleadings were closed. See Rules 34, 36, 37, 38, 70(a)(2) and 121. When respondent's attempts to make arrangements with petitioners for informal consultations or communications proved unsuccessful, 8 he, on April 26, 1982 served a Request for Admissions on petitioners. 9 On May 24, 1982 petitioners served their answers on respondent, filing the original thereof with the Court on May 27, 1982. Rule 90(c). Therein petitioners admitted some of respondent's requests. However, since respondent determined that many of the answers were inadequate and insufficient he filed a Motion to Review on September 30, 1982. When petitioners did not respond to that motion the Court granted it and directed petitioners to file amended answers on or before November 23, 1982. Petitioners did so. Again many of the answers were deficient and respondent filed a Motion to Impose Sanctions on December 3, 1982. The thrust of respondent's motion was to have the Court deem admitted all 217 of respondent's admissions requests except those few petitioners originally admitted. After hearing at Washington, D.C. on February 16, 1983, the Court granted respondent's motion. As a result of the foregoing, each matter contained in respondent's request for admissions is deemed admitted and conclusively established. See Rule 90(d) and (e). The following findings of fact are based upon the record as a whole, the allegations of respondent's answer admitting allegations in the petition and those matters deemed admitted and conclusively established with respect to respondent's request for admissions. FINDINGS OF FACT Petitioners legal address on the date they filed their petition was Box 165, Chester, Idaho. Petitioner filed no Federal income tax return with the Internal Revenue Service for the taxable years 1977, 1978 and 1979. While Mrs. Tuckett filed individual returns for those years reporting the wages she received she did not report thereon her community share of the wages petitioner received in those years. On or before 218 April 15, 1977 petitioners filed a joint 1976 Federal income tax return with the Internal Revenue Service on which they reported the wages they received in the aggregate amount of $16,427.00 and paid a tax due thereon of $1,870.00. 10During each of the years 1977, 1978 and 1979 petitioner was employed by Idaho Stud Mill and he was paid a salary in the respective amounts of $17,033.00, $18,872.69, and $21,318.60. 11 He filed no Federal income tax returns for those years. On April 26, 1976 petitioner filed a Form W-4 (Employee's Withholding Exemption Certificate) with his employer whereon he claimed 3 exemptions. On June 21, 1977 he filed a Form W-4E (Exemption from Withholding) with his employer claiming he was exempt from the withholding of Federal income tax. Therein, he advised, under the penalties of perjury, that he anticipated he would incur no liability for Federal income tax for 1976. On January 3, 1978 petitioner submitted a Form W-4E to his employer claiming he was exempt from the withholding 219 of Federal income tax. On March 7, 1978 he filed a Form W-4 with his employer claiming he was a merchant at law and exempt from Federal income tax withholding. On March 22, 1978, January 31, 1979 and April 30, 1980 he filed Forms W-4 with his employer claiming allowances in the respective amounts of 25, 18 and 18.12Petitioner fraudulently, and with intent to evade tax submitted false Forms W-4 and false Forms W-4E to his employer to eliminate the withholding of Federal income tax from his wages in 1977, 1978 and 1979. He fraudulently, and with intent to evade tax, failed to file Federal income tax returns for the taxable years 1977 to 1979, inclusive. Petitioner failed to report taxable community income which he received for the taxable years 1977, 1978 and 1979 in the respective amounts of $10,128.00, $11,288.00 and $11,440.00. He failed to report and pay his income tax liabilities for those years in the amounts of $1,316.00, $1,609.00 and $1,475.00, respectively. A part of the underpayment of tax which petitioner was required to show on an income tax return for the taxable years 1977, 1978 and 220 1979 is due to fraud with intent to evade tax. OPINION Rule 34(b) provides in pertinent part that the petition in a deficiency action shall contain "clear and concise assignments of each and every error which the petitioner alleges to have been committed by the Commissioner in the determination of the deficiency or liability" and "clear and concise lettered statements of the facts on which petitioner bases the assignments of error * ". It is clear to the Court that petitioners are yet others in a seemingly unending parade of tax protesters bent on glutting the docket of this Court and others with frivolous claims. It is clear beyond doubt that their petition alleges no justiciable error with respect to the Commissioner's determinations regarding wage income and the additions to the tax under sections 6653(a) and 6654 and no justiciable facts in support of any error are extant therein. 13 Since they have no valid defense to the Commissioner's determinations they use this forum as a platform to unleash a plethora of frivolous legal and constitutional contentions which have been rejected by this Court and others on innumerable occasions. We answer many of petitioners' frivolous 221 claims, as gleaned from this record, hereinbelow. While petitioners have asserted error respecting "lawful deductions and expenses", which may have impacted on the income tax deficiencies, they have alleged not a single justiciable fact in support of that allegation of error. We are not advised as to what the deductions and expenses were or the amounts thereof. It appears from this record that petitioners refuse to produce any records to respondent unless they are granted immunity. See Martindale v. Commissioner,692 F.2d 764">692 F.2d 764 (9th Cir. 1982), 14 affg. without published opinion an unreported order and decision of this Court. See also Goodrich v. Commissioner,T.C. Memo. 1983-414. 222 Therefore, petitioners' claim must be taken as wholly frivolous. The decision whether to grant immunity rests with the United States, not with the Tax Court. 18 U.S.C. Sections 6000-6005 (1976). McCoy v. Commissioner,696 F.2d 1234">696 F.2d 1234 (9th Cir. 1983), affg. 76 T.C. 1027">76 T.C. 1027 (1981); Hartman v. Commissioner,65 T.C. 542">65 T.C. 542, 547-548 (1975). To invoke the Fifth Amendment privilege, petitioners must be faced with substantial hazards of self-incrimination that are real and appreciable, and must have reasonable cause to apprehend such danger. The privilege may not itself be used as a method of evading payment of lawful taxes. Edwards v. Commissioner,680 F.2d 1268">680 F.2d 1268, 1271 (9th Cir. 1982), affg. per curiam an unreported decision of this Court; McCoy v. Commissioner,supra.15223 There is nothing in this record remotely indicating that petitioners are faced with substantial hazards of self-incrimination or that they have reasonable cause to apprehend such danger. Petitioners' First Amendment rights have not been abrogated or abridged here. See Muste v. Commissioner,35 T.C. 913">35 T.C. 913 (1961), and United States v. Lee,455 U.S. 252">455 U.S. 252, 260 (1982), revg. and remanding a District Court decision, where the United States Supreme Court, in a case concerning a claim of religious protection under the First Amendment, stated: "Because the broad public interest in maintaining a sound tax system is of such a high order, religious belief in conflict with the payment of taxes affords no basis for resisting the tax". Similarly, petitioners' Ninth Amendment rights have not been violated. Tingle v. Commissioner,73 T.C. 816">73 T.C. 816 (1980). With respect to petitioners' Fourth Amendment claim the Court in Edwards v. Commissioner,supra at 1270, said-- Appellants' fourth amendment claim is without foundation and utterly devoid of merit. Requiring taxpayers, who institute civil proceedings protesting deficiency notices, to produce records or face dismissal constitutes no 224 invasion of privacy or unlawful search or seizure". [See Martindale v. Commissioner,supra. ] Petitioners have not been wrongfully denied a jury trial. "The Seventh Amendment does not apply to suits against the United States, because there was no common law action against the sovereign. McElrath v. United States,102 U.S. 426">102 U.S. 426, 440 (1880). Thus, it has repeatedly been held that there is no constitutional right to a jury trial in the Tax Court. Phillips v. Commissioner,283 U.S. 589">283 U.S. 589, 599 n. 9 (1931); Dorl v. Commissioner,507 F.2d 406">507 F.2d 406 (2d Cir. 1974), affg. 57 T.C. 720">57 T.C. 720 (1972); McCoy v. Commissioner,696 F.2d 1234">696 F.2d 1234 (9th Cir. 1983), affg. 76 T.C. 1027">76 T.C. 1027 (1981); Lonsdale v. Commissioner,661 F.2d 71">661 F.2d 71, 72 (5th Cir. 1981), affg. a Memorandum Opinion of this Court". Rowlee v. Commissioner,80 T.C. 1111">80 T.C. 1111, 1115 (1983). While petitioners may, indeed, petition this Court as they did (sections 6212 and 6213), they had an option to seek another forum. On this very point the Court in McCoy v. Commissioner,supra at 1237, opined--"Moreover, by paying the tax and perfecting a refund suit the McCoys could have obtained a jury trial. They voluntarily chose not to do this." 16 However, since they opted 225 to file a petition with this Court, the mere filing of that petition is sufficient to deprive a U.S. District Court of jurisdiction for the years now before this Court. Further, we have no authority to remove this case to a U.S. District Court. Dorl v. Commissioner,507 F.2d 406">507 F.2d 406 (2d Cir. 1974), affg. 57 T.C. 720">57 T.C. 720 (1972). Moreover, this Court has no procedure which authorizes or permits a party to unilaterally withdraw a petition once filed. Gross income means all income from whatever source derived including (but not limited to) wages. It includes income realized in any form, whether in money, property, or services. Section 61. Income as defined under the Sixteenth Amendment is "gain derived from capital, from labor, or from both combined". Eisner v. Macomber,252 U.S. 189">252 U.S. 189, 207 (1920). Section 61 encompasses all realized accessions to wealth. Commissioner v. Glenshaw Glass Co.,348 U.S. 426">348 U.S. 426 (1955). See United States v. Buras,633 F.2d 1356">633 F.2d 1356, 1361 (9th Cir. 1980), where the Court said--"* * * 'the earnings of the human brain and hand when unaided by capital' are commonly treated as income" and "* * * the Sixteenth Amendment226 is broad enough to grant Congress the power to collect an income tax regardless of the source of the taxpayer's income". [Citations omitted.] "One's gain, ergo his 'income,' from the sale of his labor is the entire amount received therefor without any reduction for what he spends to satisfy his human needs." Reading v. Commissioner,70 T.C. 730">70 T.C. 730, 734 (1978), affd. 614 F.2d 159">614 F.2d 159 (8th Cir. 1980). "Although the wages [gross income] received by [petitioners] may represent no more than the time-value of [their] work, they are nonetheless the fruit of [their] labor, and therefore represent gain derived from labor which may be taxed as income". [Emphasis added.] See Rice v. Commissioner,T.C. Memo 1982-129">T.C. Memo 1982-129, and cases cited therein. See also Rowlee v. Commissioner,supra at 1119-1122, and cases cited therein. This Court generally (as is the case here) will not look behind a deficiency notice to examine evidence used or the propriety of the Commissioner's motives or of the administrative policy or procedures involved in making his determinations. Greenberg's Express, Inc. v. Commissioner,62 T.C. 324">62 T.C. 324, 327 (1974). The determinations made by respondent in his notices of deficiency respecting 227 the income tax deficiencies and the additions to the tax under sections 6653(a) and 6654 are presumed correct; the burden is on petitioners [not respondent] to show those determinations are wrong, and the imposition of the burden of proof is constitutional. Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Rockwell v. Commissioner,512 F.2d 882">512 F.2d 882, 887 (9th Cir. 1975); Rule 142(a). Petitioners have not even attempted to carry that burden; they have failed to allege any fact or legal theory that would tend to show that the Commissioner's determinations are incorrect. Their unsupported claim of error is not enough to withstand respondent's motion. See Knighten v. Commissioner,702 F.2d 59">702 F.2d 59 (5th Cir. 1983), affg. per curiam an unreported order and decision of this Court. We next consider the additions to the tax under section 6653(b). The burden of proof with respect to the fraud issues is upon respondent to prove, by clear and convincing evidence, that some part of the underpayment of tax was due to fraud with an intent to evade tax. Section 7454(a); Rule 142(b); Imburgia v. Commissioner,22 T.C. 1002">22 T.C. 1002 (1954). That burden can be satisfied by respondent through those facts deemed admitted and 228 conclusively established pursuant to Rule 90. 17 Here, material factual allegations in respondent's request for admissions have been deemed admitted and conclusively established. In our view, those facts, which we have set forth hereinbefore in our findings of fact, clearly and convincingly establish fraud with intent to evade tax and we rely on them in sustaining respondent's determinations under section 6653(b). Rule 121 provides that a party may move for summary judgment upon all or any part of the legal issues in controversy so long as there are no genuine issues of material fact. Rule 121(b) states that a decision shall be rendered "if the pleadings * * admissions, and any other acceptable materials, together with the affidavits, if any, show that there is no genuine issue as to any material fact and that a decision may be rendered as a matter of law". The summary judgment procedure is available even though there is a dispute under the pleadings if it is shown through materials in the record outside the pleadings that no genuine issue of material fact exists. 18229 The record here contains a complete copy of the notices of deficiency, the petition, answer, and respondent's request for admissions with attached exhibits. Respondent has amply demonstrated to our satisfaction that there is no genuine issue as to any material fact present in this record and, thus, that respondent is entitled to a decision as a matter of law. In such posture, summary judgment is a proper procedure for disposition of this case. Respondent's Motion for Summary Judgment will be granted in every respect. The final matter we consider is whether, in the circumstances here extant, we should, on our own motion, award damages to the United States under section 6673 and, if so, in what amount. 19232 We addressed the very heart of this matter in September of 1977 in Hatfield v. Commissioner,68 T.C. 895">68 T.C. 895, 899 (1977), when we stated in clear and unequivocal language: In recent times, this Court has been faced with numerous cases, such as this one, which have been commenced 230 without any legal justification but solely for the purpose of protesting the Federal tax laws. This Court has before it a large number of cases which deserve careful consideration as speedily as possible, and cases of this sort needlessly disrupt our consideration of those genuine controversies. Moreover, by filing cases of this type, the protesters add to the caseload of the Court, which has reached a record size, and such cases increase the expenses of conducting this Court and the operations of the IRS, which expenses much eventually be borne by all of us. Many citizens may dislike paying their fair share of taxes; everyone feels that he or she needs the money more than the Government. On the other hand, as Justice Oliver Wendell Holmes so eloquently stated: "Taxes are what we pay for civilized society". Compania de Tabacos v. Collector,275 U.S. 87">275 U.S. 87, 100 (1927). The greatness of our nation is in no small part due to the willingness of our citizens to honestly and fairly participate in our tax collection system which depends upon self-assessment. Any citizen may resort to the courts whenever he or she in good faith and with a colorable claim desires to challenge the Commissioner's 231 determination; but that does not mean that a citizen may resort to the courts merely to vent his or her anger and attempt symbolically to throw a wrench at the system. Access to the courts depends upon a real and actual wrong--not an imagined wrong--which is susceptible of judicial resolution. General grievances against the policies of the Government, or against the tax system as a whole, are not the types of controversies to be resolved in the courts; Congress is the appropriate body to which such matters should be referred. 20While we did not award damages in Hatfield, 79 T.C. at 900, we issued this warning--"* * * but if tax protesters continue to bring such frivolous cases, serious consideration should be given to imposing such damages". [Citations omitted.] Similar warnings were promulgated in Crowder v. Commissioner,T.C. Memo. 1978-273 and Clippinger v. Commissioner,T.C. Memo. 1978-107. Tax protest petitions continued to be filed with this Court with increased frequency and, finally, upon motion of respondent, we began awarding damages to the United States in appropriate cases. See Wilkinson v. Commissioner,71 T.C. 633">71 T.C. 633 (1979), and Greenberg v. Commissioner,73 T.C. 806">73 T.C. 806 (1980). 21234 Shortly after we issued Greenberg we, for the first time, awarded damages in a proper circumstance on our own motion. Sydnes v. Commissioner,74 T.C. 864">74 T.C. 864, 870-873 (1980), affd. 233 647 F.2d 813">647 F.2d 813 (8th Cir. 1981). 22 Petitions filed merely for delay continued to overburden this Court's docket. In recognition of this fact, on June 15, 1981, we aptly stated-- It may be appropriate to note further that this Court has been flooded with a large number of so-called tax protester cases in which thoroughly meritless issues have been raised in, at best, misguided reliance upon lofty principles. Such cases tend to disrupt the orderly conduct of serious litigation in this Court, and the issues raised therein are of the type that have been consistently decided against such protesters and their contentions often characterized as frivolous. The time has arrived when the Court should deal summarily and decisively with such cases without engaging in scholarly discussion of the issues or attempting to soothe the feelings of the petitioners by referring to the supposed "sincerity" of their wildly espoused positions. [McCoy v. Commissioner,76 T.C. 1027">76 T.C. 1027, 1029-1030 (1981), affd. 696 F.2d 1234">696 F.2d 1234 (9th Cir. 1983). Emphasis added.] This Court is not the only Court that has considered awarding damages or other costs, either on its own motion or on motion of the Commissioner, in a proper case. In a tax protester situation, where one of the frivolous issues was whether the U.S. Constitution forbids taxation of compensation received 235 for personal services, the Fifth Circuit Court of Appeals stated in late 1981-- Appellants' contentions are stale ones, long settled against them. As such they are frivolous. Bending over backwards, in indulgence of appellants' pro se status, we today forbear the sanctions of Rule 38, Fed. R. App. P. We publish this opinion as notice to future litigants that the continued advancing of these long-defunct arguments invites such sanctions, however. [Lonsdale v. Commissioner,661 F.2d 71">661 F.2d 71, 72 (5th Cir. 1981), affg. T.C. Memo 1981-122">T.C. Memo. 1981-122.]23In Knighten v. Commissioner,supra, the Court of Appeals following its warning took action. There, damages were not sought nor awarded in our Court. Damages were sought by the Commissioner and double costs were awarded in the Court of Appeals. Very recently on August 15, 1983, the Fifth Circuit has spoken again in a tax protester situation. There, deeming an appeal patently frivolous, the Court, on its own motion, awarded damages in the 236 form of double costs to the Commissioner of Internal Revenue. See Steinbrecher v. Commissioner, F.2d (5th Cir. Aug. 15, 1983). The Court of Appeals for the Ninth Circuit has, in a summary and decisive manner, awarded double costs (under Rule 38, Fed. R. App. P.) in several tax protester cases on its own motion.On July 7, 1982, in Edwards v. Commissioner,supra at 1271, the Court said-- Meritless appeals of this nature are becoming increasingly burdensome on the federal court system. We find this appeal frivolous,Fed. R. App. P. 38, and accordingly award double costs to appellee [the Commissioner of Internal Revenue]. [Citations omitted.] [Emphasis added.] Accord, McCoy v. Commissioner,supra; Barmakian v. Commissioner,698 F.2d 1228">698 F.2d 1228 (9th Cir. 1982), affg. without published opinion an unreported order and decision of this Court; Martindale v. Commissioner,supra.24It is now certain that the courts, will no longer tolerate the filing of frivolous appeals. On June 13, 1983, the Supreme Court, for the first time, invoked the provisions of its Rule 49.2, which the Court 237 adopted in 1980, and ordered an appellant to pay damages for bringing a frivolous appeal. 25 In Tatum, Elmo C. v. Regents of Nebraska-Lincoln (No. 82-6145) the Court issued the following order: "The motion of respondents for damages is granted and damages are awarded to respondents in the amount of $500.00 pursuant to Supreme Court Rule 49.2". 26 The direction of this nation's highest Court appears crystal clear--that no Court should abide frivolous appeals, not only in discrimination suits but in any other area of litigation, including Federal income taxation. Here, petitioners have instituted this proceeding and have asserted as their defense to the Commissioner's determinations nothing but frivolous contentions. Petitioners with genuine controversies have been delayed while we considered this 238 case.In these circumstances, petitioners cannot and have not shown that they, in good faith, have a colorable claim to challenge the Commissioner's determinations. Indeed, they knew when they filed their petition that they had no reasonable expectation of receiving a favorable decision. There has been no change in the legal climate and in view of the extensive and long well settled case precedents, no reasonably prudent person could have expected this Court to reverse itself in this situation. 27 "When the costs incurred by this Court and respondent are taken into consideration, the maximum damages authorized by the statute ($500) do not begin to indemnify the United States for the expenses which petitioner's frivolous action has occasioned. Considering the waste of limited judicial and administrative resources caused by petitioner's action, even the 239 maximum damages authorized by Congress are wholly inadequate to compensate the United States and its other taxpayers. These costs must eventually be borne by all of the citizens who honestly and fairly participate in our tax collection system. * ". Sydnes v. Commissioner,supra at 872-873. Since we conclude that this case was brought merely for delay, the maximum damages authorized by law ($500) are appropriate and will be awarded pursuant to section 6673. 28 To reflect the foregoing An appropriate order and decision will be entered.Footnotes1. All rule references are to the Tax Court Rules of Practice and Procedure. ↩2. All section references are to the Internal Revenue Code of 1954, as amended. ↩3. This case was assigned pursuant to sec. 7456(c) and (d), Internal Revenue Code of 1954, as amended and Delegation Order No. 8 of this Court, 81 T.C. VII (1983). Since this is a pre-trial motion and there is no genuine issue of material fact, the Court has concluded that the post-trial procedures of Rule 182 are not applicable in these particular circumstances. This conclusion is based on the authority of the "otherwise provided" language of that rule.4. During the years before the Court and on the date their petition was filed petitioners were residents of the State of Idaho, a community property State. In accordance with the community property laws of Idaho respondent, in each deficiency notice, has attributed one-half of the marital income to each spouse.5. Mrs. Tuckett, who was a waitress in 1977, 1978 and 1979, filed Individual Federal Income Tax Returns with the Internal Revenue Service for those years whereon she reported the wage income she received from her employers. Copies of those returns and the Forms W-2 (Wage and Tax Statements) reflecting the wages received are in this record.↩6. See sec. 7502. ↩7. The language quoted above from the petition is the sum and substance of petitioners' case.↩8. See Odend'hal v. Commissioner,75 T.C. 400">75 T.C. 400↩ (1980); Rule 90(a). 9. The original of that request was filed with the Court on April 29, 1982. Rule 90(b).↩10. A copy of the 1976 return and the Forms W-2 reflecting the receipt of said wages, are in this record.↩11. Copies for the Forms W-2 reflecting payment of said wages are in this record.↩12. Copies of the Forms W-4 and W-4E, duly signed by petitioner, are in this record.↩13. In such circumstance, Rule 34(b)(4) states, in part--"Any issue not raised in the assignment of errors shall be deemed to be conceded". See Jarvis v. Commissioner,78 T.C. 646">78 T.C. 646, 658 (1982). Moreover, we said in Gordon v. Commissioner,73 T.C. 736">73 T.C. 736, 739↩ (1980)--" * * Any issue, including addition to tax for fraud under section 6653(b), not raised in the assignment of errors is deemed conceded by the petitioner. Rule 34(b)(4)". Notwithstanding, here, we rely on those matters deemed admitted in sustaining all of respondent's determinations.14. We observe that venue on appeal of this case lies in the United States Court of Appeals for the Ninth Circuit.↩15. See also, Martindale v. Commissioner,692 F.2d 764">692 F.2d 764 (9th Cir. 1982), affg. without published opinion an unreported order and decision of this Court; United States v. Carlson,617 F.2d 518">617 F.2d 518, 523 (9th Cir. 1980), cert. denied 449 U.S. 1010">449 U.S. 1010 (1980); and United States v. Neff,615 F.2d 1235">615 F.2d 1235, 1238 (9th Cir. 1980), cert. denied 447 U.S. 925">447 U.S. 925↩ (1980).16. See Drake v. Commissioner,554 F.2d 736">554 F.2d 736, 739↩ (5th Cir. 1977).17. See Miller v. Commissioner,T.C. Memo. 1983-476, and Hindman v. Commissioner,T.C. Memo. 1983-389↩.18. Such outside materials may consist of affidavits, interrogatories, admissions, documents or other materials which demonstrate the absence of such an issue of fact despite the pleadings. See Note to Rule 121(a), 60 T.C. 1127">60 T.C. 1127↩.19. Sec. 6673 provides-- "Whenever it appears to the Tax Court that proceedings before it have been instituted by the taxpayer merely for delay, damages in an amount not in excess of $500 shall be awarded to the United States by the Tax Court in its decision. Damages so awarded shall be assessed at the same time as the deficiency and shall be paid upon notice and demand from the Secretary and shall be collected as a part of the tax". We observe that in proceedings commenced after December 31, 1982 this Court is permitted to impose damages up to $5,000 where those proceedings have been instituted or maintained by the taxpayer primarily for delay or where taxpayer's position in such proceeding is frivolous or groundless. See secs. 292(b) and (e)(2), Tax Equity and Fiscal Responsibility Act of 1982, Pub. L. 97-248, 96 Stat. 574. 20. The language in the first paragraph quoted from Hatfield↩ above, so true when stated, is all the more impelling today because of the ever increasing caseload of this Court.21. See also Lynch v. Commissioner,T.C. Memo. 1983-428; Goodrich v. Commissioner,T.C. Memo 1983-414">T.C. Memo. 1983-414; Cornell v. Commissioner,T.C. Memo 1983-370">T.C. Memo. 1983-370; Stamper v. Commissioner,T.C. Memo. 1983-248; Sommer v. Commissioner,T.C. Memo 1983-196">T.C. Memo. 1983-196, on appeal (7th Cir. July 12, 1983); Jacobs v. Commissioner,T.C. Memo 1982-198">T.C. Memo. 1982-198; Senesi v. Commissioner,T.C. Memo. 1981-723, affd. 709 F.2d 1507">709 F.2d 1507 (6th Cir. 1983); Swann v. Commissioner,T.C. Memo. 1981-236↩, dismissed (9th Cir. 1982). We note that the predecessor of the statute we now consider, which in essence, contained virtually identical language, was enacted by Congress in 1926. 22. See also Jacobs v. Commissioner,T.C. Memo. 1983-490; Miller v. Commissioner,supra;Perkins v. Commissioner,T.C. Memo. 1983-474; Burton v. Commissioner,T.C. Memo. 1983-455; Vickers v. Commissioner,T.C. Memo 1983-429">T.C. Memo. 1983-429; Mele v. Commissioner,T.C. Memo. 1983-387; Ballard v. Commissioner,T.C. Memo 1982-56">T.C. Memo. 1982-56; and Graves v. Commissioner,T.C. Memo 1981-154">T.C. Memo. 1981-154, affd. without published opinion 698 F.2d 1219">698 F.2d 1219↩ (6th Cir. 1982), where damages were awarded on our own motion.23. Rule 38, Federal Rules of Appellate Procedure, provides-- DAMAGES FOR DELAY. If a court of appeals shall determine that an appeal is frivolous, it may award just damages and single or double costs to appellee.↩24. In none of the four cases decided by the Ninth Circuit were damages sought or awarded in this Court.↩25. Rule 49.2 of the Supreme Court's rules provides-- "When an appeal or petition for writ of certiorari is frivolous, the Court may award the appellee or the respondent appropriate damages". ↩26. In that case Mr. Tatum had brought a series of civil right suits against the University of Nebraska charging that the University had discriminated against him by failing to provide adequate housing.↩27. "* * * [A] person's intent in performing an act includes not only his motive for acting (which may be defined as the objective which inspires the act), but also extends to include the consequences which he believes or has reason to believe are substantially certain to follow". Greenberg v. Commissioner,73 T.C. 806">73 T.C. 806, 814↩ (1980).28. The Court has considered petitioners' "Notice and Demand", filed on August 12, 1983, and find it to be meritless.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619789/	H. D. SHELDEN, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. ALLAN SHELDEN, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. ALGER SHELDEN, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. HENRY SHELDEN, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. ANNETTE S. STACKPOLE, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. ALLAN SHELDEN, ALGER SHELDEN AND HENRY SHELDEN, TRUSTEES, ROBINSON TRUST, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Shelden v. CommissionerDocket Nos. 33067, 41823-41828.United States Board of Tax Appeals25 B.T.A. 5; 1931 BTA LEXIS 1515; December 30, 1931, Promulgated 1515 1. The petitioner, H. D. Shelden, made a valid gift to his children of a real estate subdivision business on or prior to November 3, 1920. The basis for computing gain or loss to the donees from sale of the property and from certain installment contracts is the fair market price or value at the date of the gift. 2. A donor of installment contracts receivable realizes no taxable income at the effective date of the gift or in the years when the donees collect the installment payments. 3. A donee of installment contracts receivable is not taxable on the profit computed for the donor when installment payments are collected under the contracts. 4. Fair market price or value at November 3, 1920, of certain real estate subdivisions determined. Ferris D. Stone, Esq., Maxwell E. Fead, Esq., G. Bowdoin Craighill, Esq., and Caesar L. Aiello, Esq., for the petitioners. L. A. Luce, Esq., and F. L. Van Haaften, Esq., for the respondent. LANSDON 5 The respondent has asserted deficiencies for the years and in the amounts shown below: PetitionerDocket No.YearDeficiencyH. D. Shelden330671920$7,169.6219216,856.89Do41823192250,276.0419237,194.1319241,175.00Allan Shelden4182419237,472.75192431,661.23192566,523.5319263,036.85Alger Shelden418251923$2,183.4319246,493.01192519,742.8519262,619.69Henry Shelden4182619232,228.8119246,529.94192519,859.2619263,148.36Robinson Trust4182719242,752.35192514,000.3919263,193.58Annette S. Stackpole4182819231,586.66Total265,704.371516 6 The deficiencies arise largely from the respondent's determination that an alleged gift of property by H. D. Shelden to his children was not effective until May 31, 1923, and that, thereafter, the donees are taxable on the basis of cost to the donor. The petitioners contend that the gift was effective prior to December 31, 1920, and that the fair market price or value at the effective date is the correct basis on which to tax the donees. By amendment to his answer the respondent alleges (1) that if the Board should find there was a gift by H. D. Shelden to his children in 1920, and that the fair market value of the gift exceeded cost to the donor, then the difference between cost and the fair market value constitutes taxable income to the petitioner, H. D. Shelden, for the year 1920; (2) that if the Board should find there was a gift in 1920, by H. D. Shelden to his children, of certain installment contracts receivable, then all of the unreported profit from the sale of lots under such contracts is realized at the effective date of the gift and is taxable to H. D. Shelden in 1920; (3) that if any title passed to the children by the instrument of August 3, 1920, it was1517 by purchase rather than by gift and cost to the purchasers is the correct basis for computing gain or loss upon sale of the property; and (4) that if the Board should find in Docket No. 41827 that the Robinson Trust acquired its interest from Annette S. Stackpole and the property is entitled to the same basis for computing gain or loss as it would have had in her hands, and that the children acquired their respective interests in the property by purchase from H. D. Shelden, then the Board should find that the basis for gain or loss to the Robinson Trust is cost to the predecessor owner. The respondent moves that the deficiencies be increased accordingly. The petitioners were permitted to amend their petitions to allege that, if the Board finds the effective date of the gift to have been May 31, 1923, then the respondent erred in using a gross rate of profit of 64.96 per cent instead of 59.49 per cent. It is also alleged that "The Commissioner further made numerous and divers other errors in taking figures from taxpayers' books." 7 FINDINGS OF FACT. The petitioner, H. D. Shelden, is the father of the petitioners, Allan, Alger and Henry Shelden and Annette S. Stackpole, 1518 who was Annette A. Shelden before her marriage. The petitioners in Docket No. 41827, are the trustees of Robinson Trust. All of the petitioners reside in or near Detroit, Mich.For many years prior to 1919 the petitioner, H. D. Shelden, had not been actively engaged in business. At the beginning of 1919, when his sons were mustered out of military service, he realized that he should have a business into which they might be introduced and given business training. At that time Allan was 28 years of age, Alger 22, and Henry 21. Allan suggested the real estate subdivision business, and, after investigating and considering the opportunities, H. D. Shelden determined to purchase a tract of land on Grand River Avenue, which was suitable for a subdivision. Accordingly, on June 18, 1919, he entered into a contract with the Grand River Avenue Development Company for the purchase of approximately 238 acres of land situated about 10 miles from the business center of Detroit, and at that time about three and one-half miles outside the city limits. The material portions of the contract are as follows: The said VENDEE agrees to buy the above described premises from, and to pay to the1519 said VENDOR therefor, the sum of Four Hundred Forty-Three Thousand, Eight Hundred Forty-Seven and 60/100 ($443,847.60) Dollars, as follows: One Hundred Thousand ($100,000) Dollars, which has already been paid (the receipt thereof is hereby acknowledged); and a further sum of One Hundred Thousand ($100,000) Dollars to be paid on or before one year from the date of this contract, but not before January first, 1920; the balance then remaining unpaid under this contract to be paid in one or more installments of not less than $2,500 each on or before five years from the date of this contract; all sums at any time unpaid and not past due to bear interest at the rate of six per cent (6%) per annum, payable annually; all sums not paid when due to bear interest at the rate of seven per cent (7%) per annum until paid. * * * IT IS FURTHER AGREED that the VENDEE shall have possession of said land upon the execution of this contract and shall be entitled to retain possession thereof so long as there is no default on his part in carrying out the terms of this contract. * * * It is FURTHER AGREED that the VENDEE shall not sell, assign or transfer this contract or any interest therein without1520 the consent of said VENDOR being first endorsed in writing thereon, and on the duplicate original hereof held by the said VENDOR. * * During July, 1919, H. D. Shelden acquired two small tracts of land containing approximately 1 1/2 acres, adjoining the 238 acres already purchased, at a total cost of $16,837.90. A short time prior 8 thereto Shelden had purchased a 6-foot strip of land, needed to block out the contemplated subdivision, for $420.90. Part of the 238-acre tract already had been platted as Grandmont Subdivision No. 1 when it was acquired by Shelden, but on July 25, 1919, such plat was vacated by the Circuit Court of Wayne County, Michigan. On September 18, 1919, Shelden platted a portion of the property as Rosedale Park Subdivision No. 2, and on January 2, 1920, he platted the remainder, except a small tract comprising approximately 10 acres, as Rosedale Park Subdivision No. 3. The combined properties were thus divided into 1,041 lots. Clemons, Knight, Menard & Company, which firm had previously developed a very successful subdivision as Rosedale Park No. 1, agreed to act as selling agents for Shelden on a commission of 15 per cent of the sales price. 1521 One-half of the down payment went to the salesman who sold the lot. The remainder of the 15 per cent commission was paid from the monthly payments, one-half of which went to Clemons, Knight, Menard & Company until the full amount had been received. Sale of the lots started immediately under contracts providing for a down payment of 10 per cent, with monthly payments thereafter of 1 per cent, the balance to draw interest at 6 per cent per annum. The monthly payments were first applied against accrued interest and the balance applied to reduce the principal. A 5 per cent discount was allowed on sales for cash. The vendor agreed to construct sidewalks, pave certain streets, plant shade trees, install a street-lighting system, a water system and a sewage system. The cost of all such improvements installed up to July 31, 1920, was $177,768.10. The uninstalled improvements were estimated to cost $474,138.22. By July 31, 1920, Rosedale Park Subdivisions Nos. 2 and 3 were approximately 60 per cent sold. The land contracts receivable, at July 31, 1920, had a balance due thereon of $1,556,233.12. The total price at which the unsold lots were offered for sale was $1,333,919. 1522 Prior to October 1, 1919, and pursuant to a provision of the contract dated June 18, 1919, with the Grand River Avenue Development Company, that the contract could not be assigned without the consent of the vendor, H. D. Shelden sought permission of the vendor to assign his interest in the contract to his children. On October 1, 1919, the following document was executed and delivered to H. D. Shelden by the Grand River Avenue Development Company: WHEREAS, GRAND RIVER AVENUE DEVELOPMENT COMPANY, a corporation organized and existing under and by virtue of the laws of the State of Michigan, heretofore made and entered into a certain land contract with HENRY D. SHELDEN, of the Village of Grosse Pointe Shores, Wayne County, Michigan, 9 bearing date the 18th day of June, A.D., 1919, for the sale to said Henry D. Shelden of the premises therein described; and WHEREAS, the said Henry D. Shelden may desire to assign his interest under said land contract, or some portion or portions thereof, to his sons Allan Shelden, Alger Shelden and Henry Shelden and to Henry D. Shelden, Trustee for his daughter Annette A. Shelden, or some of them, from time to time hereafter; and WHEREAS, 1523 said Grand River Avenue Development Company, a corporation as aforesaid, is willing that such assignment or assignments be made by the said Henry D. Shelden from time to time. Now, THEREFORE, said Grand River Avenue Development Company, a corporation as aforesaid, in consideration of the undertakings to be entered into by the assignees, and without in any way releasing the said Henry D. Shelden from his obligation to perform and carry out said land contract on the part of the vendee, does hereby consent to any and all such assignments. DATED: Detroit, Michigan, October 1st, A.D., 1919. GRAND RIVER AVENUE DEVELOPMENT COMPANY, By EDWARD A. LOVELEY, Vice-President,and HERBERT L. BERDAN, Assistant Secretary.On August 3, 1920, H. D. Shelden executed four instruments, each of which reads in part as follows: In consideration of the sum of One ($1.00) Dollar and love and affection, I do hereby grant, sell and convey to my son Allan Shelden all my right, claim and interest in and to the annexed Land Contract bearing date the 18th day of June, A.D. 1919, made by and between Grand River Avenue Development Company, a corporation organized and existing under and by virtue1524 of the premises therein described, with all benefits to be derived therefrom, so far as the same relates to Lots Numbered: * * * subject, however, to any and all land contracts heretofore made by me for the sale of any of said lots and said Allan Shelden in consideration of the premises, hereby assumes and agrees to perform and carry out all parts of said annexed Land Contract (not already performed) therein provided to be performed by the party of the second part thereto so far as the same relates to the above described premises. This assignment and gift, however, is made without releasing the undersigned H. D. Shelden from any of the liabilities or obligations imposed upon him by the terms of the said land contract referred to. Dated at Detroit, Michigan, this 3rd day of August, A.D. 1920. In Presence of: H. E. HEES. O. E. HERNSON. HENRY D. SHELDEN. An instrument in the above form was executed by H. D. Shelden and delivered to each of his three sons and to himself, as trustee for his daughter, Annette. From time to time thereafter and prior to December 31, 1920, H. D. Shelden executed assignments of his interest as vendor in contracts covering lots sold, attached1525 them to the specific contract to be assigned, and delivered the assignment and contract to the donee child. The form of such assignment follows: 10 DETROIT, MICH., Nov. 12, 1919.I hereby sell, assign and transfer to Allan Shelden, all my right, title and interest in and to the within contract, executed by me as vendor and John Duncan and Harriet Duncan, his wife, as vendee. HENRY D. SHELDEN. Witness: E. J. MOEDE. I, the undersigned, do hereby accept the foregoing assignment and in consideration thereof do agree to fully perform all obligations imposed upon the vendor thereby. ALLAN SHELDEN. Witness: E. J. MOEDE. When a purchaser came to the office to make his payment, after the vendor's interest in the contract had been assigned, his copy of the contract was stamped with a rubber stamp bearing the name of the assignee child. For example, such a contract would then read: "Payment on the within contract must be made to Allan Shelden, assignee of Henry D. Shelden." At the same time there was stamped, at the top of the ledger sheet covering the lots so assigned, the name of the assignee child to whom the assignment ran. In the lot book the name1526 of the assignee child was stamped opposite the particular lot assigned to him. From the date of each assignment, payments were receipted for in the name of the assignee child and the payment was credited on the books of the enterprise to that child. New contract forms were printed and used for all lots sold after August 3, 1920, in which the donee child was named as vendor. When the Rosedale Park Subdivision was begun, H. D. Shelden opened an account with the Guaranty Trust Company of New York, Fifth Avenue Branch, titled "H. D. Shelden, Personal," to distinguish the account for the subdivision from his personal account, which was titled "H. D. Shelden." On November 3, 1920, the "H. D. Shelden, Personal" account was closed and the balance transferred to a new account titled "H. D. Shelden's Sons." The signature cards for such account disclose that Allan, Alger and Henry Shelden and H. T. Beadle were authorized to sign checks. After November 3, 1920, H. D. Shelden was not authorized to sign checks on the H. D. Shelden's Sons account. On November 3, 1920, H. D. Shelden executed and delivered to his children an instrument which reads in part as follows: THIS INDENTURE AND FAMILY1527 ARRANGEMENT between Henry D. Shelden, of the Village of Grosse Pointe Shores, Wayne CountyMichigan, party of the first part, and ALLAN SHELDEN, ALGER SHELDEN, HENRY SHELDEN, and ANNETTE A. SHELDEN, all of the same place, parties of the second part, his children, 11 WITNESSETH WHEREAS, the said party of the first part has had in contemplation for sometime past a gift of some active business enterprise to his said children, with which he might gradually introduce them and which they should then receive and take over as their own upon their own responsibility for its ultimate success or failure, and for such purpose first associated them with him in the management and development of those certain pieces or parcels of land commonly known as (description of property follows) * * and WHEREAS, the said parties of the second part have acquainted themselves with said property and the various plans, agreements, parties, rights and matters appertaining thereto, and have become ready and willing to take over the opportunities which it affords; and various methods of taking over and managing said business having been considered experimentally; and a final plan, as hereinafter mentioned, 1528 having been finally adopted, Now THEREFORE, in consideration of the premises and of the natural love and affection which the said party of the first has unto the said parties of the second part, and for their better support, maintenance, and improvement in commercial affairs, the said party of the first part hereby gives, grants, conveys and assigns, unto the said parties of the second part, their heirs and assigns, FOREVER, in the proportions, and according to the details as shown by memoranda and set of books opened for the proper recording of all transactions connected with said enterprise, all his right, title, equity and interest in and to all those certain lots, pieces or parcels of land enumerated as aforesaid and which he has at the date hereof under and by virtue of a certain Agreement bearing date the Eighteenth day of June, 1919, between Grand River Avenue Development Company, a corporation organized and existing under and by virtue of the laws of the State of Michigan, therein referred to as vendor and Henry D. Shelden, therein referred to as vendee, together with all his rights and interests thereunder and all his equities incident to and derivable from his performance1529 thereof down to the execution and delivery of this Indenture; - and also by virtue of two certain Warranty Deeds, one bearing date the Sixteenth day of July, 1919, from Joseph F. Burger and Gertrude Burger, his wife, to Henry D. Shelden, recorded in Liber 1326 of Deeds at Page 257, and the other bearing date the Eighteenth day of July, 1919, from Daniel W. Bradley and Sarah Bradley, his wife, to Henry D. Shelden, recorded in Liber 1326 of Deeds at Page 255, and also by virtue of a Warranty Deed from Allan Shelden and Elizabeth Warren Shelden, his wife, to Henry D. Shelden dated June 17th, 1920, conveying the Easterly six (6) feet in width of the East half of the North half of the Northwest quarter Section Fourteen (14). Town One (1) South, Range Ten (10) East. TO HAVE AND TO HOLD the said premises as of a true and perfect gift from a father to his children, unto the said parties of the second part, as in said records expressed and itemized, and to their respective heirs and assigns, FOREVER. And the said parties of the second part do hereby accept the gift of the property herein mentioned and described and take over the same as their own according to the records aforesaid. 1530 IN WITNESS WHEREOF, we have hereunto set our hands and seals this third day of November, 1920. HENRY D. SHELDEN. ALLAN SHELDEN. ALGER SHELDEN. HENRY SHELDEN. ANNETTE A. SHELDEN. 12 MEMORANDA Supplementing Indenture and Family Arrangement made this day between HENRY D. SHELDEN and his four children, ALLAN SHELDEN, ALGER SHELDEN, HENRY SHELDEN and ANNETTE A. SHELDEN, we, the said four children, hereby agree to hold and manage in common all the property covered by said Indenture and Arrangement and all additions thereto and proceeds thereof as follows: 1. Said property, additions and proceeds shall be owned, held, and managed in the same undivided proportions in which said property has been received from Henry D. Shelden, i.e., Allan Shelden, one-half (1/2), Annette A. Shelden, one-sixth (1/6), Alger Shelden, one-sixth (1/6), Henry Shelden, one-sixth (1/6), provided that any of said children may at any time withdraw his or her proportion. * * * On July 5, 1923, H. D. Shelden and his wife, Caroline A. Shelden, executed a quit-claim deed of their interest in Rosedale Park Subdivisions Nos. 2 and 3, to Allan, Alger, Henry and Annette A. Shelden. Such1531 deed was recorded in the Register's Office of Wayne County, Michigan, on July 12, 1923. Sometime after January 27, 1922, a warranty deed was executed, under date of November 3, 1920, covering the small parcels of land known as the Bradley and Burger tracts and delivered to Allan, Alger, Henry and Annette A. Shelden. The deed was filed for record on July 17, 1923. Both of the above instruments, together with others not material here, were executed and recorded in connection with the transfer of title to the property acquired from the Grand River Avenue Development Company on which final payment had been made. Such instruments were necessary in clearing the record title so that a deed from that company could be executed and delivered directly to the children. None of the instruments executed and delivered by Shelden in 1920 were filed for record. By deed executed December 31, 1923, Annette A. Shelden conveyed her one-sixth interest in the Rosedale Park property to Allan, Alger and Henry Shelden, who contemporaneously therewith executed a declaration of trust, to be known as the Robinson Trust, whereby they agreed to hold such property for the benefit of certain designated persons, 1532 paying to them "such income as we deem advisable for their best interests." On their income-tax returns for 1920 and subsequent years the petitioners treated the income from the Rosedale property as belonging to the children of H. D. Shelden after November 3, 1920. Profit from sales of the property was returned on the installment basis, computing profit after November 3, 1920, on the alleged fair market value at that date. The respondent has determined that the gift was not effective until May 31, 1923, and has included as income of H. D. Shelden all 13 of the profits received up to May 31, 1923, when the final deeds were executed. Thereafter, profit was taxed to the donees on the basis of cost to the donor. The installment basis has been used in computing profit from sales of the Rosedale property as to all of the petitioners and for all of the taxable years. The fair market price or value of H. D. Shelden's interest in Rosedale Park Subdivisions Nos. 2 and 3, consisting of unsold lots and land contracts covering lots sold, was $1,000,000 when transferred by the donor. The fair market value at that date of the unsubdivided 10-acre tract was at least $13,000. 1533 OPINION. LANSDON: Section 202(a)(2) of the Revenue Act of 1921 provides that gain or loss from the sale or other disposition of property acquired by gift after December 31, 1920, shall be computed upon the same basis which the property would have had in the hands of the donor or the past preceding owner by whom it was not acquired by gift. If the petitioners' contention that H. D. Shelden made a valid gift of the Rosedale Park property to his children on or before November 3, 1920, is correct, the basis for computing gain or loss upon sale of the property is the fair market price or value at the date acquired by the donees. Art. 1562, Regulations 45. The respondent contends, however, that no valid gift was made prior to May 31, 1923, when deeds to the property were executed, delivered and recorded. The principal elements of a gift are: (1) An intention on the part of the donor to absolutely and irrevocably divest himself of the title, dominion and control of the subject at the very time he undertakes to make the gift; (2) the irrevocable transfer of the present title, dominion and control of the thing given by the donor; and (3) the delivery, by the donor to the donee, of1534 the subject of the gift or of the most effectual means of commanding the dominion of it. . We have found, in the instant case, that on October 1, 1919, H. D. Shelden secured consent of the Grand River Avenue Development Company to assign his interest in the land contract of June 18, 1919. On August 3, 1920, he executed and delivered an assignment to each of his four children covering a portion of his interest in the land contract with the Grand River Avenue Company. The four assignments together covered his entire interest under such contract. Thereafter, and prior to December 31, 1920, he executed assignments of his interest as vendor in contracts covering lots sold, attached them to the particular contract and delivered it to the donee child. The purchaser's contract 14 was then stamped to show the assignment and the lot book, ledger sheet, etc., were stamped with the name of the donee child. On November 3, 1920, Shelden executed and delivered to his children an instrument referred to in the record as the family agreement, in which he conveyed his interest in the Grand River Avenue contract, the1535 Bradley and Burger tracts and the 6-foot strip. On that date he also transferred the bank account for the enterprise to his children. It is well settled in Michigan that a vendor's interest under a land contract is personal property, a mere chose in action, while the interest of the vendee is real property. ; ; ; . The claim of the vendor is an ordinary money debt, secured by the contract, and while he holds the legal title, the vendee is the owner in equity. ; . In Michigan a valid gift of a chose in action, evidenced by an instrument in writing, may be made by a manual delivery of the instrument itself without any further writing, or by the delivery of a written assignment of the chose in action. ; ; and ; 1536 . All that was necessary to constitute a valid transfer of Shelden's interest as vendor in contracts covering lots sold was an expression by him to that effect, accompanied by a delivery of the thing to the donee. As to the portions of Rosedale Park subdivisions which had not been sold under contract, we must determine whether the assignments of August 3, 1920, transferred the vendee's interest under the contract with the Grand River Avenue Development Company. A vendee under a land contract may transfer his equitable interest in the land by the delivery of an instrument of assignment. Such assignment would, of course, be subject to all the defenses which the vendor might make against the assignor. ; ; ; ; and The assignments of August 3, 1920, and the numerous assignments of particular lot contracts effectively transferred to the children all of Shelden's interest in the subdivision property, except the 10 acres which had not been platted, and that1537 portion of the 6-foot strip and the Bradley and Burger tracts which remained unsold. The instrument of November 3, 1920, was a blanket conveyance to the children of every interest in the property which H. D. Shelden had, including the properties covered in the previous instruments. On November 3, 1920, Shelden also changed the New York bank account so that he 15 could no longer check against the funds belonging to the subdivisions. On November 3, 1920, Shelden had irrevocably divested himself of all title, dominion and control of the subdivision property, with the expressed intention of making a gift thereof to his children and he had made delivery of the subject to the donees. We think the gift was complete on November 3, 1920. Cf. ; ; and ; . The respondent objects to the validity of the instruments of August and November, 1920, because they were not recorded and were not entitled to record. He argues that Shelden did not divest himself of all dominion and control over the property1538 as long as he could have conveyed it to an innocent purchaser for value, who would have taken good title upon recording his deed. Section 11770 of the Compiled Laws of Michigan (1915) provides: Section 1. The People of the State of Michigan enact, That contracts for the sale of land or any interest therein, shall be executed in the presence of two witnesses, who shall subscribe their names thereto as such, and the vendor named in such contract, and executing the same may acknowledge the execution thereof, before any judge, or commissioner of a court of record, or before any notary public or justice of the peace within this state; and the officer taking such acknowledgment shall endorse thereon a certificate of the acknowledgment thereof, and the date of making the same under his hand. Section 11773 provides that any contract executed and acknowledged according to the above provisions shall be entitled to be recorded in the office of the register of deeds of the county where the lands lie. The assignments of August 3, 1920, were subscribed by two witnesses, but were not acknowledged. The sticker assignments which were attached to the specific lot contract to be assigned were1539 subscribed by one witness, but were not acknowledged. The family arrangement of November 3, 1920, was neither witnessed nor acknowledged. Title to real estate, however, may be transferred in Michigan by instruments which are neither witnessed nor acknowledged. In ; , the court stated: Deeds of real estate, to be entitled to record, must be acknowledged, but an acknowledgment is not a part of the conveyance, ; Livingston v. Jones, Har. 165. Title to real estate may be transferred by conveyances not acknowledged. . Deeds in order to be recorded should be witnessed, but a deed not witnessed is good between the parties. ; ; ; ; 1540 ; ; . 16 Cf. ; ; ; . An unrecorded land contract is not unusual and is not particularly significant in the instant proceeding. In many cases the record of title would be unnecessarily complicated by the recording of contracts, assignments and subcontracts where the relation of the parties insures safety and inspires confidence. We have found that the deeds executed and delivered in 1923 by Shelden and his wife to their children were part of a plan whereby a deed to the Rosedale property would be delivered by the Grand River Avenue Development Company directly to the children, without having the record title pass through H. D. Shelden and wife. At some time in the near future the petitioners knew that they would be required to furnish abstracts of title for each of the 1,041 lots which had been or would be sold. The record would be greatly shortened by not recording the contracts1541 of sale, assignment, etc. When the balance of the purchase price was paid to the Grand River Company, they could then record the single deed from that company to the children which would give them a clear record title. The quitclaim deed from Shelden and his wife to the children eliminates any possibility of a cloud on the title in them. The respondent alleges that if any transfer was effected by the instruments of August 3, 1920, it was by purchase and not by gift. He contends that the following language in each of the four instruments recites a valuable consideration which is sufficient to support a sale: * * In consideration of One Dollar ($1.00) and love and affection, I do hereby grant, sell and convey to * * * all my right, claim and interest in and to the annexed Land Contract bearing date the 16th day of June A.D. 1919 * * * * * * And said [child's name], in consideration of the premises, hereby assumes and agrees to perform and carry out all parts of said annexed Land Contract (not already performed) therein provided to be performed by the party of the second part thereto so far as the same relates to the above described premises. * * * We are not impressed1542 with the respondent's argument. Reading the instrument as a whole, it is clear that a gift was intended by H. D. Shelden of his equity in the contract with the Grand River Avenue Development Company. That the donees in the instant case agreed to pay the balance of the purchase price does not change the character of the transfer from that of gift to that of purchase. Certainly one may make a gift of whatever interest he may have in property. And neither does the recital of "One Dollar ($1.00) and love and affection" determine whether the transfer was by gift or 17 by purchase. See ; ; . The respondent alleges that if the Board should find there was a gift by H. D. Shelden to his children in 1920, and that the fair market value of the gift exceeded cost to the donor, then the difference between cost and the fair market value constitutes income to the petitioner, H. D. Shelden, for that year. He also alleges that if the Board should find there was a gift in 1920 of certain installment contracts receivable, then all of the unreported profit1543 from the sale of lots under such contracts was realized at the effective date of the gift and is taxable to H. D. Shelden for 1920. Similar questions have been raised before this Board in ; ; and . In the Huntington case, we considered at length the questions whether there was a realization of taxable income by a donor at the time he effected a gift of installment obligations, and whether a tax could be imposed upon the donor in years subsequent to the gift when the donees collected payments under the contract. We held that the donors were not taxable in 1922 and 1923 upon the profit contained in installments collected in those years by the donees. There the gift occurred in 1921, and while that year was not before the Board, we stated, after discussing the controlling statutes, "that petitioners [the donors] were not in receipt of income when they received the notes in question and when they gave them to their children." In the Milan case we held that a donor of an installment contract receivable realized no taxable income upon1544 a gift to his wife and children of the installment obligation. In the Meagher case we stated: * * * In the present case petitioner has disposed of his deferred payment obligations in an exchange which, under the specific provision of the taxing statute, can not be considered as effecting a realization of a taxable gain. The situation here presented resembles more closely those cases in which certain deferred payment obligations under sales made upon the installment basis were by the owner disposed of by gift, and in which we held that, having disposed of such obligations and the collection thereof being by the donee and being his property when collected, the donor could not be considered as in receipt of income in respect thereof, either in the year in which the gift was made or when such installments were collected by the donee. ; ; . We can but conclude that the transfer by petitioner of these installment obligations in a transaction which under existing law is held not to result in taxable gain can not be considered as a present realization1545 of income therefrom, and this conclusion is further strengthened by the fact that the determining of a taxable gain from such a transaction is first provided for by the Revenue Act of 1928, in section 44(d), * * We 18 think our conclusions in the above cases are applicable here and hold, accordingly, that H. D. Shelden realized no taxable income when he gave the installment contracts receivable to his children. In determining the tax liability of the donee children, the respondent has computed profit upon the same basis the property had in the hands of the donor. He has, then, taxed the donees on the profit contained in each installment payment as computed for the donor. The basis for computing gain or loss in the hands of the donee children is the fair market price or value at the date of acquisition. Art. 1562, Regulations 45. The percentage of profit contained in each installment payment, as computed for the donor, is not income to the donee in so far as such profit is included in the fair market value of the property; it is part of the gift. It remains for us to determine the fair market value of the gifts to the children at the effective date. The property1546 transferred is of two general classes, namely, the vendor's interest under land contracts covering lots sold, and the unsold lots. The petitioners contend that the contracts, which drew interest at 6 per cent, had a fair market value equal to the balance due thereon and that the fair market value of the unsold lots was the price at which they were offered for sale. The petitioners, Alger and Henry Shelden, testified that in their opinion the property received from H. D. Shelden by the children had a total net value of $1,576,481.04, which value was arrived at by adding the total balance due on land contracts receivable of $1,556,233.12, to the total selling price of the unsold lots in the amount of $1,333,919, plus the acreage value of the unsubdivided 10-acre tract, and deducting the balance of commissions due on lots sold of $135,120.51, 5 per cent of both the contracts receivable balance and the unsold lots price as a discount for cash, 15 per cent of the unsold lots figure as sales commission, 5 per cent of the contracts receivable balance and the unsold lots price for costs of collection, the cost of uninstalled improvements in the amount of $557,892.96, and the balance due1547 on the land of $242,947.60. To such result they added cash on hand of $14,485.68, an account receivable of $150.79, and the cost to date of buildings under construction on the property of $83,754.74. The petitioner's witness, Clarkson Wormer, who had participated in the subdivision and sale of several properties similar to that involved herein, testified that while the Rosedale Park project had a value of $1,556,233.12 to the subdivider, who would hold the contracts and continue the sale of lots, the two subdivisions consisting of the unsold lots and the land contracts covering lots sold could have been sold for $1,000,000 in the latter part of 1920. Another 19 expert witness called by the petitioner testified that in his opinion the Rosedale Park subdivisions were worth par, by which we understand that he meant that the sales contract and the unsold lots were respectively worth their face value and the asking prices. The respondent called two expert witnesses who had been extensively engaged in the subdivision business in Detroit. Frank S. Pieper testified that a depression existed in the real estate subdivision business in 1920, and that in his opinion the Rosedale1548 Park properties had a fair market value in the latter part of 1920 of no more than the acreage value of the underlying land. The respondent's witness, Thomas Hinchman, testified that in his opinion the property had a fair market value of $2,000 per acre, plus the cost of improvements installed and less the balance due to the Grand River Avenue Development Company on the purchase price. We think the Rosedale Park subdivisions were worth substantially more than the fair market value of the underlying acreage on November 3, 1920, when the gift of the enterprise was completed. At that time plans for development had been completed, improvements had been installed, the subdivision had gained public favor in Detroit, as evidenced by sales of 60 per cent of the lots, and there was every reason to believe that the remaining 40 per cent of the lots could be sold at or near the price asked. On the other hand the value contended for by the petitioners as contained in the testimony of Alger and Henry Shelden is based on a prospective element which we think must be eliminated in determining the fair market price or value at the basic date. To realize the value contended for by them would1549 require that they hold the subdivisions as a business enterprise until they had been completely liquidated. After careful consideration of all the evidence, we think the fair market price or value on November 3, 1920, of H. D. Shelden's interest in Rosedale Park Subdivisions Nos. 2 and 3 was $1,000,000, exclusive of the unsubdivided 10-acre tract, the cost of buildings under construction, and cash on hand or accounts receivable. This figure should be allocated on a percentage basis between land contracts receivable and unsold lots in proportion to the total unpaid balance of the former and the total asked price of the latter. The fair market price or value of the unsubdivided 10-acre tract was at least $13,000 at that date. The record contains several voluminous exhibits showing figures relative to the sale of lots, repossession of lots, collections, and many other facts necessary to a recomputation under Rule 50. We have not encumbered this report with findings of fact from such exhibits, since such facts are not necessary to a determination of the issues raised. They are necessary, however, to a recomputation under Rule 50, and will be referred to in making such recomputation. 1550 20 The petitioners allege in their amended petition that the respondent made numerous errors in taking figures from the books kept for the Rosedale Park subdivisions. There is no allegation in particular of the errors complained of, and while the record contains an exhibit consisting of transcripts from the books, we do not feel obliged to search out errors under such a general allegation. If the parties see fit to correct the errors under Rule 50, we have no objection. Reviewed by the Board. Decision will be entered under Rule 50.TRAMMELL dissents. STERNHAGEN STERNHAGEN, concurring: While the decision is, in my opinion, entirely unfair, I see no escape from it under the law which governs it. The spreading of gains from installment sales over the years of payment was a privilege granted to afford relief from the ordinary system of taxing the gain at the time of the transaction. Cf. B. B. Todd, Inc.,1 B.T.A. 762">1 B.T.A. 762. Such relief ought in fairness to carry with it the obligation that by no device will the tax, which, but for the relief, would have been paid, be frustrated. The earlier statutes provided no such obligation and no*1551 considerations of general fairness empower the Board to impose it. According to a cardinal rule, taxes may not be imposed by implication, no matter how strong, and therefore the statute may not by construction be regarded either as permitting the disregard of the transfer by the donor or applying to the donees the basis which would have been applied to him, or as taxing him for the income which came to them, or as treating the disposition by gift as a realization of the gain. The intimations in Irvin v. Gavit,268 U.S. 161">268 U.S. 161, and Taft v. Bowers,278 U.S. 470">278 U.S. 470, that the tax is upon income, notwithstanding change of ownership of the corpus from which it is derived, are, in view of other cases like Poe v. Seaborn,282 U.S. 101">282 U.S. 101, and Hoeper v. Tax Commissioner of Wisconsin,284 U.S. 206">284 U.S. 206, not sufficient to give assurance that this theory is to be taken as a general principle of the income tax. By the Revenue Act of 1928, section 44(d), an attempt has been made to provide for such cases, but this was not made retroactive.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619790/	GARY W. FRAZEE AND LILY D. FRAZEE, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent; JERRY L. FRAZEE AND CONSTANCE J. FRAZEE, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentFrazee v. CommissionerDocket Nos. 5277-88; 5279-88.United States Tax CourtT.C. Memo 1988-281; 1988 Tax Ct. Memo LEXIS 305; 55 T.C.M. (CCH) 1166; T.C.M. (RIA) 88281; June 28, 1988. 305 Respondent sent notices of deficiency determining deficiencies for each of 4 years. Petitioners filed timely petitions to redetermine the deficiencies determined for the first 3 years; the petitions did not refer to the fourth year. After the 90-day period for filing petitions expired, petitioners sought to amend their petitions to redetermine the deficiencies for the fourth year. Held: This Court lacks jurisdiction to redetermine the deficiencies for the fourth year. O'Neil v. Commissioner,66 T.C. 105">66 T.C. 105 (1976); Rule 41(a), Tax Court Rules of Practice & Procedure.Bill Bowman, for the petitioners. Sara J. Barkley, for the respondent. CHABOTMEMORANDUM OPINION CHABOT, Judge: The instant cases are before us on respondent's307 motion in each case to dismiss for lack of jurisdiction as to 1984. BackgroundBy notices of deficiency sent to the respective petitioners on December 18, 1987, respondent determined deficiencies in Federal individual income tax as follows: YearDeficiencyGeorge W. Frazee and Lily D.1980$ 9,380Frazee, docket No. 5277-881981864198315,49319843,735Jerry L. Frazee and Constance J.1980$ 10,264Frazee, docket No. 5279-881981281198315,23819844,035On March 17, 1988, petitioners in each case filed their petition. The petition in each case states, in pertinent part, as follows: 1. Petitioners previously filed their income tax returns for the year ending December 31, 1980, December 31, 1981, and December 31, 1983, under status as a married couple filing a joint return, which returns were filed with the office of the Internal Revenue Service at Ogden, Utah, on or before the due dates therefor. * * * WHEREFORE, Petitioners pray that the Court determine that there is not a deficiency in income tax in respect to the above-identified matters for the years above stated;The petition in each case308 does not state any year other than the years stated in the above-quoted paragraph 1 (i.e., 1980, 1981, and 1983). Attached to the petition in each case is a copy of the respective notice of deficiency, which disallows claimed deductions for 1983 and 1984, disallows claimed investment credit for 1983, and disallows claimed investment credit carrybacks from 1983 to 1980 and 1981. All the adjustments relate to distributive shares of income, losses, and credits from a partnership. 1309 The 90-day period for timely filing of a petition in each case expired on March 18, 1988. On May 2, 1988, in each case, petitioners submitted an "amended petition" which states as follows: The Petitioners hereby amend their previously filed PETITION so as to incorporate the tax year ending December 31, 1984, the Petitioners hereby contesting the assessment of tax for that year as contained in the STATUTORY NOTICE OF DEFICIENCY dated December 18, 197, which contest is based upon the same grounds as stated in the originally filed PETITION. WHEREFORE, Petitioners pray that the Court determine that there is not a deficiency in income tax in respect to the year ending December 31, 1984. In docket No. 5277-88, the amended petition was filed; in docket No. 5279-88, the amended petition was lodged; in both cases, respondent's motion to dismiss as to 1984 was filed on May 2, 1988, and was calendared for hearing at the Court's regular trial session scheduled to begin in Denver, Colorado, on May 23, 1988. 2The parties submitted stipulations and argued310 the motions on May 24, 1988, pursuant to an agreement reached in a telephonic conference with the Court on May 17, 1988. At that telephonic conference, the Court drew the parties' attention to our recent opinions in Normac, Inc. v. Commissioner,90 T.C. 142">90 T.C. 142 (1988), and Hill v. Commissioner,T.C. Memo. 1988-198. The instant cases have been consolidated for trial, briefs, and opinion. JurisdictionPetitioners contend that they intended to include in their respective petitions a challenge to respondent's determinations as to 1984 and that, viewed as a whole, the petitions do challenge 1984. Petitioners point out that the notices of deficiency, including the 1984 determinations, are attached to their respective petitions. Respondent argues that the petitions do not state that they assert error as to respondent's notice of deficiency determinations regarding 1984 and that the prayers for relief in the petitions make it plain that respondent's determinations as to only 1980, 1981, and 1983 are being challenged. We agree with respondent. Rule 43 3 provides for amended and supplemental pleadings. Rule 41(a) then provides the following: 311 No amendment shall be allowed after expiration of the time for filing the petition, however, which would involve conferring jurisdiction on the Court over a matter which otherwise would not come within its jurisdiction under the petition as then on file. Petitioners' "amended petitions" were submitted to the Court more than 6 weeks after the end of the 90-day period for filing the petitions. See sec. 6213(a). The petitions that were timely filed did not deal with 1984. The prayers for relief referred to "the years above stated." The only "years above stated" were 1980, 1981, and 1983. The petitions made no statement as to 1984. Petitioners' "amended petitions" would have the purpose and effect of giving us jurisdiction over respondent's determinations as to 1984. Accordingly, under the text of Rule 41(a), petitioners' amendments are not to be allowed. It has been this Court's policy to be generous to taxpayers in treating as petitions all documents filed by taxpayers within the 90-day period, where the documents were intended to be petitions from notices of312 deficiency, etc. See, e.g., Castaldo v. Commissioner,63 T.C. 285">63 T.C. 285, 287 (1974); Joannou v. Commissioner,33 T.C. 868">33 T.C. 868 (1960). However, in order to be treated as a petition from a particular notice of deficiency, the document must contain some objective indication that the taxpayer contests the deficiency determined by respondent against that taxpayer. O'Neil v. Commissioner,66 T.C. 105">66 T.C. 105, 107 (1976). O'Neil v. Commissioner, supra, is squarely in point. In O'Neil, respondent had sent a notice of deficiency to the taxpayer determining deficiencies for each of 4 years. The taxpayer's timely petition specifically disputed the deficiencies determined for the first three of these years. After the expiration of the 90-day period for filing a petition, the taxpayer filed an amended petition disputing all 4 years. We granted respondent's motion to dismiss as to the fourth year. 4 See Normac, Inc. v. Commissioner, supra.313 Petitioners point to the related subject matter of the disputes as to all 4 years in each notice of deficiency. This relationship of subject matter does not serve to give us jurisdiction where otherwise we do not have jurisdiction. 5Normac, Inc. v. Commissioner,90 T.C. at 148. Accordingly, we must grant respondent's motion to [Text Deleted by Court Emendation] dismiss as to 1984 in each of the cases. if petitioners wish to contest respondent's determinations of deficiencies as to 1984, they must do so in another forum (unless the Congress amends existing law to give this Court jurisdiction over such refund suits). 6*314 We hold for respondent. An appropriate order will be issued granting respondent's motion to dismiss as to 1984 in each docket.Footnotes1. The parties have agreed that for 1983 and 1984, the partnership, Bison Investment Company, had fewer than 10 partners, each of these partners was a natural person who was not a nonresident alien, and each partner's share of each partnership item was the same as his or her share of every other item. As a result, Bison Investment Company was a small partnership under the exception provisions of sec. 6231(a)(1)(B)(i). Further, the parties have agreed that, for 1983 and 1984, there was no election in effect under sec. 6231(a)(1)(B)(ii). As a result, Bison Investment Company was not a so-called "TEFRA partnership" for 1983 and 1984, the partnership litigation provision of subchapter C of chapter 63 (secs. 6221 et seq.) do not apply, and disputes regarding partnership items are to be dealt with under the deficiency procedures of subchapter B of chapter 63. Unless indicated otherwise, all section, subchapter, and chapter references are to sections, subchapters, and chapters of the Internal Revenue Code of 1986 as in effect for the date the petitions were filed in the instant case. ↩2. In both cases, petitioners, who reside in Colorado Springs, Colorado, designated Denver, Colorado, as the place of trial. ↩3. Unless indicated otherwise, all Rule references are to the Tax Court Rules of Practice & Procedure. ↩4. See Franks v. Commissioner,T.C. Memo. 1986-470, affd. without published opinion 828 F.2d 23">828 F.2d 23 (CA9 1987); Hill v. Commissioner,T.C. Memo. 1988-198↩. 5. Sec. 6214(b) gives us jurisdiction to consider the facts with relation to 1984 to the extent that it is necessary to do so in order to redetermine the deficiencies that are in dispute as to 1980, 1981, or 1983, but that section does not give us jurisdiction to redetermine the deficiencies that have been determined as to 1984. ↩6. See sec. 136 of S. 2223, the Omnibus Taxpayer Bill of Rights↩, which would permit petitioners to sue for refunds in this Court and so would facilitate consistent treatment and avoid significant increases in their costs of litigation. S. 2223 was reported favorably by the Senate Finance Committee on March 29, 1988. The Committee's report is S. Rept. 100-309.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619791/	Estate of Peter D. Middlekauff, Wells Fargo Bank & Union Trust Company, Executor, Petitioner, v. Commissioner of Internal Revenue, Respondent. Wells Fargo Bank & Union Trust Company, Trustee and Transferee, Petitioner, v. Commissioner of Internal Revenue, RespondentMiddlekauff v. CommissionerDocket Nos. 111082, 11083United States Tax Court2 T.C. 203; 1943 U.S. Tax Ct. LEXIS 124; June 23, 1943, Promulgated 124 Decisions will be entered under Rule 50. Where an irrevocable trust instrument provides that upon the death of the life beneficiary the income shall be paid to the trustor for life and that upon the death of the survivor the "trust shall cease and determine, and all property then in the hands of the Trustee shall vest in and be delivered to those persons to whom said property shall be given, bequeathed or devised by the last Will and Testament of the survivor" and the trustor dies first, the value of the reversionary interest in the trust property is includable in his gross estate. Lloyd W. Dinkelspiel, Esq., for the petitioners.Thomas M. Mather, Esq., for the respondent. Smith, Judge. SMITH 204 These proceedings, consolidated for hearing, are for the redetermination of a deficiency in estate tax of $ 146,838.28 in Docket No. 111082, and in Docket No. 111083 of the liability of petitioner as transferee for such deficiency in estate tax. The petitioner in Docket No. 111083 acknowledges its liability as trustee for any deficiency in estate tax due from the estate of Peter D. Middlekauff. The estate of Peter D. Middlekauff will hereinafter be referred to as the125 petitioner.The petitioner alleges that the respondent erred in adding to the net estate $ 478,866.27 representing the value (computed as part of the estate) of the corpus of a trust estate created by the decedent by indenture dated January 3, 1928; and that, if the trust estate in the amount of $ 478,866.27 is to be included in the gross estate, the respondent erred in failing to deduct therefrom the value of the life estate of decedent's widow, Emma P. Middlekauff, in the determination of the net estate.The petitioner also alleges that the respondent erred in refusing to allow as a deduction in computing the net estate the sum of $ 6,000 paid to decedent's widow as and for her support during the period of probate of the estate.Petitioner also alleges that the respondent erred in his computation of the alleged deficiency in not giving to the petitioner the full credit for California state inheritance taxes paid or payable by it. It was stipulated that these matters would be settled under Rule 50 computation.FINDINGS OF FACT.The Wells Fargo Bank & Union Trust Co., of San Francisco, California, is the executor of the estate of Peter D. Middlekauff, who died a resident of California126 on May 10, 1939, at the age of 80 years and 9 months, leaving him surviving Emma P. Middlekauff, his wife, who was at that time 79 years of age; Robert P. Middlekauff, son, age 50 years; and Marjorie M. Sherman, daughter, age 51 years. An estate tax return for the estate of decedent was filed by the executor with the collector of internal revenue for the first district of California.The estate tax return discloses a gross estate of $ 855,622.64 and a net estate under the Revenue Act of 1926 of $ 701,334.79, and a net estate under the Revenue Act of 1932 of $ 761,334.79. The return 205 reported various transfers made by decedent in his lifetime, including a transfer made in trust pursuant to an indenture of trust dated January 3, 1928, between decedent as trustor and the Wells Fargo Bank & Union Trust Co. as trustee. This transfer was claimed by the executor to be nontaxable. The value of the corpus of this trust at the date of death of the decedent was $ 478,866.27. Respondent added the value of this corpus to the net estate reported in the determination of the liability of the estate for estate tax. The return also claimed the deduction from the gross estate of $ 6,000127 for family allowance of $ 750 per month. This deduction was disallowed by the respondent in the determination of the deficiency upon the ground:* * * The value of the estate, excluding properties held in joint tenancy and transfers made during the decedent's lifetime, was less than $ 10,000.00. The decedent's widow had a substantial income of her own. It has not been established that the deduction claimed was actually paid or reasonably required for the support of the widow. It is held, therefore, that no deduction is allowable.Peter D. Middlekauff was born July 17, 1858. He was an employee of the Deering Harvester Co. until about 1900, when he retired from business. Thereafter he looked after his own investments and did much traveling. He took a part time position for a few years (1908 to 1911) as president of the Acme Harvester Co. He was married in 1887 and the two above named children were born of the marriage.In 1924 the decedent created two trusts, one for the benefit of his son and one for the benefit of his daughter. The corpus of each trust was approximately $ 100,000.The decedent had observed that in many cases men who had retired from business and were more128 or less out of touch with business affairs did not have as good judgment upon investments after the age of 70 as persons who were younger and made investments a business. He often stated to his family that a person of the age of 70 should entrust the handling of his fortune to others.The decedent for many years had been a sufferer from asthma. At times it was necessary for him to lie down in order to breathe comfortably. In 1923 he, with his wife, visited California and found that the San Francisco climate gave him relief from asthma. He remained in San Francisco from 1923 to 1926. In 1926 he purchased an orchard at Palo Alto, California, and built for himself a large house near his orchard.On January 3, 1928, the decedent created a trust, naming the Wells Fargo Bank & Trust Co. as trustee. The corpus of this trust on the date of decedent's death amounted to $ 478,866.27 and consisted principally of municipal bonds. The trust provided in part as follows:-1-From and after the date hereof, all net income, revenue and profits of the trust estate shall be paid by the Trustee to Emma P. Middlekauff, wife of 206 Trustor, so long as the said Emma P. Middlekauff shall live. 129 From and after the death of said Emma P. Middlekauff, all net income, revenue and profits of the trust estate shall be paid by the Trustee to P. D. Middlekauff, herein called Trustor, so long as he shall live.-2-Upon the death of the survivor of the Trustor and Emma P. Middlekauff, his wife, said trust shall cease and determine, and all property then in the hands of the Trustee shall vest in and be delivered to those persons to whom said property shall be given, bequeathed or devised by the last Will and Testament of the survivor of said P. D. Middlekauff and Emma P. Middlekauff, his wife, or if said survivor shall leave no last Will and Testament, then said property shall vest in and be delivered to Marjorie M. Sherman and Robert Prindle Middlekauff, children of the said P. D. Middlekauff, or to the issue of said children per stirpes. * ** * * -4-It is expressly understood that neither the said P. D. Middlekauff nor Emma P. Middlekauff shall have any right to revoke the trust hereby created as to all or any part of the property held thereunder, or to modify, alter, or amend the terms and conditions of said trust in any particular whatever.At the same time that the trust130 was executed the decedent also executed his last will and testament.On July 29, 1929, the decedent with his wife created a second trust, with the Wells Fargo Bank & Union Trust Co. as trustee. This was amended on February 26, 1931, and July 21, 1934. The value of the corpus of this trust on the date of death was in the amount of $ 687,039.34, and in addition income accrued in the amount of $ 8,195.84. The income of this trust was payable to the decedent. The executor reported it as a part of the decedent's gross estate.Another trust was created by the decedent and his wife with the same trustee on December 30, 1933. The corpus of this trust consisted of real estate and personal property valued at the date of death of the decedent in the amount of $ 27,017.55 principal and $ 1,517.35 accrued income. This constituted a part of the decedent's gross estate.From 1926 until the date of his death on May 10, 1939, the decedent lived upon his income and got necessary exercise and recreation by working several hours a day in his garden and orchard. He was a man with a keen mind and was much interested in worldly affairs and the study of particular subjects. He enjoyed listening to131 certain radio programs and for two or three years before his death was much interested in music and in reading the history of music. He suffered a fracture of his arm a little more than a year before his death and never fully recovered from that injury.Decedent's widow filed a petition dated June 7, 1939, in the Superior Court, Santa Clara County, California, in the estate proceedings 207 of the decedent praying that an order be made allowing her $ 750 per month for support and maintenance, commencing as of the date of death of her deceased husband viz., May 10, 1939. Under date of June 8, 1939, the Superior Court made its order authorizing the payments as requested. Pursuant to this order there were made during the probate of the estate of the decedent from his estate ten payments of $ 750 each, or a total of $ 7,500. The widow actually expended for her support and maintenance a sum in excess of the $ 750 per month allowed and paid her pursuant to the court decree.OPINION.The principal question presented by these proceedings is whether the value of the property in the hands of the trustee of the trust created by the decedent on January 3, 1928, is includable in his gross132 estate. The respondent has so included it in his determination of the deficiency in accordance with his interpretation of section 811 of the Internal Revenue Code, the pertinent parts of which are as follows:SEC. 811. GROSS ESTATE.The value of the gross estate of the decedent shall be determined by including the value at the time of his death of all property, real or personal, tangible or intangible, wherever situated, except real property situated outside of the United States -- * * (c) Transfers in Contemplation of, or Taking Effect at Death. -- To the extent of any interest therein of which the decedent has at any time made a transfer, by trust or otherwise, in contemplation of or intended to take effect in possession or enjoyment at or after his death, or of which he has at any time made a transfer, by trust or otherwise, under which he has retained for his life or for any period not ascertainable without reference to his death or for any period which does not in fact and before his death (1) the possession or enjoyment of, or the right to the income from, the property, or (2) the right, either alone or in conjunction with any person, to designate the persons who shall133 possess or enjoy the property or the income therefrom; * * (d) Revocable Transfers -- * * (2) Transfers on or Prior to June 22, 1936. -- To the extent of any interest therein of which the decedent has at any time made a transfer, by trust or otherwise, where the enjoyment thereof was subject at the date of his death to any change through the exercise of a power, either by the decedent alone or in conjunction with any person, to alter, amend, or revoke, or where the decedent relinquished any such power in contemplation of his death, except in case of a bona fide sale for an adequate and full consideration in money or money's worth. Except in the case of transfers made after June 22, 1936, no interest of the decedent of which he has made a transfer shall be included in the gross estate under paragraph (1) unless it is includible under this paragraph.The respondent submits that the total value of the assets in the hands of the trustee at the date of the death of the decedent ($ 478,866.27) is includable in the gross estate of the decedent (1) as a 208 transfer made in contemplation of death; (2) as a transfer to take effect in possession or enjoyment at or after death; 134 or (3) as a transfer with respect to which the grantor reserved a power of appointment if the donee predeceased him.In support of the proposition that the transfer made on January 3, 1928, was made in contemplation of death the respondent submits that because of the fact that the decedent was a sufferer from asthma and had low blood pressure and that at the time of executing the trust instrument he also made his will, it must be held that contemplation of death motivated the transfer, under the doctrine of United States v. Wells, 283 U.S. 102">283 U.S. 102. We are convinced, however, from a consideration of the entire record that the creation of this trust was not motivated by contemplation of death. The evidence shows that the decedent for a long time had held the view that a man who was not active in business and who had reached the age of 70 was not as well qualified to manage a large estate as a trust company or one who made investments his business. This was the primary reason for the creation of the trust.We consider next whether the transfer was one which was "intended to take effect in possession or enjoyment at or after * * death" within section135 811 (c) of the Internal Revenue Code. The respondent contends that it was and in support of that contention cites Helvering v. Hallock, 309 U.S. 106">309 U.S. 106. The principle which was laid down in that case is that, where a person creates a trust and provides in the trust instrument that upon the happening of some contingency prior to his death the trust property or an interest therein shall revert to him, and before the happening of any such contingency he dies, the value of the trustor's interest in the trust property is includable in his gross estate. The Hallock opinion dealt with a number of situations. One of the cases decided with the Hallock opinion was Bryant v. Helvering. The facts in that case were in substance the same as the facts which obtain in the instant proceedings. They were stated by the Supreme Court as follows: * * the testator provided for the payment of trust income to his wife during her life and upon her death to the settlor himself if he should survive her. The instrument, which was executed in 1917, continued: "Upon the death of the survivor of said Ida Bryant and the party of the first part, unless this 136 trust shall have been modified or revoked as hereinafter provided, to convey, transfer, and pay over the principal of the trust fund to the executors or administrators of the estate of the party hereto of the first part." There was a further provision giving to the decedent and his wife jointly during their lives, and to either of them after the death of the other, power to modify, alter or revoke the instrument. The wife survived the husband, who died in 1930. The Board of Tax Appeals allowed the Commissioner to include in the decedent's gross estate only the value of a "vested reversionary interest" which the Board held the grantor had reserved to himself. On appeal by the taxpayer, the Circuit Court of Appeals sustained this determination.209 The Supreme Court affirmed the decision of the Circuit Court of Appeals in that case.In the instant proceedings the decedent had provided in the trust instrument that if his wife predeceased him the income from the trust estate was to be paid to him so long as he should live and that the trust was to cease and determine upon his death, and that all property then in the hands of the trustee should vest in and be delivered to those137 persons to whom the property might be given by his last will and testament. By his death the retained interest in the trust property was cut off. It was not until his death that the transfer of the reversionary interest took effectThe petitioner contends that if the principle of the Hallock case applies to these proceedings the only amount to be included in the trust estate in respect of the trust property is the value of the possibility of reverter. It is pointed out that the trustor was about two years older than his wife at the time that the trust instrument was executed and that there was less likelihood of him being the survivor than of his then wife being the survivor. It is contended that the value of the possibility of reverter is to be determined on an actuarial basis. There was introduced in evidence the testimony of a qualified actuary, who determined from actuarial tables that the value of the decedent's possibility of reverter at the date of his death was $ 183,712.26. The witness testified that this was the amount which an insurance company would have charged for insuring such a risk.We are of the opinion that this contention is not in accordance with the138 principle of the Hallock case. If it had not been that the decedent's widow had a life estate in the trust fund we think it clear that the value of the interest to be included in the decedent's gross estate would have been $ 478,866.27, the stipulated value of the trust assets in the hands of the trustee at the date of decedent's death. But the widow had in any event a life interest in the trust assets. She was to receive the income of the trust for her life. The value of such life interest of the widow must be computed upon an actuarial basis and the amount thereof deducted from the $ 478 866.27 in the determination of the value of the reversionary interest.Since we are of the opinion that the value of the reversionary interest is includable in the decedent's gross estate under section 811 (c) of the Internal Revenue Code, it is unnecessary to consider the respondent's contention that the transfer is to be included in the gross estate under section 811 (d).The remaining question for consideration is whether the estate is entitled to the deduction of the $ 750 per month which was paid by the estate for the support of the widow pursuant to a decree of the Probate Court. 139 The evidence shows that this amount received by the 210 widow was actually expended by her for her support. The fact that the widow had income of her own and did not have to have the allowance made by the Probate Court is beside the question. See Mary M. Buck et al., Executors, 25 B. T. A. 780; affirmed on this point (C. C. A., 9th Cir.), 73 Fed. (2d) 760. This issue is decided in favor of the petitioner.Decisions will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619793/	Eldon Hayden v. Commissioner. Eldon Hayden and Dilyght Hayden v. Commissioner.Hayden v. CommissionerDocket Nos. 5474-63, 5475-63.United States Tax CourtT.C. Memo 1965-50; 1965 Tax Ct. Memo LEXIS 281; 24 T.C.M. (CCH) 285; T.C.M. (RIA) 65050; March 8, 1965Eldon Hayden, 161-23 119th Dr., Jamaica, N. Y., for the petitioners. W. T. Holloran, for the respondent. FAYMemorandum Findings of Fact and Opinion FAY, Judge: Respondent determined deficiencies in the income tax of petitioners and additions to tax under section 6653(a) of the Internal Revenue Code of 1954 in the following amounts: AdditionDocketDefi-to TaxNo.Yearciency § 6653(a)5474-631959$253.99$12.705475-631960254.4812.72282 The issues for decision are (1) whether income from tips was understated, and (2) whether the additions to tax under section 6653(a) were properly determined. Findings of Fact Petitioners Eldon Hayden and Dilyght Hayden are husband and wife residing in Jamaica, New York. Petitioner in Docket No. 5474-63 filed an individual Federal income tax return for the taxable year 1959, and petitioners in Docket No. 5475-63 filed a joint Federal income tax return for the taxable year 1960, both with the district director of internal revenue, Manhattan, New York. References hereinafter made to "petitioner" are to Eldon Hayden. During 1959 and 1960, petitioner was employed as a breakfast and luncheon waiter at the Hotel Commodore (hereinafter referred to as the hotel), located in midtown Manhattan, New York. During these years he worked regularly five days a week, from 6:00 A.M. until after luncheon service sometime in the afternoon. Petitioner received wages from the hotel on a daily basis. Waiters at the hotel were required to give 12 percent of their tips to the bus boys. Dur to a diabetic condition, petitioner would sometimes leave the hotel after serving breakfast, with the result283 that his wages were docked accordingly. On such days petitioner would report to his union hall to be assigned a job as a banquet waiter at one of New York's hotels the same evening. Petitioner did not keep any actual records of tip income for the year 1959 and 1960. For the taxable year 1959, petitioner reported wages of $1,777.67 from the hotel and $879 from his work as a banquet waiter. (His tips from banquets were included in the $879 figure, and that sum is not in issue.) Petitioner also reported tips from the hotel in the amount of $1,120. For the taxable year 1960, petitioner reported wages from the hotel in the amount of $1,709.85 and tip income in the amount of $980. The Commissioner, in determining the deficiencies, added additional tip income in the amounts of $1,368.74 for the taxable year 1959 and $1,413.79 for the taxable year 1960. Opinion It is well established that tips and gratuities constitute compensation for services and, as such, are includable in gross income under section 61(a) of the Internal Revenue Code of 1954. 1Roberts v. Commissioner, 176 F. 2d 221 (C.A. 9, 1949), affirming 10 T.C. 581">10 T.C. 581 (1948).284 The two questions for decision are: (1) what was petitioner's income from tips received as a waiter in the years 1959 and 1960; and (2) was petitioner negligent in failing to keep records of his tip income during those years? Respondent determined that petitioner understated income from tips received as a waiter at the hotel for each of the years 1959 and 1960. Pursuant to his statutory authority under section 446(b), 2 respondent formulated a method which he contends clearly reflects the correct amount of petitioner's tip income. Respondent multiplied the net sales, exclusive of net sales tax, by 15 percent (the percentage respondent determined to be the average tip at the hotel) to arrive at the total amount of tips received by the waiters. The resulting sum was then reduced285 by the amount which the waiters were required to pay to the bus boys (12 percent of tips received). The resulting amount was approximately 13 percent of net sales. Petitioner's share of the total tips was determined to be that proportion which his wages bore to the total wages paid to all the waiters. Respondent's determination is entitled to a presumption of correctness, and the burden is on the petitioner to prove it erroneous. Dorothy L. Sutherland, 32 T.C. 862">32 T.C. 862 (1959). Not only has petitioner failed to carry his burden of proof, but the testimony of petitioner clearly corroborates respondent's determination of 15 percent as the average tip at the hotel. Although petitioner was required by law to keep records of all income he earned as a waiter, he neglected to do so. 3 Furthermore, no evidence was introduced on behalf286 of petitioner which would tend to establish the amount of tip income he reported. Petitioner claims that respondent's estimate of his tip income is excessive since the average tip was not as high as 15 percent. However, such self-serving statements were unsubstantiated. After a review of the evidence and taking into consideration the petitioner's lack of income records, we are persuaded that the respondent has been neither arbitrary nor unreasonable in making his determination of petitioner's287 tip income for the years 1959 and 1960. We, therefore, sustain the respondent on this issue. The remaining issue is whether petitioner is liable for additions to tax under section 6653(a). 4 Taxpayers who receive tip income but do not keep written records of the tips are "extremely negligent" in failing to keep such records. Dorthy L. Sutherland, supra; Carroll F. Schroeder, 40 T.C. 30">40 T.C. 30 (1963). Petitioner failed to keep any written records of the amount of tips actually received and, therefore, we sustain the respondent's determination of additions to tax. Decisions will be entered for the respondent. Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954. SEC. 61. GROSS INCOME DEFINED. (a) General Definition. - Except as otherwise provided in this subtitle, gross income means all income from whatever source derived, including (but not limited to) the following items: (1) Compensation for services, including fees, commissions, and similar items; * * *↩2. SEC. 446. GENERAL RULE FOR METHODS OF ACCOUNTING. (b) Exceptions. - If no method of accounting has been regularly used by the taxpayer, or if the method used does not clearly reflect income, the computation of taxable income shall be made under such method as, in the opinion of the Secretary or his delegate, does clearly reflect income.↩3. SEC. 6001. NOTICE OF REGULATIONS REQUIRING RECORDS, STATEMENTS, AND SPECIAL RETURNS. Every person liable for any tax imposed by this title, or for the collection thereof, shall keep such records, render such statements, make such returns, and comply with such rules and regulations as the Secretary or his delegate may from time to time prescribe. Whenever in the judgment of the Secretary or his delegate it is necessary, he may require any person, by notice served upon such person or by regulations, to make such returns, render such statements, or keep such records, as the Secretary or his delegate deems sufficient to show whether or not such person is liable for tax under this title.↩4. SEC. 6653. FAILURE TO PAY TAX. (a) Negligence or Intentional Disregard of Rules and Regulations With Respect to Income or Gift Taxes. - If any part of any underpayment (as defined in subsection (c)(1)) of any tax imposed by subtitle A or by chapter 12 of subtitle B (relating to income taxes and gift taxes) is due to negligence or intentional disregard of rules and regulations (but without intent to defraud), there shall be added to the tax an amount equal to 5 percent of the understatement.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619794/	ROBERT L. DEVINASPRE, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentDevinaspre v. CommissionerDocket No. 11393-84.United States Tax CourtT.C. Memo 1985-435; 1985 Tax Ct. Memo LEXIS 194; 50 T.C.M. (CCH) 846; T.C.M. (RIA) 85435; 6 Employee Benefits Cas. (BNA) 2156; August 20, 1985. Fred Ramey, for the petitioner. Christine v. Olsen and John Meaney, for the respondent. FEATHERSTONMEMORANDUM OPINION FEATHERSTON, Judge: Respondent determined a deficiency in the amount of $270 in petitioner's Federal income tax for 1980. The issues for decision are: 1. Whether petitioner is entitled to197 a deduction under section 219(a)(1)1 for a contribution to an Individual Retirement Account; 2. Whether petitioner may exclude from income under section 402(a)(5) the rollover portion of a distribution from a qualified plan; and 3. Whether petitioner is liable for an excise tax under section 4973 attributable to an excess contribution to an Individual Retirement Account. All of the facts are stipulated. 1. Stipulated FactsPetitioner Robert L. Devinaspre, a single individual, resided in Boise, Idaho, at the time he filed the petition. He filed a Federal income tax return for 1980 with the Internal Revenue Service Center, Ogden, Utah. Petitioner commenced employment as a technician in the respiratory therapy department of Boise Anesthesia, P.A., an Idaho corporation, on April 17, 1977. Petitioner participated in both qualified retirement plans 2 maintained by his employer, the Boise Anesthesia, P.A., Profit Sharing Plan and the Boise Anesthesia, P.A., Money Purchase Pension Plan198 and Trust Agreement (the Boise plans). During 1980, Boise Anesthesia, P.A., was reorganized into a partnership of professional corporations (Boise Anesthesia), which continued to maintain the Boise plans. On September 1, 1980, the employees of the Boise Anesthesia respiratory thereapy department, which included petitioner, were terminated as employees of Boise Anesthesia, and, pursuant to an agreement, became employees of St. Alphonsus Hospital (the hospital). Pursuant to the employee transfer, neither Boise Anesthesia nor the hospital transferred any assets, stock, or other consideration. Neither entity assumed liabilities of the other, nor owned any interest in the other before or after the transfer. No person owning an interest in Boise Anesthesia has at any time owned an interest in the hospital. The entities did not merge or consolidate. Boise Anesthesia did not liquidate any portion of its business pursuant to the employee transfer, but continued its business as a medical practice of anesthesiology. Under the terms of the transfer, the employees were199 to receive the same pay and benefits from the hospital as they had been receiving at Boise Anesthesia. The hospital employed petitioner under the same job title with virtually no change in his duties. Petitioner participated in no retirement plan at the hospital in 1980, and petitioner was no longer a participant in the Boise plans after September 1, 1980. Petitioner participated in no retirement plan other than the Boise plans during 1980. Boise Anesthesia distributed and paid $1,443.98 to petitioner in 1980 as his accumulated benefits in the Boise plans. Within 60 days after he received the Boise plan distribution, petitioner established an Individual Retirement Account (IRA) and contributed $1,000 to the account. Petitioner included the entire distribution in income on his 1980 incom tax return and claimed $1,000 as an adjustment to income for a contribution to an IRA. Respondent examined the Form 5500 Series--Annual Return/Report of Employee Benefit Plan filed by Boise Anesthesia for years ended September 1981 and September 1982. Respondent concluded that a partial termination had occurred in 1980 with respect to the Boise plans when petitioner and other employees were200 terminated from plan participation on September 1, 1980. Pursuant to respondent's findings, additional distributions from the Boise plans were made to petitioner and other participants to reflect the required 100-percent vesting upon termination. Respondent disallowed the deduction for a contribution to an IRA and assessed an excise tax on the excess contribution. 2. Deduction of Contribution to IRASection 219(a)(1) provides a deduction for amounts paid to an IRA. 3 However, under the law in effect in 1980, a taxpayer may not deduct payments to an IRA for a taxable year during which he was an active participant in a qualified plan. Sec. 219(b)(2)(A)(i). 4 Respondent argues that petitioner was not entitled to deduct his $1,000 contribution to an IRA because he was an active participant in a qualified pension plan during part of 1980. 5 "Active participant" is defined in the regulations as follows: An individual is an active participant in a money purchase plan if under the terms of201 the plan employer contributions must be allocated to the individual's account with respect to the plan year ending with or within the individual's taxable year. * * [Sec. 1.219-2(c), Income Tax Regs.] An individual is an active participant in * * * [profit sharing and stock bonus] plans in a taxable year if a forfeiture is allocated to his account as of a date in such taxable year * * * [or] if an employer contribution is added to the participant's account in such taxable year. * * * [Sec. 1.219-2(d)(1), Income Tax Regs.] 202 Petitioner has offered no evidence to refute the argument that he was an active participant in a qualified plan during 1980. In fact, he admits his participation in the Boise plans during that first 8 months of 1980 as stipulated: Petitioner was no longer participant in the Boise Anesthesia Retirement Plans * * after September 1, 1980 [and] [p]etitioner was not a participant in 1980 in any other retirement plans, other than the Boise Anesthesia plans * * , which participation was terminated on September 1, 1980 * . Accordingly, petitioner is not entitled to a section 219(a)(1) deduction, and we do not understand that he seriously contends otherwise. 3. Exclusion for Rollover DistributionSection 402(a)(5) provides that if the balance to the credit of an employee in a qualified plan is paid to him in a "qualifying rollover distriution," and he transfers any portion of the distribution to an eligible retirement plan 6 within 60 days after receiving the distribution, then the distribution, to the extent so transferred, is not includible in gross income for the taxable203 year in which paid. The term "qualifying rollover distribution" is defined in section 402(a)(5)(D)(i), in the form applicable to the tax year in dispute, to mean one or more distributions: (I) within 1 taxable year of the employee on account of a termination of the plan of which the trust is a part or, in the case of a profit-sharing or stock bonus plan, a complete discontinuance of contributions under such plan, or (II) which constitute a lump sum distribution within the meaning of subsection (e)(4)(A) * * . The parties have focused mainly on the issue as to whether the $1,000 received by petitioner and contributed to his IRA was a "lump sum distribution within the meaning of section 402(e)(4)(A)" under subparagraph II, above. 7Section 402(e)(4)(A) defines the term "lump sum distribution" to mean the "distribution or payment within one taxable year of the recipient of the balance to the credit for the employee" which becomes payable to the recipient "on account204 of the employee's separation from the service." 8205 Petitioner contends that he was separated from the service of Boise Anesthesia when he became an employee of the hospital. Relying upon the following excerpt from S. Rept. No. 1622, 83d Cong; 2d Sess. 54, 3 U.S. Code & Adm. News 4621, 4685-4686 (1954), which accompanied the enactment of the 1954 Code, respondent argues that petitioner was not separtated from the service of Boise Anesthesia because he continued to do the same work for this hospital: The House Bill extends capital gains treatment to lump-sum distributions to employees at the termination of a plan because of a complete liquidation of the business of the employer, such as a statutory merger, even though there is no separation from service. This was intended to cover, for example, the situation arising when a firm with a pension plan merges with another firm without a plan, and in the merger the pension plan of the first corporation is terminated. Your committee's bill revises this provision of the House bill to eliminate the possibility that reorganizations which do not involve a substantial change in the make-up of employees might be arranged merely to take advantage of capital gains provision. * * Respondent206 argues that this language demonstrates that "Congress intended to confirm that 'separation from service' did not occur when an employee continued on the same job, regardless of the circumstances." The general rule to be applied where an employee at the termination of a plan continues employment for an employer that survives a reorganization, such as a merger, described in S. Rept. 1622, supra, has been stated in Johnson v. United States,331 F.2d 943">331 F.2d 943, 949 (5th Cir. 1964), as follows: [A]fter 1954 distributions will not qualify for capital gain treatment if they are made as a result of the termination of a plan incident to a corporate reorganization, even if the corporate employer is completely liquidated. * * In other words, after 1954 a separation from service would occur only on the employee's death, retirement, resignation, or discharge; not when he continues on the same job for a different employer as a result of a liquidation, merger or consolidation of his former employer. See also United States v. Haggart,410 F.2d 449">410 F.2d 449, 452 (8th Cir. 1969); Gitens v. Commissioner,49 T.C. 419">49 T.C. 419, 423-424 (1968); Gegax v. Commissioner,73 T.C. 329">73 T.C. 329, 334 (1979);207 cf. Smith v. United States,460 F.2d 1005">460 F.2d 1005, 1014-1015 (6th Cir. 1972). But we are not here dealing with a liquidation, merger, or consolidation of an employer for which the employee continued to work. As more fully described above, the agreement between Boise Anesthesia and the hospital provided for no asset transfer, exchange of stock, assumption of liabilities, or other consideration for the employee transfer.Neither entity owned an interest in the other before or after the transfer. The entities had no common ownership and did not merge or consolidate pursuant to the transfer. Boise Anesthesia did not liquidate but continued its business as a medical practice of anesthesiology. Thus, the employee transfer from Boise Anesthesia in no way resembled a corporate reorganization or restructuring. In fact, the stipulated facts show that the only connection between the entities was the transfer of the respiratory therapy department employees from one employer, Boise Anesthesia, to another employer, the hospital. Thus, respondent's reorganization-consolidation-liquidation argument, based on the excerpt from S. Rept. No. 1622, supra, is inapposite. Petitioner208 was separated from the service of Boise Anesthesia in the same manner, for all practical purposes, as if he had been formally discharged. His employment with Boise Anesthesia was terminated even though he was immediately employed by the hospital to perform substantially the same duties as before. Therefore, the distribution he received was a qualifying rollover distribution under section 402(a)(5)(D)(i)(II), and the portion rolled over into the IRA was excludable from income under section 402(a)(5)(A). Having concluded that petitioner was separated from the service of Boise Anesthesia, we need not decide whether, notwithstanding the stipulation that no assets were transferred, the transfer of Boise Anesthesia's respiratory therapy department to the hospital constituted a termination of the plan as to petitioner under section 402(a)(5)(D)(i)(I) which encompasses a sale or other transfer of assets under section 402(a)(6)(B)(ii). See H. Rept. No. 94-1020, 1 C.B. 529">1979-1 C.B. 529, 530. 4. Excise Tax on Excess ContributionSection 4973 provides for a 6-percent excise tax on excess contributions to an IRA over deductions allowable under section 219 for such contributions. 209 9 However, for purposes of the excise tax provision, the amount contributed does not include a rollower contribution under section 402(a)(5). Sec. 4973(b)(1)(A). 210 We concluded, supra, that petitioner's $1,000 contribution to an IRA in 1980 qualified as a rollover contribution under section 402(a)(5). Therefore, petitioner made no excess contributions in 1980, and no excise tax is due. To reflect the foregoing, Decision will be entered for the petitioner.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended, unless otherwise noted. All Rules references are to the Tax Court Rules of Practice and Procedure.↩2. Qualified plan means an employee's trust described in sec. 401(a) and exempt from taxation under sec. 501(a).↩3. SEC. 219. RETIREMENT SAVINGS. (a) Deduction Allowed.--In the case of an individual, there is allowed as a deduction amounts paid in cash for the taxable year by or on behalf of such individual for his benefit-- (1) to an individual retirement account described in section 408(a)↩ * * * 4. Sec. 219↩ has subsequently been amended by sec. 311(1) of the Economic Recovery Tax Act of 1981, Pub. L. 97-34, 95 Stat. 172, 274, to allow a deduction for contributions to an IRA irrespective of participation in a qualified plan. The amendment is effective for taxable years beginning after Dec. 31, 1981.5. Orzechowski v. Commissioner,69 T.C. 750">69 T.C. 750, 756 (1978), affd. 592 F.2d 677">592 F.2d 677 (2d Cir. 1979); Hildebrand v. Commissioner,683 F.2d 57">683 F.2d 57, 59 (3d Cir. 1982), affg. a memorandum Opinion of this Court; Horvath v. Commissioner,78 T.C. 86">78 T.C. 86, 92 (1982); but see Foulkes v. Commissioner,638 F.2d 1105">638 F.2d 1105, 1109-1110 (7th Cir. 1981), revg. a Memorandum Opinion of this Court (no potential for double tax benefit). Petitioner argues that these cases are distinguishable because none of them involves a distribution from a retirement plan followed by a rollover contribution to an IRA. However, the Code provision (sec. 402(a)(5)↩) which deals with rollover contributions refers to an exclusion from income rather than a deduction.6. The term "eligible retirement plan" includes an individual retirement account (IRA). Sec. 402(a)(5)(D)(iv)(I)↩.7. The portion of a lump sum distribution not rolled over is not eligible for favorable tax treatment under sec. 402(a)(2) (capital gains) or sec. 402(e)(1), (3) (separate tax on lump sum distributions and deduction from gross income), but is taxes as ordinary personal service income in the year of receipt. Sec. 402(a)(6)(C); S. Rept. No. 95-1127, 2 C.B. 369">1978-2 C.B. 369↩, 373. Accordingly, petitioner included in his gross income for 1980 the portion of his distribution not rolled over into the IRA. 8. The language of sec. 402(e)(4)(A) contemplates that the balance to the credit of the employee will be distributed within one taxable year. The stipulated facts, summarized above, indicate that a further distribution was made to petitioner after Sept 1, 1982, as a result of the IRS' examination of Boise Anesthesia's Form 5500. Respondent has not raised this point. Sec. 11.402(e)(4)(A)-1(b), Temporary Regs., however, permits an employee to "assume that a distribution is a lump sum distribution even though part of the balance of his account has not been forfeited at the time the distribution is made" and to "roll the distribution over as a contribution to an individual retirement account pursuant to section 402(a)(5) or 403(a)(4)." An adjustment may then be made for the year in which it is determined that the remaining amount will not be forfeited. Furthermore, respondent, in his letter to the Plan Administrator of Boise Anesthesia, concluded that a partial termination occurred when the employees were transferred and improper forfeitures were made at that time. Sec. 11.402(e)(4)(A)-1(a), Temporary Regs.↩, provides that an "employeehs balance does not include any amount which is forfeited under the plan (even though the amount may be reinstated) as of the close of the taxable year of the recipient in which the distribution is made."9. SEC. 4973. TAX ON EXCESS CONTRIBUTIONS TO INDIVIDUAL RETIREMENT ACCOUNTS, CERTAIN SECTION 403(b) CONTRACTS, CERTAIN INDIVIDUAL RETIREMENT ANNUITIES, AND CERTAIN RETIREMENT BONDS (a) Tax Imposed.--In the case of-- (1) an individual retirement account (within the meaning of section 408(a)), * * * * * * there is imposed for each taxable year a tax in an amount equal to 6 percent of the amount of the excess contributions to such individual's accounts, annuities, or bonds (determined as of the close of the taxable year). * * * (b) Excess Contributions.--For purposes of this section, in the case of individual retirement accounts, individual retirement annuities, or bonds, the term "excess contributions" means the sum of-- (1) the excess (if any) of-- (A) the amount contributed for the taxable year to the accounts or for the annuities or bonds (other than a rollover contribution described in sections 402(a)(5), 402(a)(7), 403(a)(4), 403(b)(8), 408(d)(3), and 409(b)(3)(C)), over (B) the amount allowable as a deduction under section 219 or 220↩ for such contributions * * *	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619795/	Claire A. Pekras v. Commissioner. John Pekras v. Commissioner.Pekras v. CommissionerDocket Nos. 112359, 112360.United States Tax Court1943 Tax Ct. Memo LEXIS 277; 2 T.C.M. (CCH) 195; T.C.M. (RIA) 43258; May 31, 1943277 R. H. Rico, Esq., 814 Elyria Savings Bank, Elyria, O., for the petitioners. W. W. Kerr, Esq., for the respondent. STERNHAGEN Memorandum Opinion STERNHAGEN, Judge: The Commissioner determined a deficiency of $3,469.32 in Claire A. Pekras' 1940 income tax and a deficiency of $4,158.06 in John Pekras' 1940 income tax. He determined that leaseholds were not capital assets within the meaning of Section 117(a)(1), Internal Revenue Code, and that the gains realized on their sale were not subject to percentage limitations. The facts are all stipulated. [The Fact] The petitioners are husband and wife, residing in Elyria, Ohio. They filed separate returns for 1940 in the 18th District of Ohio. In April, 1940, they were engaged in operating four motion picture theatres in Elyria, Ohio, which were known as the Capitol, the New Rivoli, the Lincoln, and the Rialto. The last named is not involved in these proceedings. Capitol Theatre. The land is owned by William A. Ely, who, on October 4, 1920, leased it to Samuel G. Sadaris for a term expiring September 30, 1945, the lessee to erect a theatre thereon, which on expiration of the lease should revert to the lessor. November 26, 1929, 278 the term was extended to September 30, 1955. Prior to November 26, 1930, John Pekras acquired an interest in the lease from Sadaris. On that date they, and a theatre operating corporation owned by them, sold their interests in the lease, theatre building and equipment, to Warner Bros. Pictures, Inc.Warner Bros. Pictures, Inc., by contract dated November 23, 1934, sold to Claire Pekras said interests which included all rights under the original lease and extension thereof, and "All the personal property, furniture and equipment located in said Capitol Theatre". As part of the consideration of the November 23, 1934, contract, Claire Pekras cancelled the balance $22,565.16 of unpaid rent on the lease due from Warner Bros. Pictures, Inc. She assumed and paid the balance $11,934.72 of unpaid rent due from Warner Bros. Pictures, Inc. to Samuel G. Sadaris. She also paid Warner Bros. $25,000 in weekly installments of $100. The total amount cancelled or paid by her was $59,499.88. No allocation of the consideration was made in the contract of November 23, 1934, of any particular item or of the leasehold as an item separate from the building improvements erected by lessees. While the sale279 of November 23, 1934, was being negotiated, Claire Pekras, on August 30, 1934, obtained from Ely an additional extension of the term of the lease to September 30, 1959. Claire Pekras paid $1,500 attorneys' fees for services in connection with negotiations with Ely for extension of the lease and in other legal matters connected with the theatre. She allotted $1,400 of this fee to services in connection with the lease. This $1,400 was deducted by her and allowed by respondent as an ordinary and necessary business expense in 1934. It was again set up in her return for 1940 as cost of the leasehold. In December, 1934, and during 1935, Claire Pekras paid $51,660.25 of the total consideration recited in the Warner Bros. contract. In 1936, she paid the balance of $7,839.63. In 1936, she made building improvements costing $6,701 and installed new equipment costing $14,393.93. In 1939, she added some equipment. As of May 1, 1940, her records showed: Property andDate AcquiredOriginalAmortizationUnamortized(Buildings)CostTakenCost1935$43,091.92$ 8,678.18$34,413.7419366,701.001,116.845,584.16(Equipment)19358,568.332,639.045,929.29193622,233.566,800.4315,433.131939285.1810.97274.21(Leasehold)1934NoneNoneNone$80,879.99$19,245.46$61,634.53280 Depreciation was deducted as to buildings on the basis of the term of the lease and as to equipment on the basis of the anticipated useful life. New Rivoli Theatre. November 12, 1913, the land was leased by the owner to Dachtler & Dachtler for the term expiring November 14, 1933, extended on August 28, 1915, to January 1, 1941. September 11, 1915, Dachtler & Dachtler sublet to Owen J. Bannon for the term expiring January 1, 1941, subleases to erect a theatre on the premises. The theatre was built in 1922-1923. September 26, 1922, Bannon assigned his interest in the lease to The Bannon Theatre Co. The lease provided that building improvements would revert to the owner of the fee on expiration of the term January 1, 1941. The term was never extended. John and Claire Pekras owned the majority of the shares of Bannon Theatre Co. May 4, 1937, the fee owners leased the premises to John Pekras, for a term January 1, 1941-December 31, 1965. He paid $4,500 to acquire outstanding adverse interests. In April, 1940, the Bannon Theatre Co. was the owner of the lease, owned the theatre building subject to the rights of the fee owners, and owned full title to the theatre equipment. The281 $4,500 was capitalized by John Pekras but no amortization thereon was claimed in his 1937, 1938, or 1939 returns. Lincoln Theatre. October 11, 1922, John Pekras became the lessee of part of a three story building for a term ending August 31, 1937. August 5, 1932, a new lease was made for a term expiring December 31, 1958, later changed to December 31, 1957. No consideration was paid for this lease beyond annual rental. In April, 1940, John Pekras owned the lease expiring December 31, 1957; all furnishings and equipment in the theatre, and the right to use building alterations and improvements made by him for the term of said lease. His unamortized cost of the equipment was $18,643.87. As of May 1, 1940, the petitioners and The Bannon Theatre Co. sold their respective interests in the three theatres to Amster, giving separate leases for the term May 1, 1940, to the expiration date of the respective underlying leases, and separate bills of sale of the equipment in each theatre. The sale price as to the Capitol Theatre was allocated in the agreement to $105,000 for the lease and $75,000 for the equipment and building rights. Claire Pekras received $26,850 in 1940, of which $23,807.08282 was profit. The entire sale price of $49,000 stated for the New Rivoli Theatre was for the lease alone; of this $49,000 John Pekras received $12,525 in 1940, of which $10,112.10 was profit. The sale price of the Lincoln Theatre was allocated $60,000 for the lease and $20,000 for the equipment and building rights; of this $60,000 John Pekras received $15,339 in 1940, of which $13,794.56 was profit. [Opinion] The only issue arises from the statement in the notices of deficiency: Since a lease is not a capital asset within the meaning of Section 117 (a) (1) of the Internal Revenue Code, the full amount of the gain realized consitutes taxable income. The taxpayers contend that this determination is erroneous. Section 117, which imposes the tax upon capital gains and in (a)(1) defines capital assets for the purpose of the statute, expressly excludes from definition "property, used in the trade or business, of a character which is subject to the allowance for depreciation provided in section 23(1)." As to the buildings and equipment, it is not disputed that they were subject to depreciation and therefore not capital assets. It is only necessary to determine whether the exclusionary283 language covers the leaseholds. The exclusionary language of the section deals with property of a character which is depreciable and not with property which for some local or particular reason has been the subject of allowances for depreciation. If the character of the property sold is such that it is properly subject to an allowance under Section 23(1), that is, if in character it is susceptible to exhaustion, wear and tear, including obsolescence, it is excluded from the definition of capital asset. The leaseholds that petitioners sold were acquired by purchase during their fixed terms. They were depreciable over the term upon their proper basis. The fact that the taxpayer did not treat any part of the total amount paid for the leasehold and equipment as cost of the leasehold and did not during his ownership deduct depreciation does not operate to characterize the leasehold as not, in character, subject to depreciation. Generally speaking, a leasehold is property of such character ( Fackler v. Commissioner, 133 Fed. (2d) 509, and it must be held upon the evidence that there was no error in the determination that the gain from the sale of the leaseholds284 was not a capital gain. There is no dispute as to the amount of the gain. The petitioners included 50 per cent thereof as taxable under Section 117 and the respondent determined the deficiencies by adding the other 50 per cent. He taxed the entire gain as ordinary gain. This determination was correct. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619796/	Jorge Pasquel v. Commissioner.Pasquel v. CommissionerDocket No. 38425.United States Tax Court1953 Tax Ct. Memo LEXIS 15; 12 T.C.M. (CCH) 1431; T.C.M. (RIA) 54002; December 23, 195315 Where petitioner, a noresident alien individual, furnished $100,000 to Higgins, Inc., a New Orleans shipbuilding corporation, to be used to pay the balance of the purchase price on two war surplus landing ships previously contracted for by Higgins, Inc., and the ships were sold within three months, petitioner receiving his entire investment and an additional $75,000 representing 50 per cent of the profits on the purchase and sale, held, petitioner's participation in this single, isolated transaction did not constitute engaging in a trade or business in the United States as contemplated by Sec. 211 (b) of the Internal Revenue Code. Richard B. Montgomery, Jr., Esq., 1105 Maritime Building, New Orleans, La., for the petitioner. M. Clifton Maxwell, Esq., for the respondent. ARUNDELLMemorandum Findings of Fact and Opinion Respondent determined a deficiency in the income tax of petitioner for the calendar year 1947 in the amount of $43,861.50 representing the tax on petitioner's $75,000 share of the profits on a transaction involving the purchase and sale of two war surplus landing ships. In computing the deficiency, no credit was given16 for $22,500 withheld at the source. Petitioner concedes his liability to the extent of that amount and respondent has agreed that in the administrative processes following the decision of this Court petitioner is to be credited with the $22,500 withheld. The sole issue to be decided is whether petitioner was taxable for the year 1947 as a nonresident alien engaged in a trade or business in the United States as contemplated by section 211 (b) of the Code. Findings of Fact Petitioner, a citizen and resident of Mexico, filed no United States income tax return for 1947. In the latter part of April, 1947, Higgins, Inc., a New Orleans shipbuilding corporation, arranged with the United States Maritime Commission for the purchase of two war surplus landing ships known as LST's for $75,000 each. After making a deposit on the purchase price, Higgins, Inc., requested the permission of the Maritime Commission to defer payment of the balance and delivery of the vessels for a period of three months. Permission was further requested to place watchmen on the ships until such time as the ships were removed. The purpose of the delay was to obtain additional time in which to raise the balance17 of the purchase price since Higgins, Inc., was in bad financial condition at that time. In June, 1947, Andrew Higgins, Jr., then vice-president of Higgins, Inc., called petitioner in Mexico City by telephone to inquire as to whether he would be interested in participating in the ship transaction. Shortly thereafter, Andrew Higgins, Jr., traveled to Mexico City to discuss the matter further with petitioner. The two men agreed that petitioner would supply $100,000 to conclude the purchase of the ships, with petitioner and Higgins, Inc., to divide equally any profits arising from resale of the vessels. Andrew Higgins, Jr., assured petitioner verbally that he would suffer no losses through the transaction and that he could earn as much as $50,000 to $100,000 but in no event less than $25,000. On June 23, 1947, petitioner cabled the $100,000 to New Orleans. At that time, the ships were at Claremont Harbor, Virginia. Neither petitioner nor Higgins, Inc., then knew when nor to whom the ships could be sold. The ships in question had substantial amounts of machinery and equipment aboard and a greater profit might be realized through the sale of that machinery and equipment apart from the18 ships. It was not known whether the ships could be sold as they were, or whether it would be necessary to convert them for peacetime use. Andrew Higgins, Jr., regarded the advances made by petitioner as essentially a loan and felt that he had at least a moral obligation to return the $100,000 with a minimum profit of $25,000 in any event. On June 27, 1947, Andrew Higgins, Jr., caused to be made a note in the amount of $125,000 payable by Higgins, Inc., to Higgins, Inc., endorsed in blank and secured by a recorded chattel mortgage on one of the vessels in question. The mortgage was in favor of one Gus B. Baldwin, Jr., a nominee. Although neither document was ever delivered to petitioner nor did he have any knowledge of their existence, they were caused to be made for his protection. Andrew Higgins, Jr., took this action in an effort to prevent losses to petitioner in the event of a worsening of the financial condition of Higgins, Inc. The avoidance of petitioner's name in the documents was designed to conceal the financial difficulties of Higgins, Inc., from petitioner who had an excellent opinion of that corporation. Shortly thereafter, Andrew Higgins, Jr., met in New York City19 with representatives of the Argentine Naval Commission who expressed interest in the two ships. In August, 1947, the vessels were sold to the Government of Argentina, which made a down-payment on the purchase price at that time. Immediately thereafter petitioner's $100,000 was returned, along with an additional $75,000 as his share of the profits, less $22,500 withheld by Higgins, Inc., and sent to the Treasury Department with Form #1042, Annual Return of Income Tax To Be Paid at Source. These amounts were paid from the down-payment made by Argentina. The ships were subsequently converted under the direction of Higgins, Inc., by a subcontractor. Petitioner had nothing to do with the conversion of the vessels. At no time during the year 1947 did petitioner enter the United States, nor was he involved in any other transactions in this country during that year. Opinion ARUNDELL, Judge: The primary issue in this case is whether petitioner, a nonresident alien, was, by reason of the transaction in question, engaged in trade or business in the United States and thus taxable on the profits from that transaction under section 211 (b) of the Code. It is respondent's position that the20 relationship between petitioner and Higgins, Inc., constituted a joint venture to be treated, for tax purposes, as a partnership, as defined by section 3797 (a)(2) of the Code. 1The facts herein differ somewhat from the ordinary case in which two or more parties agree initially to undertake a joint project. Here the purchase of the ships had already been contracted for by Higgins, Inc., and that corporation brought petitioner into the transaction only as an expedient means of financing an existing commitment which it could not meet by itself. When Higgins, Inc., agreed to resell the vessels to the Argentine Government, petitioner's participation was ended by the repayment of his $100,000, together with a handsome profit immediately after a downpayment was made by Argentina, notwithstanding21 the fact that conversion of the vessels under the direction of Higgins, Inc., had not yet been completed. The recognition by Andrew Higgins, Jr., of at least a moral obligation to see that the advanced sum was repaid to petitioner with a bonus of not less than $25,000, accompanied as it was by the execution by Higgins, Inc., of a chattel mortgage to protect petitioner, lends some support to petitioner's argument that the transaction should be regarded as a loan. However, even if we assume that the transaction was in fact a joint venture as contended for by respondent, we think that petitioner was not engaged in a trade or business in the United States within the meaning of section 211 (b). In European Naval Stores Co., S.A., 11 T.C. 127">11 T.C. 127, the petitioner, a Belgian corporation, had purchased certain naval stores in the United States in 1939. Delivery of the goods could not be accomplished because of embargoes following occupation of Belgium by the German armies. The vendor placed the goods in public storage until 1942 when, for the protection of the petitioner, it repurchased the goods without petitioner's knowledge. Because of substantial price increases during the22 years the material was in storage, there were profits from the repurchase which were credited to petitioner's account. In holding that the Belgian corporation was not engaged in a trade or business in the United States, we said: "The meaning of the phrases 'engaged in business,' 'carrying on business,' and 'doing business' were defined by the Circuit Court of Appeals for the Third Circuit in Lewellyn v. Pittsburgh, B. & L.E.R. Co., 222 Fed. 177. It was stated therein that, 'The three expressions, either separately, or connectedly, convey the idea of progression, continuity, or sustained activity. "Engaged in business" means occupied in business; employed in business. "Carrying on business" does not mean the performance of a single disconnected business act. It means conducting, prosecuting, and continuing business by performing progressively all the acts normally incident thereto, and likewise the expression "doing business," when employed as descriptive of an occupation, conveys the idea of business being done, not from time to time, but all the time. * * '" Respondent attempts to limit the application of that decision to the unique fact situation therein, but we23 said, after pointing out that the petitioner had never before sold its goods in the United States: "Such a sale, even when viewed without regard for the unusual circumstances which surrounded it, could hardly be held to constitute the petitioner's engaging in a trade or business in the United States. (Italics supplied.)" In Linen Thread Co., 14 T.C. 725">14 T.C. 725, the petitioner, a foreign corporation, was attempting to establish that it was engaged in trade or business in the United States. In support of that contention, it pointed to two transactions during the year in question involving its resident agent in the United States. On one of the transactions, petitioner, in Scotland, received an order from an individual in New York City for a quantity of thread which was shipped to the resident agent for delivery and collection of the purchase price. The resident agent did "the paper work" on the other transaction involving a shipment from petitioner to its subsidiary in the United States. Although the case was decided on other grounds, we said: "There is nothing of continuity or of sustained activity in these two small isolated transactions so as to warrant our regarding petitioner*24 as engaged in trade or business in the United States through its New York office on the strength of them." In the case at bar, Higgins, Inc., had already contracted with the United States Maritime Commission for the purchase of the vessels and made a down-payment at the time petitioner became involved. He furnished $100,000 for the completion of the purchase and within three months all of his money was returned, together with his 50 per cent share of the profits on the sale. At no time during the year did petitioner enter the United States, nor was he involved in any other transactions in this country. We think that petitioner's participation in this single and isolated transaction does not amount to engaging in trade or business in the United States as contemplated by section 211 (b) of the Code. It follows that respondent's determination of a deficiency in the amount of $43,861.50 was incorrect. The parties are agreed that there is a technical deficiency of $22,500 against which the $22,500 withheld at the source is to be credited so that petitioner will not be liable for any further payments. Decision will be entered under Rule 50. Footnotes1. 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 estate or a corporation; and the term "partner" includes a member in such a syndicate, group, pool, joint venture, or organization.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619798/	John F. Larison and Jane L. Larison v. Commissioner.Larison v. CommissionerDocket No. 33069.United States Tax Court1952 Tax Ct. Memo LEXIS 306; 11 T.C.M. (CCH) 190; T.C.M. (RIA) 52054; February 29, 1952306 Philip J. Weiss, Esq., 1101 Dexter Horton Bldg., Seattle, Wash., for the petitioners. John D. Picco, Esq., for the respondent. MURDOCKMemorandum Findings of Fact and Opinion The Commissioner determined a deficiency of $406 in income tax for 1947 against John F. Larison and deficiencies of $397.48 for 1948 and $433.40 for 1949 against both petitioners. The only issue for decision is whether four children of John F. Larison by a former marriage received more than one-half of their support from him for each of the taxable years. Findings of Fact The returns of the petitioners for the taxable years were filed with the collector of internal revenue for the District of Washington. John F. Larison, hereafter called the petitioner, was formerly married to Ruth M. Larison. They had four children, the first born in 1933 and the fourth born in 1939. They were divorced in August 1946 and Ruth was granted custody of the children. The petitioner thereafter married his present wife, Jane L. Larison, and Ruth married Charles Gordon. The petitioner was required by the decree of divorce to pay $30 per month for the support of each child. He paid the full amount required307 in 1948 and 1949, but paid only about $1,000 in 1947. The four children lived, during all of the taxable years with their mother. The petitioner claimed exemptions for all four of his children on his returns for each of the taxable years. The Commissioner, in determining the deficiencies, disallowed those exemptions. No one of the petitioner's four minor children received more than one-half of his support from the petitioner for any one of the taxable years. Opinion MURDOCK, Judge: The petitioner has filed no brief. This might indicate that he has abandoned his claims for the exemptions. But however that may be, he has failed in his burden of proof. The Commissioner determined that he was not entitled to an exemption for any one of the four children for any one of the taxable years. He failed to show that he supplied as much as one-half of the support of any one of the children for any one of the years. The evidence indicates that the Gordons supplied substantially more than one-half of the amounts necessary to support the children during each of the taxable years. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619799/	Five Star Manufacturing Company, Petitioner, v. Commissioner of Internal Revenue, RespondentFive Star Mfg. Co. v. CommissionerDocket No. 77398United States Tax Court40 T.C. 379; 1963 U.S. Tax Ct. LEXIS 117; May 21, 1963, Filed 117 Decision will be entered for the respondent. The petitioner obtained a judgment for money borrowed against one of its two stockholders who owned 50 percent of its stock and upon order of the court the stockholder's stock was sold at public auction. The petitioner acquired the stock upon a bid of $ 56,000 and, as permitted by the court, made payment of its bid by crediting $ 56,000 on the judgment it had obtained against the stockholder. Held, that the petitioner's stock so acquired had a fair market value of at least $ 56,000 on the date of acquisition by the petitioner and that the petitioner is not entitled to deduct any amount, either as an ordinary and necessary business expense under section 162(a) of the Internal Revenue Code of 1954 or as a bad debt under section 166 of the Code, on account of the transaction. L. Lamar Beacham, for the petitioner.Glen W. Gilson II, for the respondent. Atkins, Judge. ATKINS379 The respondent determined a deficiency in income tax for the taxable year ended June 30, 1957, in the amount of $ 18,377.89.380 The issue presented is whether the petitioner is entitled to deduct for its taxable year ended June 30, 1955, the amount of $ 56,000, or any part thereof, credited on its books against the outstanding indebtedness of one of its two stockholders, upon its acquisition from such stockholder of 50 percent of its outstanding stock. Dependent on the decision of this issue is the amount of a net operating loss carry-over to petitioner's taxable year ended June 30, 1957.FINDINGS OF FACTSome of the facts have been stipulated and are incorporated herein by this119 reference.The petitioner is a corporation organized under the laws of the State of Minnesota and operating in the State of Mississippi with its mailing address at Clarksdale, Miss. It filed its income tax return for the taxable year ended June 30, 1955, with the district director of internal revenue at Fargo, N. Dak., and its income tax returns for the taxable years ended June 30, 1956, and June 30, 1957, with the district director of internal revenue at Jackson, Miss. Its principal business is manufacturing and distributing automobile heaters known as the "Freeman Headbolt Heater." The petitioner's stock was owned 50 percent by W. S. Kincade and 50 percent by H. E. Smith, Jr. Kincade was its president and general manager and Smith was its vice president, and the two of them, together with their wives, constituted the petitioner's board of directors.The Freeman headbolt heater was covered by a patent issued to Andrew L. Freeman of Grand Forks, N. Dak., on November 8, 1949. On June 28, 1950, Freeman assigned under a "patent license agreement" the sole and exclusive right, for the term of the patent or renewal thereof, to manufacture, use, and sell this heater within the United120 States, its territories, dependencies, and possessions, to Kincade and Smith for a consideration of $ 80,000 plus royalties of 5 percent of the selling price of all such heaters manufactured, sold, and collected for, and in any event, a total minimum royalty of $ 10,000 per year.On the same day Kincade and Smith, as permitted by the above-described agreement, leased and let the exclusive patent license to manufacture, use, and sell the heater to the petitioner for 10 years under a "lease and option" for a consideration consisting of (a) $ 80,000, (b) payment to Kincade and Smith of 10 percent of the selling price of all heaters in excess of 200,000 sold by it within any annual accounting period, and (c) payment of royalties to Freeman and assumption of other obligations under the original patent license agreement.The petitioner commenced the manufacture and distribution of the heaters during 1950 and remitted the proper royalties to Freeman until April 20, 1952. After that time Freeman received no accounting for royalties from the petitioner or from Kincade or Smith.381 From an undisclosed time until early 1954 Smith withdrew from the petitioner, in the form 121 of salaries, expenses, and moneys borrowed, in excess of $ 350,000, which included cost of transportation of himself and his family in traveling within the United States and to foreign countries, which he charged to the petitioner. At that time Smith owed the petitioner on promissory notes approximately $ 88,000.In 1953 the petitioner borrowed $ 150,000 from the Bank of Clarksdale, Miss., on the personal endorsement of Kincade, since the petitioner could not borrow money in Clarksdale or in Grand Forks, N. Dak., without Kincade's personal endorsement. Of this amount the petitioner repaid the bank $ 100,000 and Kincade had to repay $ 50,000 out of his own pocket because of his endorsement. At the beginning of 1954 the petitioner owed Kincade approximately $ 296,000 for advances made by him to it.In 1954 a series of lawsuits was commenced involving the petitioner and its two stockholders, with the results hereinafter described.In April 1954 Freeman, since he had received no accounting for royalties since April 1952, brought two suits in the District Court of the United States for the District of North Dakota, Northeastern Division, against the petitioner, Kincade, and Smith, one122 suit to recover back royalties and the other to cancel the patent license agreement between himself and Kincade and Smith.In connection with the suit to recover unpaid royalties due under the license agreement, Freeman filed two writs of attachment, one dated April 14, 1954, covering 90,000 Freeman headbolt heaters in a warehouse in Grand Forks, N. Dak. (which represented approximately two-thirds of the petitioner's finished-goods inventory), and the other dated April 21, 1954, covering 213 extension cords and 4 vacant lots of the petitioner.The court in the first suit awarded Freeman a money judgment of $ 62,994.31, which judgment was reflected on petitioner's balance sheet as of June 30, 1954, for past royalties due. On the failure of the various defendants to appear and answer Freeman's complaint in the other suit, the court entered a judgment dated July 6, 1954, canceling the patent license agreement between Freeman and Kincade and Smith. Because Kincade paid a part of the judgment for past royalties and gave Freeman assurance of payment of the remainder, Freeman never executed on such judgment and never seized any of the inventory or other goods covered by the writs of attachment. 123 On July 13, 1954, Freeman entered into a new agreement with Kincade, personally, 1 for the licensing of the manufacture, use, and sale of Freeman headbolt heaters, which provided that a formal license 382 agreement should be executed containing substantially the same provisions, including the right to sublicense, as were contained in the prior license agreement. Such agreement remained in effect until May 11, 1955, when a formal license agreement was made between them.Sometime in early 1954 the petitioner made a demand upon Smith for payment of money which he owed it. Smith failed to pay, and instead, in March 1954 he filed suit in the District Court of the United States for the Northern District of Mississippi, Delta Division, 124 against the petitioner and Kincade to have a receiver appointed for the petitioner. Cross-complaints and counterclaims were filed; the cause was heard by the court on May 5, 1954; findings of fact, conclusions of law, and opinion were made by the court on May 12, 1954; and judgment dated May 12, 1954, was entered on all complaints. The court decreed that the petitioner should recover from Smith the sum of $ 88,610 on Smith's promissory notes held by the petitioner, subject to a credit of $ 7,500 for rentals due Smith from the petitioner. Smith was given 30 days in which to pay the judgment rendered against him, and the court appointed a special commissioner to sell Smith's stock in the petitioner for the satisfaction of such judgment unless it was paid to the petitioner on or before June 12, 1954. The judgment provided that if the petitioner should be the successful bidder at such a sale, it would have the right to apply all or part of its judgment against Smith in satisfaction of the bid. The court also entered judgment in favor of Kincade against the petitioner in the total amount of $ 296,723.21 and against Smith in the total amount of $ 16,562.60. The court dismissed, on125 the merits, Smith's petition for appointment of a receiver. 2 It left open Smith's and Kincade's claims for salaries from May 1953 to the date of judgment.126 Smith did not pay the judgment entered against him in favor of the petitioner by the date set by the court, June 12, 1954, and sale of his stock at public auction was held on June 25, 1954. The only persons who attended this sale were representatives of the petitioner, including Kincade, and Smith's attorney, and the only bid made at the auction was made by the petitioner in the amount of $ 40,000. On 383 July 8, 1954, Smith filed a motion to deny confirmation of the sale at the aforementioned price, asserting that he had been unable to raise sufficient cash to pay the judgment and alleging that the bid was an inadequate price and that the stock was worth far in excess thereof, and moved for an order of the court for resale of the stock. In his motion Smith guaranteed a bid of $ 48,000 for such stock, plus all costs of resale, and filed therewith his bond in the sum of $ 80,000 to guarantee the bid and payment thereof. Smith's motion was granted by the court.On July 19, 1954, the resale of Smith's stock in the petitioner was held and was attended only by representatives of the petitioner, including Kincade, and Smith's attorney. The only bid at such sale was made by the127 petitioner in the amount of $ 56,000, which bid had been approved by Kincade. Smith filed another motion for resale of the stock, but this motion was denied by the court by order dated July 26, 1954. The court also entered a judgment dated July 26, 1954, confirming the special commissioner's report of the sale; directing the special commissioner to execute an assignment to the petitioner of the shares of petitioner formerly standing in the name of Smith and his wife, authorizing the proper officer of petitioner to transfer such shares on its books, and vesting petitioner with all right, title, and interest in such shares; and ordering the sum of $ 56,000, less the special commissioner's fee paid by the petitioner, to be credited on the judgment against Smith. Pursuant to this judgment the special commissioner executed the assignment and transfer of such shares to the petitioner on the same date. The court's findings of fact, conclusions of law, and opinion, and the judgment entered pursuant thereto, were upheld by the U.S. Court of Appeals for the Fifth Circuit on April 18, 1956 ( Smith v. Kincade, 232 F. 2d 306).Immediately after the sale the128 petitioner made an entry on its books debiting "Treasury stock" $ 56,000 and crediting "Judgments receivable -- H. E. Smith, Jr." the same amount, and a second entry debiting "Capital stock (par value)" $ 10,000 and "Premium paid on treasury stock" $ 46,000 and crediting "Treasury stock" $ 56,000.The assets, liabilities, and book net worth of the petitioner as of July 19, 1954, the date of the sale, were accurately reflected by its balance sheet at June 30, 1954, as follows:ASSETSCurrent Assets:Petty Cash100.00 Red River National Bank -- Overdraft(809.58)Bank of Clarksdale11.63 Accounts Receivable1,008.92 Advance to Employees other than H. E. Smith, Jr607.93 Advance to H. E. Smith, Jr800.00 Coca-Cola fund173.49 Raw Materials Inventory81,915.09 Goods in Process Inventory15,312.98 Finished Goods Inventory389,212.33 Judgment Receivable -- H. E. Smith, Jr88,610.00 Accrued Interest Receivable699.17 Total Current Assets577,641.96Res. forFixed Assets:CostDepr.Land1,400.001,400.00 Factory Mach. and Equip25,276.8316,215.479,061.36 Leasehold Impr33,165.0918,548.0914,617.00 Office Furn. & Fix7,327.354,488.862,838.49 Trucks and Autos24,317.3413,433.5610,883.78 91,486.6152,685.9838,800.63Deferred Charges: Prepaid Insurance1,425.41Total Assets617,868.00LIABILITIES AND CAPITALCurrent Liabilities:Accounts Payable3,664.71 Accoutns Payable -- Delta Mfg. Co49,804.80 Due on Patent License18,684.03 Commissions Payable579.66 Rents Payable3,000.00 Notes Payable45,381.09 Accrued Interest Payable3,925.71 Social Security Tax Payable780.41 Withholding Tax Payable2,267.68 Unemployment Compensation Tax Payable321.47 Federal Excise Tax Payable56.73 Manufacturer's Excise Tax Payable763.53 Federal Income Tax Payable1,482.88 Judgments Payable -- W. S. Kincade296,723.21 Judgments Payable -- H. E. Smith, Jr.7,500.00 Accrued Interest Payable -- W. S. Kincade2,390.06 Accrued Interest Payable -- H. E. Smiht, Jr60.41 Salaries Payable -- W. S. Kincade36,166.77 Salaries Payable -- H. E. Smith, Jr25,833.33 Total Current Liabilities499,386.48Capital:Capital Stock20,000.00 Surplus -- June 30, 1953266,649.03 Net Loss for the Fiscal Year168,167.51Surplus -- June 30, 195498,481.52 Total Capital118,481.52Total Liabilities and Capital$ 617,868.00129 385 As of July 19, 1954, the net amount due petitioner from Smith was $ 56,715.43, computed by adding to the judgment of $ 88,610, interest thereon of $ 699.17 and a travel advance of $ 800, and by subtracting the $ 7,500 judgment in Smith's favor for rentals due, interest of $ 60.41 on such judgment, and accrued salary due him of $ 25,833.33. There remained a balance of $ 715.43 due from Smith after the credit of $ 56,000 by the petitioner on account of the purchase of Smith's stock in petitioner. The petitioner subsequently charged off the balance of $ 715.43 as a bad debt loss and claimed it as a deduction for income tax purposes (the year of deduction is not shown) and such loss was not disallowed by the respondent.Kincade, at an undisclosed time, attempted to collect the judgment rendered in his favor against Smith by filing suit against Smith in North Dakota, where Smith had property. Kincade prevailed in this action, but did not collect the money because Smith had transferred his property in North Dakota to his mother. Kincade did not locate any other assets belonging to Smith which would be subject to judgment.Within 30 days after the date of sale of Smith's stock, 130 July 19, 1954, the petitioner, through Kincade, attempted to borrow about $ 200,000 from the Bank of Clarksdale, but the bank refused to loan any money to the petitioner. The bank had never actually lost any money in dealings with either the petitioner or Kincade, since Kincade had always paid the petitioner's obligations when it did not. The bank did lend about $ 125,000 to Kincade, his wife, and his son for the benefit of the petitioner after the sale of Smith's stock.The petitioner did not attempt to resell to any third parties the stock acquired from Smith. The petitioner was never liquidated and was never put in receivership, 3 but after its acquisition of Smith's stock continued its business of manufacturing and distributing Freeman headbolt heaters. During the fiscal year ended June 30, 1955, and subsequent fiscal years, it made sales of heaters which it had on hand at July 19, 1954. The petitioner made payments to Kincade after July 1954 to the time of the trial of the instant case, in partial satisfaction of the judgment in his favor, and each year accrued interest thereon, but it did not accrue any salary on Kincade's behalf for the taxable years ended June 30, 1955, 131 1956, and 1957.The petitioner's income tax return for the taxable year ended June 386 30, 1953, reflected net income of $ 24,714.72, and its return for the taxable year ended June 30, 1954, showed a net loss of $ 168,167.51.The balance sheets on petitioner's income tax returns for the taxable years ended June 30, 1955, 132 1956, and 1957, showed the petitioner's total net worth at those dates to be $ 73,061.79, $ 151,302.34, and $ 274,945.96, respectively, of which amounts $ 10,200 in each case represented capital stock, and the balance represented earned surplus.In its return for the taxable year ended June 30, 1955, the petitioner deducted under the heading "Other deductions" the amount of $ 46,000, with the explanation "Loss on Redemption of Capital Stock." The petitioner's return for such taxable year reflected a net loss, before any net operating loss deduction from any other year, of $ 50,156.17. In its return for the taxable year ended June 30, 1956, the petitioner reported taxable income, before net operating loss deduction, of $ 34,587.31. The petitioner reduced this amount to zero by deducting a net operating loss carryover in the aggregate amount of $ 106,216.37, consisting of the remaining amount of net operating loss available for carryover from the taxable year ended June 30, 1954, of $ 56,060.20, and the net operating loss for the taxable year ended June 30, 1955, of $ 50,156.17.In its return for the taxable year ended June 30, 1957, the petitioner reported taxable income, before 133 any net operating loss deduction, of $ 168,534.40. The petitioner reduced this amount to $ 96,905.34 by deducting the remaining net operating loss carryovers from the taxable years ended June 30, 1954 and 1955, in the aggregate sum of $ 71,629.06.In the notice of deficiency the respondent reduced the amount of the allowable deduction on account of net operating loss carryover from the 2 prior years to $ 38,272.76, a reduction of $ 33,356.30. In reaching this result the respondent determined that the petitioner was not entitled to the claimed deduction of $ 46,000 for the taxable year ended June 30, 1955, stating as follows:It is held that your purchase of your capital stock at auction held by order of a Federal District Court for a price of $ 56,000.00 did not entitle you to a deductible loss of $ 46,000.00, or any other amount, nor did such transaction result in an allowable bad debt deduction in the amount of $ 46,000.00, or in any other amount by reason of using as a part of the purchase, the amount of a net balance receivable from the seller of the stock; such cost is held not deductible under any of the provisions of the Internal Revenue Code.On July 19, 1954, the stock of134 petitioner which it received from H. E. Smith, Jr., being one-half of its outstanding stock, had a fair market value of at least $ 56,000.OPINIONThe petitioner contends that as a result of its acquisition in the fiscal year ended June 30, 1955, of 50 percent of its outstanding stock from Smith, it is entitled to a deduction of $ 56,000 either as an ordinary 387 and necessary business expense under section 162 of the Internal Revenue Code of 1954, or as a bad debt under section 166 of the Code. The $ 56,000 is the amount credited against the indebtedness of Smith to the petitioner upon the transfer to petitioner, pursuant to the judicial sale, of its stock held by Smith. 4It is the petitioner's primary contention that in purchasing Smith's stock, which it contends was worthless, for a price of $ 56,000 it made135 an expenditure constituting an ordinary and necessary business expense which is deductible. In support thereof it maintains that the purchase was required as a business necessity in order to regain the right to sell its only product and continue in existence. It states that it was necessary that Smith's stock be gotten out of his hands in order to prevent liquidation of the petitioner either by Smith, or by the other stockholder, Kincade, to protect his interest. These contentions are based upon the facts that the patent license under which the petitioner had operated had been canceled by the licensor because of nonpayment of the royalties, and that such licensor was unwilling to grant a license agreement so long as Smith was involved in any way.The respondent, on the other hand, contends that the petitioner's stock had a fair market value of at least $ 56,000; that no loss resulted in fact or for tax purposes; that the purchase price of the stock did not amount to an ordinary and necessary business expense; and that there was no bad debt loss since petitioner acquired its own stock, which was valuable, in payment thereof, and since, in addition, there is no showing of the year136 of worthlessness of Smith's debt to petitioner, if it ever was worthless.Apparently the parties are agreed that the instant case is not affected by section 311 of the Internal Revenue Code of 1954, which provides generally that no gain or loss shall be recognized to a corporation on distributions with respect to its stock. The regulations under section 311 make it clear that that section does not apply to transactions between a corporation and a shareholder in his capacity as a debtor. 5137 388 We agree with the respondent that the petitioner is not entitled to any deduction on account of the transaction in question. Smith had borrowed money from the petitioner and in early 1954 owed the petitioner about $ 88,000. At that time the petitioner made demand upon Smith for payment, but Smith refused to pay and instead filed a suit in the U.S. District Court, Northern District of Mississippi, against the petitioner and Kincade to have a receiver appointed for the petitioner. Cross-claims and counterclaims were filed. That court on May 12, 1954, entered a judgment against Smith and ordered that his stock be sold in satisfaction of the judgment, if he did not pay. Smith did not pay, and the petitioner bid $ 40,000 for the stock at the auction. Upon motion of Smith, based on the ground that the price was inadequate and that the stock was worth in excess thereof, the court ordered a resale. Smith guaranteed a bid of $ 48,000. Upon the resale of such stock the petitioner bid $ 56,000 and obtained the stock. A further motion by Smith to set aside this sale was denied on July 26, 1954. Pursuant to a provision of the May 12 judgment of the court, the petitioner applied138 $ 56,000 of its judgment against Smith in satisfaction of the bid price for the stock. The decision of the District Court was affirmed in Smith v. Kincade, (C.A. 5) 232 F. 2d 306, the Court of Appeals holding that the May 12 judgment of the District Court became a final determination of the rights of the parties after such judgment, no appeal having been filed within the 30-day period. It also approved the sale of the stock as being a proper execution of the judgment which had become final.In essence, then, there was a payment by Smith of his debt to the petitioner to the extent of the fair market value of his stock in the petitioner. It has been reiterated many times that fair market value is the price at which property would change hands in a transaction between a willing buyer and a willing seller, neither being under compulsion to buy or to sell, and both being informed. O'Malley v. Ames, (C.A. 8) 197 F. 2d 256, and cases cited therein.Based upon a consideration of the whole record, we have concluded and have found as a fact that the petitioner's stock received by it from Smith had a fair market value 139 at the time received, on July 19, 1954, of at least $ 56,000. In any event the petitioner, who bears the burden of proof, has not shown that the fair market value of the stock was less than $ 56,000. The balance sheet of the petitioner as of June 30, 1954, which the parties have agreed reflects the book net worth of the petitioner at July 19, 1954, indicates a book value for the one-half of the petitioner's stock owned by Smith of over $ 59,000. It is true, of course, that book value is not synonymous with fair market value. However, the petitioner has not established that the fair market value of the net assets of the petitioner was less than $ 56,000. Kincade's testimony was merely to the effect that the assets shown on the balance 389 sheet, with the exception of the finished-goods inventory, could not be sold for more than the amounts shown on the balance sheet, and possibly could be sold only for less than such values. It is contended by the petitioner that not all of the finished-goods inventory of $ 389,212.33 should be taken into consideration in calculating the book value, since Freeman, the licensor, had obtained a writ of attachment covering approximately two-thirds140 thereof for the purpose of collecting past-due royalties in the amount of about $ 63,000. However, Freeman never did seize any of the inventory pursuant to the writ, since Kincade paid part of the past-due royalties, and guaranteed payment of the rest. It is reasonable to conclude that this occurred prior to July 19, 1954, since on July 13, 1954, Freeman entered into a new agreement to grant a license to Kincade personally. It would seem then that the stock in question had a book or liquidating value of at least $ 56,000 as of July 19, 1954. In addition, we think the bid of $ 56,000, which the petitioner made on July 19, 1954, for the stock, and which was approved by the court, is persuasive evidence of the fair market value of Smith's stock. The court had rejected a prior bid of $ 40,000 made by petitioner for the stock and Smith was willing to bid, and guaranteed to bid, $ 48,000.The petitioner argues that the stock could not have any value because the petitioner did not have the right to use the patent license. However, as pointed out above, prior to July 19, 1954, namely, on July 13, 1954, Kincade had obtained from Freeman a new agreement to grant a license to him personally. 141 By that time it was assured that Smith would be eliminated as a stockholder since he had not paid the judgment against him, and his stock was required to be sold under court order. Indeed, the petitioner concedes that on July 19, 1954, the petitioner had the right to acquire Smith's stock, although the stock was not actually transferred until July 26, 1954. We think it also reasonable to conclude that as of July 19 it was assured that the petitioner would have the right to continue to manufacture and sell its product. As pointed out, Kincade, who on July 19, 1954, became the sole stockholder of the petitioner, obtained on July 13, 1954, an agreement from Freeman to grant Kincade, personally, a patent license. This agreement permitted Kincade to sublicense, and it seems clear that Kincade intended to and did, in effect at least, sublicense to the petitioner, since the evidence shows that upon the acquisition by the petitioner of Smith's stock it continued its business of manufacturing and distributing the automobile heaters. In this connection we note that Kincade testified that it was an advantage to him to have the petitioner, that he could not operate without it, and that 142 he intended to see that it was never liquidated. It seems evident that Kincade considered that the stock of the petitioner had value. We therefore cannot accept his testimony that the stock was not salable at July 19, 390 1954. His reason for so stating was that the petitioner did not have the right to sell its only product; but, as pointed out above, Kincade had the right to sublicense to the petitioner, which he apparently did. It may be added that subsequent events demonstrate that the stock did, in fact, have value. According to the balance sheet attached to the petitioner's return for its taxable year ended June 30, 1957, its net worth had increased to about $ 275,000.We are not satisfied that the stock would not be salable if potential buyers were advised of all the circumstances existing at July 19, 1954. The petitioner did not attempt to sell the stock. But, even if there was not a ready market for the stock in recognized market channels, it nevertheless had a "fair market value" within the contemplation of the revenue acts. As pointed out in Whitlow v. Commissioner, (C.A. 8) 82 F.2d 569">82 F. 2d 569, affirming a Memorandum Opinion of this143 Court, fair market value is a term and a measure long used in the law as applicable to property having no actual current market place, and the revenue acts used the term in this broad sense. See also Maxfield v. United States, (C.A. 9) 152 F.2d 593">152 F. 2d 593, certiorari denied 327 U.S. 794">327 U.S. 794; O'Malley v. Ames, supra; and George M. Wright, 19 B.T.A. 541">19 B.T.A. 541, affd. (C.A. 4) 50 F. 2d 727, certiorari denied 284 U.S. 652">284 U.S. 652.We have given due consideration to the testimony of two witnesses engaged in the investment or brokerage business, who expressed opinions as to the value of the petitioner's stock. Each of them testified that the stock had no value. Neither of them was familiar with the details of the petitioner's business or the circumstances existing at July 19, 1954. Their opinions were based upon an examination of the balance sheet of the petitioner, and upon the assumptions that two-thirds of the petitioner's inventory of about $ 389,000 was under attachment and that the petitioner had lost its license to manufacture144 and sell its only product. We cannot accept their opinion that the stock was worthless in view of the facts, as stated above, that by July 19, 1954, Kincade, who as a result of the transaction became the sole stockholder of petitioner, had made arrangements with Freeman to make payment of the past-due royalties and thereby discharge the writ of attachment, and had obtained the right to manufacture and sell the automobile heaters, which right he obviously intended to, and did in effect, transfer to the petitioner. Indeed, one of such witnesses testified that if the attached inventory were salable, his opinion would be somewhat different.Having concluded that the stock which the petitioner received from Smith had a fair market value at least equal to the amount of the indebtedness canceled, it follows, of course, that the petitioner sustained no loss by way of bad debt upon the cancellation of $ 56,000 of Smith's indebtedness. None of the cases cited by the petitioner is in point here. For example, in Raymond R. Bill & Co., 15 B.T.A. 320">15 B.T.A. 320, 391 one of the principal cases relied upon by the petitioner, the taxpayer accepted in payment of a debt145 owed to it one-half thereof in cash and one-half in stock of the debtor which was worthless at the time received. We there held that the taxpayer had sustained a deductible loss to the extent of one-half of the debt. That case is distinguishable in view of our finding that the stock which petitioner received in the instant case had a fair market value at least equal to the amount of the debt satisfied.Furthermore, we cannot conclude that the purchase by the petitioner of its stock was a purchase the cost of which constitutes an ordinary and necessary business expense. A claimed deduction is allowable only where the statute clearly makes provision therefor, and where the taxpayer shows that he comes within the statute. New Colonial Co. v. Helvering, 292 U.S. 435">292 U.S. 435, and Welch v. Helvering, 290 U.S. 111. Section 162(a) of the Internal Revenue Code of 1954 provides for the deduction of all ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business. The statute contemplates as ordinary and necessary business expenses the purchase price of only those items used in146 the business, the useful life of which does not extend beyond the current year. Hotel Kingkade v. Commissioner, (C.A. 10) 180 F. 2d 310, affirming 12 T.C. 561">12 T.C. 561; and Journal-Tribune Publishing Co., 38 T.C. 733">38 T.C. 733, on appeal (C.A. 8). Thus, even if it be assumed that the basic purpose of the acquisition of the stock was to benefit the petitioner's business, by making it possible to regain the right to manufacture and sell the automobile heaters, the purchase price would not be a deductible current expense. Rather, it seems obvious that any benefit resulting from the purchase of the stock would extend over an indefinite number of years.The petitioner cites, among other cases, Tulane Hardwood Lumber Co., 24 T.C. 1146">24 T.C. 1146, in which it was held that the cost of a debenture of a plywood manufacturer bought by the taxpayer, a lumber dealer, in 1946 to insure it a source of plywood, was deductible in 1950 as a business expense or loss when the debenture became worthless. It also cites Journal Co. v. United States, (E.D. Wis.) 195 F. Supp. 434">195 F. Supp. 434,147 in which the taxpayer purchased stock in a papermill in 1946 in order to secure newsprint, and it was held that the petitioner was entitled to deduct as an ordinary and necessary expense a loss upon the sale of such stock in a later year. Neither of those cases is in point, since in the instant case we are not concerned with a later sale of the stock or its becoming worthless later. Indeed, it would seem that in the instant case the petitioner canceled the stock of Smith which it purchased, as evidenced by the entry made crediting treasury stock, and the fact that on its subsequent balance sheets capital stock was reflected 392 at only $ 10,200 instead of the amount at which it had previously been carried, namely, $ 20,000.We conclude that the petitioner is not entitled to any deduction on account of the transaction in question.Decision will be entered for the respondent. Footnotes1. Freeman was willing to enter into this agreement with Kincade because he, Kincade, had carried out his promise to Freeman and had paid the royalties, whereas Smith had not. He was unwilling to enter into any agreement which would involve Smith, whether with the petitioner or otherwise.↩2. In its opinion the court stated in part:"If there were any creditors or innocent stockholders of this corporation, I would unhesitatingly put it in receivership, with orders to the receiver to proceed, in so far as possible, to make the directors disgorge for their benefit. I find no one, however, in that category. The only creditor of any consequence [Kincade] is not here complaining and seems to be well on the way toward protecting himself in litigation now pending. * * "The court finds that, if there is to be salvation for The Five Star Manufacturing Company, it will have to come from the use of Mr. Kincade's personal credit, his know-how in this business and his energy and business ability, and that to hamper this use by the appointment of a receiver would be absolutely fatal to the future of the corporation and could mean only liquidation, disastrous to all concerned, and, therefore, the prayer for a receivership is denied."↩3. At some time subsequent to July 26, 1954, the petitioner filed an answer praying for the dismissal of a petition and complaint filed by Smith on June 8, 1954, in the District Court for Polk County, Minn., for the dissolution and liquidation of the petitioner and the appointment of a liquidating receiver thereof. A hearing on Smith's petition had been set for July 8, 1954, but had been continued pending the final decision of the District Court of the United States for the Northern District of Mississippi. Smith's petition in the Minnesota court was ultimately dismissed on the ground that Smith, no longer being a stockholder of the petitioner, was unable to maintain such an action against it.↩4. In its return for the taxable year ended June 30, 1955, the petitioner claimed a deduction of only $ 46,000. However, by amended petition it alleges that the full amount of $ 56,000 is deductible.↩5. Section 1.311-1(e) of the Income Tax Regulations provides as follows:(1) Section 311 is limited to distributions which are made by reason of the corporation-stockholder relationship. Section 311 does not apply to transactions between a corporation and a shareholder in his capacity as debtor, creditor, employee, or vendee, where the fact that such debtor, creditor, employee, or vendee is a shareholder is incidental to the transaction. Thus, if the corporation receives its own stock as consideration upon the sale of property by it, or in satisfaction of indebtedness to it, the gain or loss resulting is to be computed in the same manner as though the payment had been made in any other property.(2) The following examples illustrate the application of subparagraph (1) of this paragraph: * * *Example (2). Corporation C, a corporation engaged in the manufacture and sale of automobiles, sells an automobile to individual X, and receives in payment therefor shares of the stock of Corporation C. The transaction will be treated in the same manner as if an amount of cash equal to the fair market value of such stock had been received by Corporation C.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619801/	DONALD GROVER JOHANSEN, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentJohansen v. CommissionerDocket No. 13165-79.United States Tax CourtT.C. Memo 1980-150; 1980 Tax Ct. Memo LEXIS 434; 40 T.C.M. (CCH) 278; T.C.M. (RIA) 80150; April 30, 1980, Filed 434 Donald Grover Johansen, pro se. Donald W. Hicks and Francis J. Elwood, for the respondent. FEATHERSTONMEMORANDUM OPINION FEATHERSTON, Judge: Respondent has filed a motion for judgment on the pleadings in this case which involves a determined deficiency in the amount of $1,405 for 1976. In the notice of deficiency respondent determined that petitioner had omitted from his 1976 Federal income tax return interest income in the amount of $3,123. The interest was determined to have been received from two designated sources. Petitioner implicitly admits in his petition that he received the additional interest income, alleging: I disagree that the $3,123 payment to me represents true gain or benefit received by me in the form of real income. Instead this amount should be decreased by the loss of purchasing power of the principal from which the interest was generated. Based on a principal amount of $47,400 and a 1976 CPI increase of 5.8% (U.S. Dept. of Labor) I have computed the real income as: $3,123 - ($47,400 X 0.058) = $374. This amount is the gainful income received insofar as additional goods or services may be purchased. This amount is the435 only amount subject to taxation according to Amendment 14 of the U.S. Constitution. A tax on any greater amount violates Amendment 5 protection against seizure of private property for public use. Obviously there is no legal merit in petitioner's position as set forth in these allegations. The extent of a taxpayer's income tax liability is not keyed to the Consumer Price Index, and the failure of the Congress to make that connection does not violate petitioner's constitutional rights. See, e.g., Gajewski v. Commissioner,67 T.C. 181">67 T.C. 181, 193 (1976), affd. per order (8th Cir. May 2, 1978). Respondent's motion for judgment on the pleadings will be granted. To reflect the foregoing, An appropriate order and decision will be entered.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619803/	Pat N. Fahey and Lela M. Fahey, Petitioners, v. Commissioner of Internal Revenue, RespondentFahey v. CommissionerDocket No. 27145United States Tax Court16 T.C. 105; 1951 U.S. Tax Ct. LEXIS 307; January 18, 1951, Promulgated 307 Decision will be entered for the respondent. Petitioner Pat N. Fahey is a member of a law firm in Houston, Texas. When he joined the firm in 1942, it had been employed to conduct certain litigation on a contingent fee basis. An attorney in Louisiana was also employed in the case and he was to receive as his fee the other one-half of the contingent fee. Petitioner, when he joined the firm, had it understood that he would take no part in the litigation and would receive no part of the fee. In December 1942, the Louisiana lawyer became ill and was short of funds and assigned one-half of his interest in the fee for a cash consideration to petitioner and two other lawyers in the firm. In 1945, the litigation was settled and petitioner was paid his part of one-half of the Louisiana attorney's part of the fee; this part of the fee petitioner returned as long-term capital gain. Held, the gain realized by petitioner in 1945 by the collection and settlement of the interest which he owned in the fee was not capital gain because in the collection of the amount which petitioner received he did not sell or exchange anything. Hale v. Helvering, 85 Fed. (2d) 819,308 affirming 32 B. T. A. 356, followed. Pat N. Fahey, pro se.John P. Higgins, Esq., for the respondent. Black, Judge. BLACK 105 The Commissioner has determined a deficiency in petitioners' income tax for the year 1945 of $ 275. The deficiency is due to two adjustments made to the net income shown on the joint return filed by petitioners. Only one of these adjustments is contested. It is explained in the deficiency notice, as follows:It has been determined that the entire amount of $ 31,500.00 received by the partnership, Taliaferro, Graves, Hutcheson and Fahey, from the executors of the Estate of Clyde A. Barbour, Sr., as provided in the agreement of compromise entered into with the said executors under date of September 6, 1945, constitutes ordinary income from fees for services. Accordingly, your distributive309 share of income from the said partnership consists entirely of ordinary partnership income and no portion thereof may be treated as long-term capital gain derived from the sale or exchange of a capital asset.Petitioners by appropriate assignments of error contest the foregoing adjustment.106 FINDINGS OF FACT.Petitioners are husband and wife who reside in Houston, Texas. Their joint return for the year 1945 was filed with the collector for the first district of Texas at Austin, Texas. Pat N. Fahey will sometimes hereafter be referred to as petitioner.On or about April 15, 1942, petitioner joined the law firm of Taliaferro, Graves & Hutcheson, and thereafter the firm was known as Taliaferro, Graves, Hutcheson & Fahey. The offices of the firm were in Houston, Texas. The profits of the firm were to be shared equally between Taliaferro, Graves, and Fahey; Palmer Hutcheson, Jr., was not to share in the profits as he had joined the Navy.At the time petitioner joined the firm, Taliaferro and Graves were representing Mrs. C. A. Barbour and her children in a suit in the United States District Court in which they were plaintiffs, and in which C. A. Barbour, Jr., as executor of310 the estate of Clyde A. Barbour, Sr., deceased, and F. M. Law, as executor of said estate, and the First National Bank of Houston, Texas, were defendants. Due to petitioner's business relationship with the bank, he did not desire to participate in the suit against the defendants; therefore, it was agreed between petitioner and the other members of the partnership that he was not to share in any of the fees earned in the Barbour suit.On June 30, 1941, James R. Parkerson was retained as counsel on a contingent fee basis by Jennie Hobbs Barbour, Jessie Collins Barbour, and William Alsworth Barbour to represent them in the suit against the estate of Clyde A. Barbour, Sr., deceased. A separate contract containing identical provisions to the above-mentioned contract was entered into by James R. Parkerson with Lucille Barbour Holmes and Thomas J. Holmes, Jr., under date of June 8, 1941. A separate contract containing identical provisions to the above-mentioned contract was entered into by James R. Parkerson with Lena Barbour Lewis under date of July 8, 1941.On August 9, 1941, James R. Parkerson assigned to T. S. Taliaferro, L. W. Graves, Jr., and Palmer Hutcheson, Jr., a one-half undivided311 interest in and to the interest which he had in the agreements mentioned above. During the latter part of 1942, due to illness, Parkerson desired to assign one-half of the interest which he had previously retained, or one-fourth of the total interest, for the sum of $ 800. After talking it over with Taliaferro and Graves, petitioner agreed to join them in the purchase of one-half of the interest previously retained by Parkerson in the fees to be earned by Parkerson. Taliaferro, Graves and petitioner borrowed $ 800 from the First National Bank of Houston, Texas, and bought one-half of the interest previously retained by Parkerson in the fees earned and to be earned by him. 107 A note was given to the bank for $ 800 -- the firm's name was not on the note. Petitioner's name was not mentioned in this assignment by Parkerson, but it was understood that he was to share in whatever was realized for that part of the fee.The work in connection with the Barbour suit was handled mainly by Graves. Taliaferro also did some work on the case. Petitioner did no work on the case; it was agreed that he would not do so at the time he became a member of the firm. The Barbour suit was compromised312 and settled in 1945, and total fees were paid in the amount of $ 42,000. By virtue of the assignment dated August 9, 1941, the firm of Taliaferro, Graves & Hutcheson was entitled to $ 21,000 of the $ 42,000 fee received for their services in the case. By virtue of the assignment dated December 7, 1942, from Parkerson of one-half of his interest in the contingent fee, Taliaferro, Graves and petitioner were entitled to $ 10,500 of the $ 42,000 received.When time came for distribution, petitioner received a check of Taliaferro, Graves, Hutcheson & Fahey in the amount of $ 2,625, it being stated that this was his share of the $ 10,500. Petitioner contended that he was entitled to $ 3,500 but was advised that the other members of the firm had an agreement with Palmer Hutcheson, Jr., a former partner, which required them to pay a part of the Parkerson fee to Hutcheson. As a result of a settlement, petitioner received a check from Hutcheson in the amount of $ 292.50.In the partnership return of Taliaferro, Graves, Hutcheson & Fahey for the taxable year 1945, a gain resulting from the one-half interest in Parkerson's part of the fee purchased from him for $ 800 was reported in the amount313 of $ 9,700 ($ 10,500 minus $ 800), taxable at 50 per cent, or $ 4,850. In the partnership return, the gain of $ 4,850 was shown as distributable to Taliaferro, Graves, Hutcheson, and Fahey in the amount of $ 1,212.50 each. The balance of the fee received, namely, $ 21,000 was reported as ordinary income on the partnership return and all of this was reported as distributable to T. S. Taliaferro and L. W. Graves, Jr.In petitioner's income tax return for 1945, he reported as capital gain his gain resulting from the purchase and subsequent collection of an interest in the Parkerson fee. He took into income $ 1,324.92 which was 50 per cent of his net gain from this purchase and collection and he explained it in his return, as follows:I purchased for $ 266.66 1/3 a 1/6 interest in the contingent fee of James R. Parkerson of Franklin, Louisiana in the case of Barbour vs. Barbour then pending in the U. S. District Court for the Southern District of Texas. When the case was finally settled, I received as 1/6 of the fee, $ 2,916.50 leaving a net of $ 2,649.84.108 OPINION.We have but one issue in this proceeding and that is whether the net amount which petitioner received by virtue314 of his purchasing a one-third interest in one-half of James R. Parkerson's interest in a contingent fee contracted for in the litigation of Barbour v. Barbour pending in the United States District Court for the Southern District of Texas was all taxable as ordinary income, as the Commissioner has determined, or was taxable as capital gain and only 50 per cent thereof to be taken into income, as petitioners have treated it in their income tax return and still contend in the brief which they have filed.The applicable statute is printed in the margin. 1315 For the purpose of deciding the only issue which we have here to decide we will assume, without deciding, that the interest which petitioner purchased in 1942 in the Parkerson contingent fee was a capital asset within the meaning of section 117 (a) (1), I. R. C. However, even assuming that fact, petitioner cannot prevail. What he received in 1945 by reason of his ownership of part of the Parkerson fee was not received as a result of a sale or exchange of his interest in the fee; it was merely a collection of his interest in the fee. Petitioner seems to be under the impression that because he purchased his interest in the Parkerson fee, then anything which he collected in excess of the purchase price would be capital gain. This erroneous impression of petitioner is clearly indicated from the following quotation from his brief, wherein he says: "Now since the rights or benefits under Parkerson's sale or assignment of December 1942 was a capital asset and was sold to him and his associates, the gain which accrued to petitioner Fahey was a capital gain."Petitioner seems to overlook that provision in section 117 (a) (4) which says: "The term 'long-term capital gain' means gain from316 the sale or exchange of a capital asset held for more than 6 months." It is true, of course, that petitioner had owned and held his interest in the Parkerson fee for a period of more than 6 months, but in collecting it he did not sell or exchange anything. If, prior to the 109 compromise in 1945 of the Barbour litigation, petitioner had sold or exchanged his interest in the Parkerson fee, then there might have been some force in his contention that his gain from the sale or exchange of his interest in such contingent fee would be taxable as capital gain. But what happened was this: In 1945, the Barbour litigation was brought to an end by a compromise between the parties and as a result of the compromise, the lawyers received $ 42,000 as contingent fees. Of this amount, $ 21,000 was paid to Taliaferro and Graves for their legal services in the litigation. Petitioner received no part of that $ 21,000 because he had rendered no services in the litigation and it had been agreed beforehand that he would not take part in the suit and would not receive any part of his firm's fees for legal services rendered in the litigation. Of the remaining $ 21,000, $ 10,500 was paid to Parkerson317 as the original lawyer in the case and the other $ 10,500 was paid over to Taliaferro, Graves and Fahey, not because of any legal services which they had rendered in the litigation, but because of a purchase for $ 800 which they had made in 1942 of one-half of Parkerson's interest in the contingent fee. Of this latter $ 10,500, petitioner received the amount which is here in question.As we have already pointed out, he received his part of this $ 10,500, not as a result of any sale or exchange of his interest in the Parkerson fee but as a collection or settlement of it. That sort of a situation does not bring the gain which he realized as a result of the collection which he made within the capital gains provision of section 117, I. R. C. See Hale v. Helvering, 85 Fed. (2d) 819, affirming 32 B. T. A. 356. In the Hale case there was a compromise of notes for less than face value and the taxpayer claimed there was a sale or exchange of the notes within the meaning of the capital gains provision of the statute. In deciding the issue against the taxpayer, we said:* * * The petitioners did not sell or exchange the mortgage318 notes, and consequently an essential condition expressly required by the statute has not been met and no capital loss has been suffered. Cf. Mont S. Echols, 24 B. T. A. 1127; aff'd., 61 Fed. (2d) 191; John H. Watson, Jr., 27 B. T. A. 463. * The Court in affirming our decision held that there was no sale or exchange of the notes and in so holding, the Court said: * * There was no acquisition of property by the debtor, no transfer of property to him. Neither business men nor lawyers call the compromise of a note a sale to the maker. In point of law and in legal parlance property in the notes as capital assets was extinguished, not sold. In business parlance the transaction was a settlement and the notes were turned over to the maker, not sold to him. * * We think the rationale of Hale v. Helvering, supra, is controlling here and on this issue we hold against petitioners. Cf. Fairbanks v. United States, 306 U.S. 436">306 U.S. 436.Decision will be entered for the respondent. Footnotes1. INTERNAL REVENUE CODE.SEC. 117. CAPITAL GAINS AND LOSSES.(a) Definitions. -- As used in this chapter --(1) Capital assets. -- The term "capital assets" means property held by the taxpayer (whether or not connected with his trade or business), but does not include stock in trade of the taxpayer or other property of a kind which would properly be included in the inventory of the taxpayer if on hand at the close of the taxable year, or property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business, or property, used in the trade or business, of a character which is subject to the allowance for depreciation provided in section 23 (l), * ** * * *(4) Long-term capital gain. -- The term "long-term capital gain" means gain from the sale or exchange↩ of a capital asset held for more than 6 months, if and to the extent such gain is taken into account in computing net income; [Emphasis added.]	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619807/	Bell Oldsmobile, Inc. v. Commissioner.Bell Oldsmobile, Inc. v. CommissionerDocket No. 85928.United States Tax CourtT.C. Memo 1963-76; 1963 Tax Ct. Memo LEXIS 268; 22 T.C.M. (CCH) 330; T.C.M. (RIA) 63076; March 15, 1963268 Paul T. Smith, Esq., 209 Washington St., Boston, Mass., and Manuel Katz, Esq., for the petitioner. John R. Berman, Esq., for the respondent. RAUMMemorandum Opinion RAUM, Judge: The Commissioner determined deficiencies in income tax against petitioner in the amounts of $36,680.59 and $10,118.57 for 1956 and 1957, respectively. The principal adjustments responsible for these deficiencies are no longer in dispute. There remains in controversy a single issue whether in the circumstances of this case the unexpended portions of travel and entertainment allowances, paid by petitioner during these years to its two principal officer-stockholders, are deductible by it as additional compensation for their services. The facts have been fully stipulated. Petitioner, a Massachusetts corporation engaged in business as an automobile dealer, filed its original and amended income tax returns for 1956 and 1957 with the district director of internal revenue for the district of Massachusetts. During 1956 and 1957 Morris E. Bell and Alexander Bell were the principal officers and substantial stockholders of the corporation. They were its only compensated officers, and were also on269 its board of directors, which had three members. At a meeting of the board of directors on February 6, 1956, the salary of each of the Bells was fixed $52,000 per year "in addition to any money or monies to be drawn by them for any entertainment and expenses." At the same meeting they adopted the following resolution, which the parties stipulate is applicable to both 1956 and 1957: In the event that monies drawn by Alexander Bell or Morris E. Bell for entertainment and expenses in behalf of this corporation any unexpended sums to be considered wages in addition to the fifty-two thousand ($52,000.00) dollars herein before referred to. During 1956 and 1957, respectively, Morris and Alexander each received $52,400 and $51,933.33 as compensation for services rendered to petitioner. In 1956 and 1957 Morris and Alexander each received identical travel and entertainment allowances, in the amounts of $5,400 and $7,800, respectively. However, it is stipulated that each of them expended only $3,120 for such purposes during each of the years. Thus there remained unexpended in the hands of each of them $2,280 in 1956 and $4,680 in 1957. Petitioner did not declare or pay any dividends270 during 1956 and 1957. It had an earned surplus of not less than $14,554.09 as of December 31, 1955, an earned surplus of not less than $39,865.45 as of December 31, 1956, and an earned surplus of not less than $55,541.62 as of December 31, 1957. Its gross sales were $5,477,166.30 in 1956 and $5,213,976.46 in 1957. In its income tax returns for the years 1956 and 1957, petitioner deducted as business expenses the amounts paid by it to Morris and Alexander for travel and entertainment expense. The Commissioner contends that the portions of those amounts which were not expended in each year for such purposes were not deductible but were instead merely nondeductible distributions of corporate earnings. Neither Morris nor Alexander included the unexpended portion of the travel and entertainment allowance in his own income tax returns for the years 1956 and 1957. After the Commissioner determined the deficiencies against petitioner, each of them consented to adjustments increasing his own taxable income in the amount of $2,280 for 1956 and $4,680 for 1957. The parties have stipulated that in making these consents Morris and Alexander were in no way admitting for themselves or for the271 petitioner that the amounts added to their taxable income weer dividends to them instead of additional compensation. And they have further stipulated that to the extent that any portion of these amounts "shall be deemed to be additional compensation, such increment shall not constitute excessive or unreasonable compensation." We hold that in the circumstances of this case the unexpended portions of the allowances constituted additional compensation. The question is primarily one of fact, and it is proper to examine with special scrutiny the contention that amounts paid out by a corporation to controlling stockholders represent compensation for services rather than disguised dividends or other nondeductible distributions. Cf. ; , affirmed (C.A. 6). In this case, however, we are satisfied on the record before us that the unexpended portions of the allowances qualify as additional compensation. They were comparatively minor in amount, being less than 10 percent of the fixed salaries in one year and less than 5 percent in the other; the corporate minutes*272 early in 1956 explicitly provided that any such unexpended portions of the allowances were to be treated as compensation; and the parties herein have stipulated that these amounts do "not constitute excessive and unreasonable compensation." This is not a case where a corporation has paid out disguised dividends and has sought to characterize them belatedly as compensation for services. Although it is true that the corporate resolution in 1956 was the product of those who controlled the corporation and benefited from it, we see no reason in this case to refuse to give effect to it where the Government has agreed that the amounts in question would not result in excessive or unreasonable compensation. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619808/	Omaha Commissary Company v. Commissioner.Omaha Commissary Co. v. CommissionerDocket No. 112019.United States Tax Court1944 Tax Ct. Memo LEXIS 192; 3 T.C.M. (CCH) 647; T.C.M. (RIA) 44221; June 28, 1944192 William P. Kelley, Esq., 516 Insurance Bldg., Omaha, Nebr., for the petitioner. Frank B. Schlosser, Esq., for the respondent. MELLOTTMemorandum Findings of Fact and Opinion MELLOTT, Judge: The Commissioner determined a deficiency in petitioner's income tax in the amount of $515.24 and in its excess profits tax in the amount of $480.26 for the calendar year 1939. The deficiencies resulted from including, in its gross income for that year, the gain realized from the sale of contracts and equipment in the amount of $5,627.13. The sole issue is whether the admitted gain is taxable in 1939 or 1940. The stipulated facts are hereby found. Other facts shown in our findings are based upon evidence adduced at the hearing. Findings of Fact Petitioner is a corporation, organized under the laws of Nebraska, with its principal office at Omaha, Nebraska. Its income tax return for the year 1939 was filed with the collector of internal revenue for the district of Nebraska at Omaha. Petitioner, and before its incorporation its president, had for a number of years been engaged in the general business of boarding and supplying laborers to various railroad companies and contractors under contract193 with them. Two such contracts were in effect in 1939 - one with Chicago and Northwestern Railway Co., hereinafter referred to as Chicago Northwestern, and one with Eligin, Joliet and Eastern Railway Co., hereinafter referred to as E.J. & E. On August 7, 1939 petitioner entered into an agreement with J. D. McDermott providing for the sale and assignment to him of its contracts with Chicago Northwestern and E.J. & E. and for the sale to him of all the office fixtures, furnishings, equipment and merchandise of petitioner, including the items listed in an inventory and schedule attached, excepting from such sale and transfer certain parts of the office fixtures and furnishings of the Omaha office of petitioner. The aggregate sale price of such property thus sold and transferred was the sum of $6,000, which was paid by McDermott to petitioner on August 7, 1939. On the same date petitioner executed two assignments, each for a stated consideration of "$1.00 and other valuable consideration to it duly paid," one assigning to McDermott the feeding and commissary contract between it and Chicago Northwestern and the other assigning to McDermott the feeding and commissary contract between it194 and E.J. & E. Each assignment contained a statement to the effect that McDermott agreed "to perform and carry out all the conditions, provisions and agreements" of the contract with the railroad company, each was signed by McDermott, and each contained a clause reciting that "McDermott agrees that the assignment of said contract to him and the consideration therefor is not contingent upon his substitution as party of the second part under said contract being approved and accepted by" the named railroad. Bill of Sale was executed by petitioner and delivered to McDermott on August 7, 1939. It described the property conveyed in the following language: "All of the office fixtures, furnishings, equipment and merchandise of the said Omaha Commissary Company, including the items listed and set forth on the inventory and schedule thereof hereto attached and made a part hereof, which to the best knowledge, information and belief of the Grantor is a reasonably true and correct inventory and schedule thereof. "The inventory of merchandise is to be taken as of September 15, 1939, and is to be paid for by said J. D. McDermott at the cost price thereof, which consideration is to be in addition195 to the sum of Six Thousand Dollars ($6,000) representing the sale price of other property and rights this day sold to him. "This Bill of Sale shall convey and cover only that part and portion of the office fixtures and furnishings of the Omaha office that are listed and described on the inventory and schedule hereinafter referred to, and which inventory and schedule has heretofore been delivered to the Grantee for his inspection." The inventory and schedule referred to in the Bill of Sale had been prepared from an inventory taken in the year 1937 by deducting from the 1937 inventory items which had been shipped from, and by adding to the 1937 inventory items which had been thereafter acquired and added to, the Omaha stock. Other attached inventories listed the fixtures, furnishings and equipment located at the South Chicago camp of petitioner, near the Illinois Steel Works and the furnishings and equipment of petitioner located at the Gary, Indiana railroad yards of the E.J. & E. Ry. Co. Other documents referred to in the stipulation of the parties are copies of "the original letter of transmittal and of a receipt executed on behalf of the purchaser." The first mentioned is on 196 the letter-head of Olympic Commissary Co., is dated August 29, 1940 and is as follows: "Gentlemen: "Enclosed please find settlement contract signed as per your request. "Trusting same is satisfactory, and to see you in the near future, I beg to remain. "Yours very truly OLYMPIC COMMISSARY COMPANY BY @J. D. McDermott" The other is on the letterhead of petitioner, is dated August, 1940, and is as follows: "Received of the Omaha Commissary Company of Omaha, Nebraska, the equipment as per inventories of the Omaha end, which completes the inventories designated in the contract which was entered into by the Olympic Commissary Company and the Omaha Commissary Company on August 7, 1939. "Same fully satisfies and affords full satisfaction covering all claims of every name and nature that the Olympic Commissary Company may have by the rights of such contract. "Signed OLYMPIC COMMISSARY COMPANY BY E. Scharf Secretary" The sum of $6,000, received by petitioner from McDermott on August 7, 1939, as the sale price of the property above referred to, "was immediately thereafter deposited by the Petitioner in its regular bank account * * and was immediately thereafter used by the Petitioner197 in its business in the same manner as other ordinary deposits made in said bank account." In petitioner's books of account it "caused the account of Olympic Commissary Co. * * to be credited with the sum of $6,000.00. * * * and said sum * * * was carried on the books and records and financial statements of Petitioner as a credit in favor of said * * * Company until the sum of $5,627.13 thereof was credited to the profit and loss account of Petitioner, and the sum of $372.87 was credited to the equipment account of the Petitioner on December 31, 1940, * * ." No part of the proceeds of the sale of the property was included on petitioner's income and excess profits tax return for 1939. It "did report $5,627.13 of proceeds of said sale as income" on its 1940 return. Opinion In the petition it is alleged, in substance, that it was a condition of the sale to McDermott that he should have the opportunity and privilege of checking and verifying the fixtures, furniture and equipment listed in the inventory, and, if any of them were not available for delivery, an appropriate adjustment would be made; that petitioner, by reason of the fact no inventory had been taken within a reasonably198 short time prior to the sale, was unable to determine and was not aware of the shortages, if any, "and the net amount that would be realized from said sale could not be determined until after the purchaser had checked over the inventory * * * and either accepted the articles delivered as being in full compliance with the contract of sale or made demand of adjustment for the shortages"; that this was not done until 1940; and therefore that the sale was not actually effectuated until 1940. It is also alleged that "one of the conditions of the sale and transfer of the contracts and equipment [was] that Petitioner would undertake to have the Elgin, Joliet and Eastern Railway Co. accept * * * McDermott as a substitute for Petitioner under the feeding and commissary contract, and that said railroad company would renew the feeding and commissary contract with him, and that it was not until January 1940 that the renewal of such contract was effected * * " Petitioner's president was permitted to testify, over the objection of counsel for respondent with reference to the understanding in connection with the inventories. He said: "He (the purchaser) was to check the inventories on the 15th199 of September, 1939; that is, check the supplies in the inventories of the commissaries at both camps, Indiana and Illinois. These transactions in connection with the commissaries and supplies were paid for in full and receipts given; taking over the equipment of the Chicago office in the store room there, they took it over, but they did not give me any receipt on the items they had received. I didn't get any in 1939 whatsoever. The equipment was left, and so I was up in the air about knowing what there was turned over. I wrote them several times, and in November Mr. Brown, who is the head man of McDermott's - one of them - wrote me a letter and assured me they would be out in November - he and Frank - to check the Omaha equipment. Well, they never came out, and they were supposed to come out November 18, and they didn't come out, and so I went to Chicago and talked with them there and told them - I says, 'I'd like to get this thing straightened up as soon as possible,' and they assured me that they would try and do it. So I just drug along with it and let the thing go, and of course I know they were busy, and of course I didn't want to be unreasonable, so I just let it drift." A check200 of the inventory was made in 1940, as indicated in the correspondence shown in the findings. This is the sole evidence bearing upon the first ground urged by petitioner as a basis for setting aside the Commissioner's determination. The evidence upon the other is equally tenuous. The witness stated he had "assured Mr. McDermott that he could rely upon the renewal of the E.J. & E. contract" but that he could not vouch for the Chicago Northwestern. A brother of the witness was in the employ of the E.J. & E. Co., which caused him to feel confident the contract would be renewed. The witness stated that while he had given the purchaser some assurance the contract would be renewed, he "couldn't consistently with due respect to other officials include any such contract in writing." The contract actually was renewed, though probably (the evidence is silent on this point) not until January, 1940. The stipulated facts and the evidence, in our judgment, cannot fairly be construed to support petitioner's contention that all events necessary to fix the liabilities of the parties had not occurred until the year 1940. As we construe the facts, the sale was made, the consideration was unconditionally201 received, and taxable gain resulted in 1939. (Sections 22 (a) and 42 I.R.C.) North American Oil Consolidated v. Burnet, 286 U.S. 417">286 U.S. 417. This is true whether petitioner kept its books on the cash or an accrual basis. The cases cited by petitioner - Commissioner v. R. J. Darnell, Inc., 60 Fed. (2d) 82; Schoellkopf Aniline & Chemical Works v. United States, 3 Fed. Supp. 417, and Frost Lumber Industries, Inc. v. Commissioner, 128 Fed. (2d) 693 - are but applications of the well-established rule, succinctly stated in the last-mentioned case: "An item accrues for purposes of taxation when all events have occurred necessary to fix the liabilities of the parties and to determine the amount of such liabilities." The facts have been stated fully. It would serve no useful purpose to repeat them. The principal question of law is obviously recognized and understood by counsel for both parties. Whether under the law of Nebraska the contract, during 1939, would have been subject to rescission, as petitioner urges, if it had "failed to perform the contract, especially with202 referenec to procuring renewal of the railway [E.J. & E.] contract" 1 is not clear from the authorities cited. Slagle v. Securities Investment Corporation, 131 Nebr. 319, 268 N.W. 294">268 N.W. 294, cited by petitioner in this connection, merely applied the generally recognized rule that where property is purchased, in reliance upon material representations made by the seller which turn out to be false, the purchaser may rescind the contract. It may even be that petitioner's assurance the contract would be renewed would have given McDermott a cause of action for damages, notwithstanding the statement in the contract that the consideration was "not contingent upon his substitution as party of the second part under * * [the] contract being approved and accepted" by the railroad. As we view it, however, this question may be passed. Cf. Commissioner v. Alamitos Land Co., 112 Fed. (2d) 648, certiorari denied 311 U.S. 679">311 U.S. 679. Petitioner's suggestion that the rule of Helvering v. Cannon Valley Milling Co., 129 Fed. (2d) 642,*203 should be applied since the sale transaction was an unusual one and not something that would arise in the ordinary course of its business has been considered. There are two reasons why this may not be done: First, the facts are not analogous; Second, the case has probably been overruled by Security Flour Mills Co. v. Commissioner, 64 S. Ct. 596">64 S. Ct. 596. In our judgment the Commissioner committed no error in determining the deficiencies in tax. Decision will be entered for the respondent. Footnotes1. The quotation is from petitioner's brief.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619812/	EDMUND J. CORDES AND JUNE CORDES, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentCordes v. CommissionerDocket No. 11750-92United States Tax CourtT.C. Memo 1994-377; 1994 Tax Ct. Memo LEXIS 386; 68 T.C.M. (CCH) 355; August 11, 1994, Filed 386 Decision will be entered under Rule 155. For petitioners: Michael C. Mayhall. For respondent: Gary L. Bloom. PARKERPARKERMEMORANDUM FINDINGS OF FACT AND OPINION PARKER, Judge: Respondent determined a deficiency in petitioners' Federal income tax for the year 1988 in the amount of $ 360,336 and additions to tax under section 6653(a)(1) in the amount of $ 18,017 and under section 6661(a) in the amount of $ 90,084. Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the taxable year before the Court, and all Rule references are to the Tax Court Rules of Practice and Procedure. After concessions, 1 the issues for decision are: 1. Whether petitioner Edmund J. Cordes' withdrawals of corporate funds in the amount of $ 290,800 from Cordes Finance Corp. during 1988 constitute constructive dividends to him; 2. Whether Cordes Finance Corp.'s payment of petitioner's personal expenses in the amount of $ 141,534 constitutes constructive dividends to him; 3. Whether taxable Social Security benefits should be increased in the amount of $ 2,896 for the taxable year 1988; 24. Whether petitioners are liable for the addition to tax under387 section 6653(a)(1) for negligence or disregard of rules or regulations; and 5. Whether petitioners are liable for the addition to tax under section 6661 for substantial understatement of income tax. 388 FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts and the exhibits attached thereto are incorporated herein by this reference. Petitioner Edmund J. Cordes (petitioner) and his wife June Cordes (petitioners) were residents of Lawton, Oklahoma, at the time of the filing of the petition in this case. Petitioners timely filed their 1988 Federal income tax return (Form 1040) with the Internal Revenue Service Center in Austin, Texas. During the taxable year 1988, petitioner owned, directly or indirectly, all of the stock in the following five corporations: (1) Cordes Finance Corp., (2) Cordes Building Corp., (3) Edmund Cordes, Inc., (4) John Cordes, Inc., and (5) Eddie Cordes, Inc. 3 No dividends have ever been formally declared and paid by any of the five corporations. Petitioner had control over all of these corporations in 1988 and retained such control until at least 1992. He can serve as president of Cordes Finance Corp. as long as he lives. 389 The corporations were engaged primarily in the sale and financing of automobiles. During 1988 petitioner deposited substantial amounts of income, which properly belonged to the other related corporations controlled by him, into a bank account of Cordes Finance Corp. (Account No. 312). 4 During 1988 petitioner diverted the following amounts of income into Account No. 312 from the following entities: Related entityAmount Eddie Cordes, Inc.$ 172,828Cordes Finance Corp. 1571,035Cordes Finance Corp. 181,269Cordes Dodge117,471John Cordes22,189Cordes Building Corp.200,000Total$ 1,164,792At the conclusion of the Internal Revenue390 Service's examination of all of the related corporate returns for the 1988 taxable year, petitioner in 1991 and 1992 caused Cordes Finance Corp. to reimburse the various entities from which money had been diverted. 5 The various entities agreed to the inclusion of the reimbursements in their taxable incomes for 1988. Respondent has now conceded that these amounts do not constitute constructive dividends to petitioner. See supra notes 1 and 5. 391 Petitioner considered Account No. 312 to be a "holding account" or an account in the nature of a "shareholder loan account". Petitioner claims that he routinely put sums in and took sums out of this account over a period of time. No documentation was offered to support petitioner's testimony regarding his infusions of money into Account No. 312 or Cordes Finance Corp. There are no written agreements or notes evidencing any loans by petitioner or his wife to Cordes Finance Corp. or to the other corporations controlled by him. Petitioner claims there were loans evidenced by "receipts" or "canceled checks", but no receipts or canceled checks were offered in evidence. At the beginning of 1988, Cordes Finance Corp. had accumulated earnings and profits of $ 1,625,887. During 1988, petitioner withdrew monthly sums from Cordes Finance Corp., made payable to the following individuals and charged against Account No. 312: Payee and relationship to petitionerAmountJohn Cordes--son$ 101,300June Cordes--wife129,300Jean Ann Cordes--daughter12,000Ellen Cordes--daughter-in-law4,000Jean Patton--sister18,000Ray Lee--personal friend18,000John Kirk--personal friend8,200Total$ 290,800392 Petitioner characterizes these withdrawals as a loan to his son John, gifts to other relatives and friends, and his wife's own funds that she withdrew to pay bills. In addition, Cordes Finance Corp. paid certain of petitioner's personal living expenses in the total amount of $ 141,534 during the taxable year 1988. 6 These expenses represent charges to petitioner's American Express card in the amount of $ 137,479 and to Martin's Restaurant in the amount of $ 4,055. These expenses were claimed as "repossession expenses" and were deducted on Cordes Finance Corp.'s 1988 corporate income tax return. Petitioner admits that these expenses were personal expenditures, and Cordes Finance Corp. has conceded the disallowance of the claimed deduction. On May 20, 1992, Cordes Finance Corp. issued a reimbursement check to itself in the amount of $ 141,534 and charged Account No. 312 for the amount of petitioner's personal expenses as described above. 393 Other than the constructive dividends at issue in this case, petitioner's only known sources of income for the taxable year 1988 consisted of $ 30,000 interest income 7 from Cordes Finance Corp., $ 7,586 of Social Security benefits, and $ 900 of benefits from the Veterans' Administration. OPINION Constructive394 DividendsPetitioner contends that, although the $ 141,534 expenses paid by Cordes Finance Corp. on his behalf were personal and nondeductible, these expenses were paid out of monies owed to him by Cordes Finance Corp. and do not constitute constructive dividends. Furthermore, petitioner contends that the disbursements he directed Cordes Finance Corp. to make (the $ 290,800) represent loans or gifts from himself to the various recipients from his own funds held in the shareholder loan account. Petitioner asserts that he advanced several millions of dollars to Cordes Finance Corp. that had been accumulated by him over a span of 42 years, and accordingly, the distributions were merely repayments of debt owed to him by the corporation. On brief, petitioner now argues for the first time that these various distributions totaling $ 432,334 cannot constitute constructive or actual dividends because he was no longer a shareholder of Cordes Finance Corp. in 1988. See supra note 3. Although the parties stipulated that petitioner "owned, directly or indirectly, all of the stock" of the five corporations involved herein, petitioner now attempts to disavow stock ownership in Cordes395 Finance Corp. with respect to the constructive dividend issue. Petitioner testified that he and his wife began transferring their stock in Cordes Finance Corp. to their children in 1963. He did not recall when the last stock transfer occurred, only that the children had held the stock for a long time. On reply brief, petitioner claims that he transferred the stock of Cordes Finance Corp. to his children in 1971. Petitioner argues that no adverse inference should be drawn from his failure to produce the stock ledgers to support his position. He claims that he would have offered the stock ledgers into evidence had he "known or had reason to know that Respondent or anyone in the IRS questioned the stock ownership" of Cordes Finance Corp. It is petitioner himself who has belatedly injected the issue of stock ownership of Cordes Finance Corp. Petitioner's reply brief is the first instance in these proceedings in which he formally asserts that he was not a shareholder of Cordes Finance Corp. in 1988 and, thus, could not have received dividends from the corporation. He did not raise the issue of stock ownership in the petition or any other pleadings filed in this case. He did not396 seek permission to amend the petition to raise the issue or attempt to raise and address the issue at trial. This Court will not consider issues that are raised for the first time at trial or on brief. Rules 34(b)(2), 41(b); Foil v. Commissioner, 92 T.C. 376">92 T.C. 376, 418 (1989), affd. 920 F.2d 1196">920 F.2d 1196 (5th Cir. 1990); Markwardt v. Commissioner, 64 T.C. 989">64 T.C. 989, 997 (1975). Moreover, petitioner has never sought to be relieved of his stipulation. Instead he tries to interpret it away, relying on improper ex parte statements that are not part of the evidentiary record (Rule 143(b)) and arguments that are at best disingenuous. We need not draw any inference from petitioner's failure to produce the stock ledgers. Even if the stock ledgers showed that petitioner was no longer a stockholder of record of Cordes Finance Corp. during 1988, record ownership of stock, standing alone, is not determinative of who is required to include any dividends attributable to such stock in gross income. Rather, beneficial ownership is the controlling factor. Walker v. Commissioner, 544 F.2d 419">544 F.2d 419 (9th Cir. 1976),397 revg. T.C. Memo 1972-223">T.C. Memo. 1972-223; Ragghianti v. Commissioner, 71 T.C. 346">71 T.C. 346, 349 (1978), affd. without published opinion 652 F.2d 65">652 F.2d 65 (9th Cir. 1981); Cepeda v. Commissioner, T.C. Memo. 1994-62. Accordingly, this Court must consider not only whether there was a passage of bare legal title, but whether there was a retention or disposition of the benefits and burdens of the incidents of ownership. We must, therefore, look to which party has the greatest number of attributes of ownership. We must consider whether, while the legal ownership or title to the property may have passed, the actual benefits or control associated with stock ownership have remained with the original owner or transferor. We rely upon the objective evidence provided by the party's overt actions to make that determination. Ragghianti v. Commissioner, supra at 349-350 (citing Pacific Coast Music Jobbers, Inc. v. Commissioner, 55 T.C. 866">55 T.C. 866, 874 (1971), affd. 457 F.2d 1165">457 F.2d 1165 (5th Cir. 1972)); Cepeda v. Commissioner, supra.398 "Beneficial ownership is marked by command over property or enjoyment of its economic benefits." Cepeda v. Commissioner, supra.An economic benefit may take the form of relieving the recipient from a personal obligation. Sullivan v. United States, 363 F.2d 724">363 F.2d 724, 728-729 (8th Cir. 1966); Smith v. Commissioner, 70 T.C. 651">70 T.C. 651, 658 (1978). For example, in Yelencsics v. Commissioner, 74 T.C. 1513">74 T.C. 1513, 1532 (1980), the taxpayers' total control over a corporation and the use of corporate funds to satisfy personal debts resulted in constructive dividends, even though they did not hold legal title to the corporation's stock at the time of the advances. In this case, during the year at issue, petitioner held the office of president in Cordes Finance Corp. and exercised full control over the corporation. His complete control over Cordes Finance Corp. continued until at least 1992, when he caused it to reimburse itself and the other four corporations for the corporate income petitioner had improperly diverted to Account No. 312. He controlled the amounts and the timing399 of payments from the Cordes Finance Corp. as well as the recipients of those payments. During the year at issue, petitioner caused that corporation to pay directly many of his personal expenses and to make distributions on his behalf as loans and gifts to relatives and friends. Therefore, we hold that, whether or not petitioner was a stockholder of record, petitioner had beneficial ownership of all of the stock of Cordes Finance Corp. in 1988. We must now consider whether the payments made by Cordes Finance Corp. on behalf of and for the benefit of petitioner during the taxable year 1988 were bona fide repayments of loans, as petitioner contends, or constructive dividends taxable under sections 301 and 316, as respondent contends. Sections 301 and 316 provide that a distribution of property made by a corporation with respect to its stock is a taxable dividend to the extent of a corporation's earnings and profits. Here, there were substantial earnings and profits of over $ 1 million. "A constructive dividend is paid when a corporation confers an economic benefit on a stockholder without expectation of repayment." Wortham Machinery Co. v. United States, 521 F.2d 160">521 F.2d 160, 164 (10th Cir. 1975);400 Williams v. Commissioner, 627 F.2d 1032">627 F.2d 1032, 1034 (10th Cir. 1980), affg. T.C. Memo 1978-306">T.C. Memo. 1978-306. Petitioner received economic benefits from Cordes Finance Corp. without any expectation of repayment. All of the facts and circumstances surrounding the payments must be examined. Roschuni v. Commissioner, 29 T.C. 1193">29 T.C. 1193, 1201-1202 (1958), affd. 271 F.2d 267">271 F.2d 267 (5th Cir. 1959). The issue as to whether a transaction between a shareholder and his closely held corporation represents bona fide indebtedness arises in various contexts: whether an advance by a shareholder to his corporation is a contribution to capital or a loan (debt vs. equity cases) or whether a distribution (or other economic benefit) from the corporation to the shareholder constitutes a dividend or a loan (dividend vs. loan cases). Alterman Foods, Inc. v. United States, 505 F.2d 873">505 F.2d 873, 876-877 (5th Cir. 1974); Miele v. Commissioner, 56 T.C. 556">56 T.C. 556, 567 (1971), affd. without published opinion 474 F.2d 1338">474 F.2d 1338 (3d Cir. 1973). Here petitioner401 does not suggest that the 1988 distributions themselves (the payment of his personal expenses and the payment of money to others at his direction) constitute loans to him rather than dividends. Instead petitioner says these 1988 distributions were repayments by the corporation of loans he had made to the corporation sometime in the past. While the transactions we must examine are remote in time from the 1988 transactions, we apply the same factors in determining the existence of a bona fide indebtedness between Cordes Finance Corp. and petitioner. Courts have considered the following factors in deciding whether distributions to a stockholder are constructive dividends or reflective of a debtor-creditor relationship: (1) the extent to which the shareholder controls the corporation; (2) the earnings and dividend history of the corporation; (3) the magnitude of the advances and whether a ceiling existed to limit the amount the corporation advanced; (4) whether or not security was given for the loan; (5) whether there was a set maturity date; (6) whether the corporation ever undertook to force repayment; (7) whether the shareholder was in a position to repay the advances; 402 and (8) whether there was any indication the shareholder attempted to repay the advances.Alterman Foods, Inc. v. United States, 505 F.2d at 877 n.7; see also Williams v. Commissioner, 627 F.2d at 1034-1035; Dolese v. United States, 605 F.2d 1146">605 F.2d 1146, 1153 (10th Cir. 1979). Due to the factual nature of such inquiries, the above factors are not exclusive, and no one factor is determinative. We have always examined transactions between closely held corporations and their shareholders with special scrutiny. Electric & Neon, Inc. v. Commissioner, 56 T.C. 1324">56 T.C. 1324, 1339 (1971), affd. without published opinion sub nom. Jiminez v. Commissioner, 496 F.2d 876">496 F.2d 876 (5th Cir. 1974). We have held that petitioner was the beneficial owner of the stock of Cordes Finance Corp. during 1988. Petitioner controlled Cordes Finance Corp. and considered the corporation's funds available to him for his own and his wife's personal use. He made the decisions as to the timing, amount, and uses of the funds withdrawn. No dividends had ever been formally declared403 and paid by Cordes Finance Corp. or any of the other corporations controlled by petitioner. Petitioner testified that the withdrawals from Cordes Finance Corp. were taken by petitioner as repayment of loans he had previously made to the corporation. First, there is no objective evidence of the existence of any such loans. He testified that, when Cordes Finance Corp. was incorporated, he contributed capital in the amount of some $ 100,000. There is no other evidence of any contributions to capital or loans to Cordes Finance Corp. Petitioner's mere statement that he considered the distributions to be repayments of loans is not sufficient to show that the intrinsic economic nature of the transactions themselves is that of a debt rather than of a constructive dividend. Williams v. Commissioner, 627 F.2d at 1034; Alterman Foods, Inc. v. United States, 505 F.2d at 876. Petitioner's mere declaration of intention does not create a loan and is not determinative without further evidence substantiating the existence of bona fide loans. Petitioner testified as to the purported sources of funds deposited in Account No. 312. 404 Petitioner testified that approximately $ 1 million deposited into Account No. 312 was the result of sales of Italian silk stockings he "liberated" from a German warehouse at the end of World War II. Petitioner also testified that he and his wife owned a life insurance company and a casualty company that were sold and the proceeds of which sales were deposited into Account No. 312. He stated that the life insurance company was incorporated in 1976 with $ 375,000 and was sold in 1981 for $ 750,000 and that the casualty company was incorporated in 1975 with $ 225,000 and was liquidated in 1986 with approximately $ 1 million in insurance policies at the time. The Court did not find petitioner's testimony credible, particularly in the absence of any documentation of these transactions. Petitioner did not present any documentary evidence to support his testimony. The only documents offered into evidence were the balance sheets (Schedules L) attached to the corporate income tax returns (Forms 1120) of Cordes Finance Corp. Petitioner claims that they reflect loans from petitioner and paid-in capital totaling $ 4,834,000 for taxable year 1982 and remaining approximately the same through405 1986 when they totaled $ 5,721,000. 8 Tax returns do not establish the truth of the facts stated therein. Wilkinson v. Commissioner, 71 T.C. 633">71 T.C. 633, 639 (1979); Roberts v. Commissioner, 62 T.C. 834">62 T.C. 834, 837 (1974). Moreover, these corporate returns do not show the existence of any loans from petitioner to the corporation. Petitioner testified that the receipts and canceled checks documenting the loans no longer exist because Cordes Finance Corp. retains corporate records dating back only 5 years. The Court found this testimony inherently incredible. 406 Although transactions between closely held corporations and their shareholders are often conducted in an informal manner, the informality relating to petitioner's purported loans to Cordes Finance Corp. goes far beyond what we would expect with respect to transactions of this size. 9 There is no documentation of loans to Cordes Finance Corp. to support petitioner's contention that the 1988 distributions were intended to be repayments of these purported loans. Electric & Neon, Inc. v. Commissioner, supra.There were no written agreements or notes evidencing the loans. While the loans were purportedly documented by "receipts" or "canceled checks", no receipts or canceled checks were produced. Moreover, even if such documents had existed, they would not supply any terms of the purported loan agreements. There was no security for the loans, no set maturity date, and no efforts by the corporation to enforce repayments. By all indications, or lack thereof, there is no expression of any obligation on the part of petitioner to lend money to Cordes Finance Corp. or any obligation on the part of Cordes Finance Corp. to repay any purported loans. Electric & Neon, Inc. v. Commissioner, supra.407 Petitioner's control over the corporation, the existence of substantial earnings and profits, and the fact that no dividends had ever been declared satisfy the Court that there were no bona fide debts. Petitioner simply used the corporation as his own personal deep pocket. Thus, in conclusion, petitioner has failed to carry his burden of proving that he was entitled to the funds distributed to him, or paid on his behalf, as repayment of loans. The facts belie any intention to create a real debtor-creditor relationship between petitioner and Cordes Finance Corp. Therefore, we hold that petitioner received constructive dividends in the total amount of $ 432,334 ($ 290,800 + $ 141,534) from Cordes Finance Corp. in the taxable year 1988. Additions to Tax1. Section 6653(a)(1) Addition to TaxRespondent has determined an addition to tax under section 6653(a)(1). 408 Section 6653(a)(1) provides an addition to tax for negligence or intentional disregard of rules or regulations. "Negligence is lack of due care or failure to do what a reasonable and ordinarily prudent person would do under the circumstances." Neely v. Commissioner, 85 T.C. 934">85 T.C. 934, 947 (1985) (quoting Marcello v. Commissioner, 380 F.2d 499">380 F.2d 499, 506 (5th Cir. 1967), affg. in part and revg. in part 43 T.C. 168">43 T.C. 168 (1964)). Petitioner has the burden of establishing error in respondent's determination of additions to tax under section 6653(a). Rule 142(a); Bixby v. Commissioner, 58 T.C. 757">58 T.C. 757, 791-792 (1972). Petitioners have not carried their burden. Moreover, the record in this case amply supports a finding of both negligence and intentional disregard of rules or regulations. The Court sustains the negligence additions to tax for 1988. 2. Section 6661 Addition to TaxRespondent also determined an addition to tax under section 6661. Section 6661(a) imposes an addition to tax for a substantial understatement of income tax. The understatement is "substantial" if it409 exceeds the greater of 10 percent of the tax required to be shown on the return for the taxable year or $ 5,000. Sec. 6661(b)(1)(A). The understatement of tax for the taxable year 1988 was substantial in this case. Section 6661(b)(2)(B) reduces the amount of the understatement potentially subject to the addition if the taxpayer gave substantial authority for his or her position or adequately disclosed on the return or in a statement attached to the return any relevant facts affecting the items that led to the determination of an understatement. Section 1.6661-3, Income Tax Regs., defines "substantial authority". Petitioners have not met these requirements, and we have no basis for reducing the understatement. We sustain respondent's determination of an addition for substantial understatement of income tax in 1988. To reflect the above holdings, Decision will be entered under Rule 155. Footnotes1. Respondent originally asserted that petitioner Edmund J. Cordes had received constructive dividends as a result of monies deposited into a "holding account" (Account No. 312) of Cordes Finance Corp. Respondent concedes that the deposit of these funds into Account No. 312 does not constitute constructive dividends to petitioner. These funds represent income improperly diverted by petitioner from other corporate entities that he controls to Cordes Finance Corp. Petitioner later caused Cordes Finance Corp. to repay those funds to the other corporations as will be discussed below. See infra↩ note 5. Respondent now maintains that the payment of petitioner's personal expenses as well as certain withdrawals from Account No. 312 during 1988 constitute constructive dividends to petitioner.2. This increase in taxable Social Security benefits is an automatic adjustment resulting from the increase in petitioner's adjusted gross income with respect to the constructive dividends issue. See sec. 86(a), (b), and (c).↩3. This fact was stipulated by the parties. Without requesting to be relieved of this stipulation, petitioner now argues that he and his wife were not shareholders of Cordes Finance Corp. during 1988 and, therefore, could not have received dividends, actual or constructive, in that year. Petitioner testified that he and his wife began to divest themselves of their stockholdings to their children in 1963. On reply brief, petitioner claims that he transferred his stock in Cordes Finance Corp. to his children in 1971. However, as will be discussed in the opinion below, petitioner has not presented any evidence to support his testimony, and we find his testimony unworthy of belief. We find the facts to be as the parties have stipulated.↩4. The record shows that petitioner continued to divert income from those corporations to Account No. 312 in 1989 and 1990.↩1. Part of the diverted income deposits referred to above represents income properly belonging to Cordes Finance Corp. that petitioner caused to be credited to Account No. 312 rather than reported as income to Cordes Finance Corp.↩5. On May 20, 1992, Cordes Finance Corp. issued a check to Eddie Cordes, Inc., in the amount of $ 172,828 to reimburse Eddie Cordes, Inc., for the income mishandled by petitioner during 1988. On May 20, 1992, Cordes Finance Corp. issued a reimbursement check to itself in the amount of $ 571,035 and charged Account No. 312 with that amount, which represents the amount of Cordes Finance Corp.'s income mishandled by petitioner during 1988. On May 21, 1992, Cordes Finance Corp. issued another reimbursement check to itself in the amount of $ 81,269 and charged Account No. 312 with that amount. That amount represents income misdirected by petitioner from the reimbursement of repossession expenses paid to Cordes Finance Corp. during 1988 by its customers. On May 21, 1992, Cordes Finance Corp. issued a reimbursement check to itself in the amount of $ 139,660 and charged Account No. 312 with that amount, which represents the amount of income petitioner misdirected from Cordes Dodge and John Cordes, Inc., during 1988. While it is not wholly clear as to why that reimbursement check was issued to Cordes Finance Corp. rather than to the two corporations whose income had been improperly diverted by petitioner, apparently those two corporations owed Cordes Finance Corp. for tags, titles, and taxes, and the check was reimbursement for those items. On July 29, 1991, Cordes Finance Corp. issued a check to Cordes Building Corp. in the amount of $ 200,000 to reimburse Cordes Building Corp. for the amount of income petitioner misdirected from the company during 1988. Petitioner also caused Cordes Finance Corp. to make similar reimbursements for 1989 and 1990 diverted income.↩6. Similarly, in 1989 and 1990, Cordes Finance Corp. paid certain of petitioner's personal living expenses, composed of charges to petitioner's American Express card and charges to Martin's Restaurant.↩7. Petitioner testified that he charged Cordes Finance Corp. interest, at a rate of 8 percent per annum, on the funds owed to him and his wife. When questioned that the $ 30,000 interest payment they received for 1988 seems low for the millions that petitioners purportedly had lent to the corporation, petitioner testified that Cordes Finance Corp. did not have the money to pay the full amount of interest due per year. We note that there were substantial amounts of corporate income for petitioner to divert from the various corporations, including Cordes Finance Corp., to Account No. 312. The amount of income of Cordes Finance Corp. that petitioner diverted to Account No. 312 in 1988 totaled $ 652,304.↩8. Schedule L of Cordes Finance Corp.'s Form 1120 for 1982 reflects $ 2,834,000 on line 16 (Mortgages, loans, bonds payable in less than 1 year) and $ 2,000,000 on line 22 (Paid-in or capital surplus). The Schedules L attached to the Forms 1120 for taxable years 1983 through 1988 reflect the following amounts: ↩YearLine 16Line 221983$ 2,835,000$ 2,000,00019842,740,5002,000,00019851,303,0004,000,00019861,721,0004,000,00019873,456,8504,000,00019885,233,8004,000,0009. See Crowley v. Commissioner, T.C. Memo 1990-636">T.C. Memo. 1990-636, affd. 962 F.2d 1077">962 F.2d 1077↩ (1st Cir. 1992).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619814/	Major and Christine Dunn v. Commissioner.Dunn v. CommissionerDocket Nos. 32142, 34509.United States Tax Court1953 Tax Ct. Memo LEXIS 66; 12 T.C.M. (CCH) 1294; T.C.M. (RIA) 53356; November 10, 1953Malcolm E. Rosser, Esq., for the petitioners. William B. Riley, Esq., for the respondent. RAUMMemorandum Findings of Fact and Opinion RAUM, Judge: The respondent determined deficiencies in the income tax of petitioners for the year 1947 in the amount of $95 and for the year 1949 in the amount of $161. The petitioners, residents of Muskogee, Oklahoma, filed joint income tax returns for the taxable years with the collector of internal revenue for the district of Oklahoma. In their income tax return for 1947, the petitioners claimed an exemption credit for Christine Dunn's mother as a dependent, and in their income tax return for 1949 they claimed exemption67 credits for her mother and for her father as dependents. The respondent disallowed the dependency exemptions claimed for both years, and the controversy herein results from these disallowances. Clem and Ada Cookson, the father and mother of Christine Dunn, were approximately 61 or 62 years of age in 1947. They had eight children, the youngest of whom, Curtis Cookson, was about 16 or 17 years old in 1947. Curtis lived with them during 1947 while going to high school. Their daughter, Linda K. Cookson, who was about 21 years old, also lived with them during that year. The remaining six children were over twenty-one years of age and did not live with their parents. During the year 1947, Clem and Ada Cookson and their two youngest children lived in an apartment in a house rented and occupied by petitioners. Petitioners paid the rent of $18 per week on this house, $7 of which was allocable to that part of the house occupied by the four Cooksons. Petitioners also furnished the food needed by the four Cooksons. Petitioners' expenditures for food for their family and the four Cooksons amounted to approximately $60 every two weeks. Christine Cookson furnished her mother with any clothing68 that she required during 1947. During that year Clem Cookson was employed for about a week in connection with the remodeling of a building. Curtis Cookson went to high school, and, when not so engaged, worked a little on odd jobs. Some time during the latter part of 1947 or 1948, Clem and Ada Cookson moved to a farm ten miles south of Parkhill, Oklahoma, on which there was a four-room house. When they made this move, a small amount of furniture, some of which was secondhand, and a radio were purchased for them by Christine Dunn. Another daughter, Anna Weatherford, contributed a part of the cost. Clem and Ada Cookson lived on the farm during 1949. The rent for the farm was paid by Clem Cookson. He "worked out" his rent. On the farm the Cooksons raised chickens, a few hogs, and some garden products. Petitioners visited the Cooksons on the farm almost every week-end during 1949, and furnished them with some groceries on these visits to supplement the food raised on the farm. They also gave them $5 or $6 about once a month if they needed money for a doctor or for medicine. Other children of the Cooksons made some gifts of undisclosed amounts to their parents, and, when they visited the69 farm, brought some groceries. Section 25 (b) (1) of the Internal Revenue Code allows a taxpayer a credit exemption for each "dependent" whose gross income is less than $500 (as applicable to years prior to 1951) and who has not made a joint return with his spouse. A "dependent" is defined in Section 25 (b) (3) as a person over half of whose support was received from the taxpayer, who comes within a specified degree of relationship, and who is not a nonresident alien. We are convinced from the evidence that the petitioners contributed more than onehalf of the support of Ada Cookson during the year 1947, and that they also satisfied the other requirements of Section 25 (b) which had to be met in order to entitle them to a dependency credit for her. The respondent erred in disallowing the dependency credit of $500 claimed by petitioners for Ada Cookson in their joint return for the year 1947. During the year 1949 Clem Cookson did sufficient work to earn the rent due for the use of the farm. Whether or not he realized income from other services is not clear. We are satisfied that the farm did provide him and his wife during 1949 with a substantial amount of70 their food requirements, and that, while petitioners gave them some groceries and a small amount of cash during that year, they received additional and similar contributions from some of their other children. Petitioners have not sustained their burden of proving that they furnished more than one-half of the support of Clem and Ada Cookson during 1949, and the respondent's disallowance of the dependency exemptions claimed for Clem and Ada Cookson in petitioners' joint return for that year is sustained. Decisions will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619815/	Max H. Wyman, Petitioner, v. Commissioner of Internal Revenue, RespondentWyman v. CommissionerDocket No. 69874United States Tax Court33 T.C. 622; 1959 U.S. Tax Ct. LEXIS 2; December 31, 1959, Filed 2 Decision will be entered for the respondent. Capital Gains -- Holding Period. -- In 1948, petitioner sold stock in his family corporation to a friend for $ 5,000 with the understanding that he could buy it back at any time for $ 10,000. Petitioner repurchased the stock in 1951 within 6 months of the date the corporation distributed its assets in complete liquidation. Held: The entire amount received by petitioner in exchange for this stock on liquidation of the corporation is taxable as short-term capital gain. The distribution in liquidation cannot be allocated partially to the stock and partially to a beneficial interest petitioner allegedly retained in the stock in 1948 so as to make the latter taxable as a long-term capital gain. Bryant R. Dunn, Esq., James Wm. Johnston, Esq., Ben J. Gantt, Jr., Esq., and Charles S. Mullen, Esq.,3 for the petitioner.James D. Webb III, Esq., for the respondent. Drennen, Judge. DRENNEN622 Respondent determined a deficiency in petitioner's income tax for the year 1951 in the amount of $ 10,638.32. The only issue is whether petitioner held such an interest in 5,000 shares of stock of Klamath Basin Pine Mills Corporation for more than 6 months prior to liquidation of that corporation so as to entitle him to long-term capital gains treatment on the gain he realized on the liquidation of those shares.FINDINGS OF FACT.Some of the facts are stipulated and are found as stipulated.Petitioner, Max H. Wyman, is an individual residing in Seattle, Washington. Petitioner filed his individual income tax return for the taxable year ended December 31, 1951, with the collector of internal revenue at Tacoma, Washington.Petitioner has engaged in lumber manufacturing for approximately 15 years in association with his father, M. A. Wyman, and his brother, D. E. Wyman. On January 1, 1948, petitioner together with his father and brother formed a partnership by equal contributions of capital for the purpose of conducting a lumber manufacturing operation under the name of Klamath4 Basin Pine Mills, Klamath Falls, Oregon. On March 1, 1948, petitioner, M. A. Wyman, and D. E. Wyman, as incorporators, caused the incorporation of Klamath Basin Pine Mills Corporation, hereafter called Klamath Basin, a Washington corporation, with an authorized capital stock of 600,000 shares of $ 1-par-value common stock for the purpose of taking over and operating as a corporation the aforesaid partnership. On March 2, 1948, they transferred all of the properties and assets of the partnership to Klamath Basin in exchange 623 for a total of 525,000 shares of stock, the incorporators at a meeting held on that day having placed a value on the assets received over liabilities assumed of $ 525,000. Petitioner was issued and received one-third of these shares, a total of 175,000 shares. The remaining 75,000 shares of the authorized 600,000 shares were never subscribed to or issued.From time to time petitioner had been approached by his next door neighbor and closest friend, Loren Haynes, with the request to participate in one of petitioner's numerous successful business transactions. On or about March 5, 1948, in consideration of $ 5,000 paid to him by Loren Haynes, petitioner5 caused to be transferred of record to Loren Haynes 5,000 shares of his Klamath Basin stock subject to an oral agreement that petitioner could at any time reacquire these shares upon payment to Loren Haynes of $ 10,000.Sometime prior to the first annual meeting of stockholders of Klamath Basin held on March 7, 1949, and again on January 6, 1950, Haynes delivered to petitioner a proxy giving petitioner the right to vote the 5,000 shares of stock at all the meetings of the stockholders of Klamath Basin. Petitioner at all times subsequent to the transfer and up until the dissolution of Klamath Basin on June 11, 1951, voted the 5,000 shares at the meetings of the stockholders. During the period of corporate existence of Klamath Basin, none of the stock, except for the 5,000 shares held by Loren Haynes, was owned by anyone other than petitioner, M. A. Wyman, and D. E. Wyman.During the corporate existence of Klamath Basin, Loren Haynes received all dividends declared on the 5,000 shares held by him in the total amount of $ 4,285.74.On April 6, 1951, the board of directors and the stockholders of Klamath Basin for the first time considered liquidating the corporation and ceasing operations. 6 Pursuant to the oral agreement between petitioner and Haynes at the time of the transfer of the 5,000 shares of stock to Haynes, petitioner on May 18, 1951, telegraphed Haynes and requested that he endorse the stock certificate and attach it to a sight draft for $ 10,000 drawn on petitioner. On May 21, 1951, the certificate representing the 5,000 shares of stock in Klamath Basin, endorsed by Haynes and attached to a sight draft drawn on petitioner in the amount of $ 10,000, was received by the Seattle-First National Bank, Seattle, Washington. The draft was paid by petitioner and the certificate was delivered to him on that date.On the date of the transfer of the 5,000 shares from Haynes back to petitioner the book value of the 5,000 shares was considerably in excess of $ 10,000.624 On June 11, 1951, Klamath Basin was liquidated and petitioner received assets having a fair market value of $ 1,642,575.30. The fair market value of the assets received by petitioner in the liquidation of the 5,000 shares of stock which had been held of record by Haynes was $ 46,930.77. Petitioner's Federal tax basis in the assets contributed to Klamath Basin in exchange for his 175,000 shares7 of stock in Klamath Basin was $ 175,000.On his tax return for the year 1948, petitioner did not report a sale of the 5,000 shares in Klamath Basin to Haynes. On his 1951 income tax return petitioner reported the exchange of his one-third stock interest in liquidation of Klamath Basin as follows: 170,000 shares were reported as exchanged for assets having a fair market value of $ 1,637,539.81. Petitioner reported $ 170,000 as his cost basis on the 170,000 shares and deducted the cost basis from the fair market value of the shares and reported $ 1,467,539.81 as gain from the sale of capital assets held for more than 6 months. With respect to the 5,000 shares involved in the Haynes transaction, petitioner reported the exchange of these shares for assets of the fair market value of $ 48,162.90 1 and treated this amount as follows:The sum of $ 10,000 was offset against the $ 10,000 cost basis derived from the redemption by petitioner of Haynes' interest in the 5,000 shares; the balance, $ 38,162.90, was reported as received in exchange for the interest petitioner had retained in the 5,000 shares in the transaction of 1948 as gain from the exchange of capital assets held for more 8 than 6 months.The nature of the transaction between petitioner and Loren Haynes on March 5, 1948, was a sale of 5,000 shares of stock in Klamath Basin to Loren Haynes with petitioner receiving an oral option to repurchase the stock at any time for $ 10,000. Petitioner "held" the 5,000 shares of stock in Klamath Basin from May 21, 1951, to June 11, 1951, less than 6 months prior to the liquidation.OPINION.The only question is whether petitioner held the 5,000 shares of stock, for which he received $ 46,930.77 in value of assets upon the liquidation of Klamath Basin, for more than 6 months prior to the liquidation of Klamath Basin.The documentary evidence before us supports respondent's determination that petitioner sold the 5,000 shares of stock to Loren Haynes on March 5, 1948, for $ 5,000, and received an oral9 option to repurchase the stock for $ 10,000 at any time, which option he exercised on May 21, 1951, and repurchased the stock for $ 10,000 on that 625 date. The stock transfer book shows the cancellation of certificate No. 2 originally issued to petitioner for 175,000 shares and the issuance in exchange therefor of certificate No. 4 to petitioner for 170,000 shares and certificate No. 5 to Loren Haynes for 5,000 shares on March 5, 1948. Certificate No. 5 was assigned by Loren Haynes to petitioner and was attached to a sight draft for $ 10,000 drawn on petitioner which petitioner paid on May 21, 1951, and the stock certificate was delivered to petitioner on that date. Klamath Basin was liquidated on June 11, 1951, and petitioner received for these 5,000 shares assets having a fair market value of $ 46,930.77.Haynes was holder of record and had possession of the stock certificate from March 5, 1948, to May 21, 1951. Under the Uniform Stock Transfer Act adopted by the State of Washington (Washington Rev. Code, ch. 23.80), shares of stock are identified with the certificates and the certificates are not regarded as mere evidence of the stock but the stock itself. Fuller v. Ostruske, 48 Wash. 2d 802, 296 P. 2d 996, 1002 (Sup. Ct. 1956).10 Haynes received all the dividends on the stock during the period he held it, he gave petitioner a proxy to enable petitioner to vote the stock, and the sight draft contained restrictions on delivery of the stock until the draft was paid. All of the above are indicative of ownership of the stock by Haynes.So, unless petitioner can establish that by oral agreement he retained some interest in the stock in 1948 in exchange for which he received a part of the liquidating dividend in 1951, petitioner realized a short-term capital gain on the entire amount he received for this stock on liquidation of Klamath Basin, and respondent's determination must stand.Petitioner's argument is that he sold only a limited interest in the stock to Haynes and retained a beneficial interest in the stock in excess of $ 10,000 which qualified as a capital asset, so that when the corporation was liquidated he received $ 10,000 for the limited interest he reacquired from Haynes in 1951 for that amount, and $ 36,930.77 for the retained beneficial interest he had held since 1948.Even if we accept petitioner's version of the transaction with Haynes we cannot find that it amounted to anything different from11 a sale of the stock to Haynes with the option to repurchase the stock at any time for $ 10,000. The term "capital asset" as defined by section 117(a)(1), I.R.C. 1939, "means property held by the taxpayer * * ." The word "held" is considered to be synonymous with ownership. Howell v. Commissioner, 140 F. 2d 765 (C.A. 5), affirming a Memorandum Opinion of this Court. Thus the holding period of stock for capital gains purposes begins when its ownership begins. McFeeley v. Commissioner, 296 U.S. 102">296 U.S. 102; Ethlyn L. Armstrong, 6 T.C. 1166">6 T.C. 1166, affirmed per curiam 162 F. 2d 199 (C.A. 3). An option to purchase stock does not constitute a present interest in the stock 626 and the period during which the option to purchase is held unexercised is not to be included in the holding period of the stock. Helvering v. San Joaquin Co., 297 U.S. 496">297 U.S. 496; E. T. Weir, 10 T.C. 996">10 T.C. 996, affirmed per curiam 173 F. 2d 222 (C.A. 3).Petitioner testified that his next door neighbor and close 12 friend, Loren Haynes, had often asked him to be let in on some of petitioner's successful business ventures, that when Klamath Basin was incorporated he told Haynes he would let him in on it by selling him 5,000 of his shares for $ 5,000, but with the understanding that petitioner would have the voting rights on the stock (to retain the one-third voting balance with his father and brother), and could buy it back at any time for $ 10,000. Haynes was to get all dividends paid on the stock during the time he held it. There is some conflict in the testimony about whether petitioner guaranteed Haynes against loss on the deal. The uncontradicted testimony of the revenue agent who first talked to petitioner about the transaction was that petitioner told him the only agreement with Haynes was that he could buy the stock back for $ 10,000. Petitioner did not recall what he had told the agent but testified on redirect examination: "I did guarantee him as near as I can tell it. * * I promise you [Haynes] you won't lose any money on the deal because you can't lose any money on the deal because it's [stock] worth twenty to twenty-five per cent more now than what I'm offering to transfer 13 it to you for." We doubt that such a statement was intended as a guarantee against loss -- but only as reassurance because the stock was already worth more than Haynes was paying for it. Petitioner also testified in answer to a direct question as to whether a part of the agreement was that he had to buy the stock back: "I don't remember ever discussing the fact whether I had to buy the stock back at any time."Petitioner testified that following his conversation with Haynes he went to his attorney's office where the stock transfer book was kept and had the attorney cancel his certificate for 175,000 shares and issue two new certificates, one to himself for 170,000 shares and one to Haynes for 5,000 shares "to evidence his [Haynes] interest in that particular block of stock." Prior to the first meeting of the stockholders on March 7, 1949, Haynes also gave him a proxy to vote the 5,000 shares, which is not in evidence, and another proxy for this purpose dated January 6, 1950, which is in evidence and which reserves to Haynes the right to revoke it at any time.When it was decided to liquidate the corporation in 1951 petitioner wired Haynes to endorse the certificate and send it attached14 to the sight draft to the bank in Seattle, which Haynes did. The telegram also said: "You can keep enough out of ten grand to pay your capital gains tax and if you want to re-invest balance will talk to you about 627 that next month." The sight draft instructed the bank to hold the stock if the draft was not paid on presentation.Petitioner points to the fact that he didn't report this transaction on his 1948 income tax return as evidence that he didn't consider the transaction to be a completed sale. We do not know why he did not report it on his return because it is clear from his own testimony and his telegram to Haynes that he thought he had sold something to Haynes which would produce a capital gain for Haynes when he bought it back in 1951. We might also observe that if petitioner had retained the valuable beneficial interest he claims to have reserved in 1948, a considerable part of his $ 5,000 basis in these 5,000 shares of stock would have been attributable to the reserved interest, and he would have had a gain on what he did sell in 1948. It is also interesting to note that petitioner's father and brother probably thought petitioner had made a complete sale of 15 the stock because petitioner testified he got in trouble with them because of this sale, and petitioner's certificate for 170,000 shares soon thereafter had a restrictive endorsement placed on it directing attention to a certain agreement for purchase rights dated April 5, 1948.The only other evidence concerns the financial condition of the corporation and a letter from Haynes to petitioner dated September 3, 1957, which were stipulated in evidence subject to respondent's objection as to their materiality and relevance. The letter read as follows:Dear Max:This is to confirm our understanding in regard to the 5,000 shares of Klamath Basin Pine Mills stock that I bought from you in 1948 for $ 5,000.00. You will remember that I gave you a stock proxy at the time of purchase and agreed that you could buy the stock back at any time for $ 10,000.00 and that my maximum interest in the stock was limited to $ 10,000.00. You will remember that you did buy the stock back in 1951 for $ 10,000.00.Very truly yours,Loren HaynesWe think Haynes' understanding of this transaction might be very relevant and material to this issue, but he was not called to testify despite the fact that he was16 living in Los Angeles at the time of trial and was apparently available as a witness. His letter, obviously written at the request of petitioner after respondent questioned the transaction, is unsatisfactory evidence at best, but both parties rely on it on brief. Petitioner claims that the reference to Haynes' maximum interest in the stock being limited to $ 10,000 supports his position, while respondent urges that it shows there was an outright sale of the stock with an agreement that petitioner could buy it back. Without further explanation from Haynes we cannot give much weight to the letter one way or the other, but we do not think the letter alone supports petitioner's claims.628 On the above evidence we cannot find that the transaction was anything other than it purported to be on the recorded evidence and as found by respondent, that is, a sale of the stock with an option to repurchase. It would serve no useful purpose to discuss the cases cited by the parties. The cases cited by petitioner stand for the proposition, for the most part, that someone other than the record holder of legal title can hold a beneficial interest in property which is recognizable for tax17 purposes. 2 But they are all decided on their own facts, and none of them had the situation here present where Haynes not only was the owner of the stock of record and held possession thereof, but was also entitled to all the income from the stock while he held it. The case nearest in point cited by either party seems to be James H. Torrens, 31 B.T.A. 787">31 B.T.A. 787, 794, wherein it is said:The presence in an agreement of sale of stock providing for its repurchase by the seller upon condition does not in itself destroy the then completed sale to the purchaser, nor does such an agreement alone revest any title in the original seller. It is merely an unexecuted option to rescind the original completed sale.18 See also Helvering v. San Joaquin Co., supra.Furthermore, petitioner fails to point out how the amount distributed in liquidation of the corporation, or what part thereof, could be considered to have been distributed in exchange for his alleged retained beneficial interest, as opposed to the stock itself. The assets received by petitioner on liquidation of the corporation were distributed to him because he then was the owner of the stock itself. Also, petitioner recovered his original investment in these 5,000 shares when he sold the stock to Haynes in 1948, and he had no investment with respect to these shares upon which he could realize a capital gain until he paid Haynes $ 10,000 to repurchase the stock in 1951, less than 6 months prior to the liquidation. As said in Commissioner v. P. G. Lake, Inc., 356 U.S. 260">356 U.S. 260, 265:The purpose of § 117 was "to relieve the taxpayer from * * * excessive tax burdens on gains resulting from a conversion of capital investments * * "We can sympathize with petitioner, who was trying to help his friend, but we can't decide the case on that basis. We have found as an ultimate19 conclusion of fact that petitioner did not hold the stock upon which he received the distribution in liquidation for more than 6 months. Petitioner's gain is therefore taxable as a short-term capital gain.Decision will be entered for the respondent. Footnotes1. The fair market value of the assets received by petitioner in liquidation was reduced by respondent. The fair market value of the assets received for the 5,000 shares was stipulated to be $ 46,930.77.↩2. Ruth W. Collins, 14 T.C. 301">14 T.C. 301; Everett D. Graff, 40 B.T.A. 920 affd. 117 F. 2d 247 (C.A. 7); Frank R. Malloy, 5 T.C. 1112">5 T.C. 1112; Corporation of America v. McLaughlin, 100 F. 2d 72 (C.A. 9); F. P. E. Noteholders Corporation, 5 T.C. 472">5 T.C. 472; Pat O'Brien, 25 T.C. 376">25 T.C. 376; State v. Pacific Waxed Paper Co., 22 Wash. 2d 844, 157 P. 2d 707↩ (Sup. Ct., 1945).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619817/	BENJAMIN G. CHAPMAN, JR., EXECUTOR, ESTATE OF FANNIE H. HIGBEE, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Chapman v. CommissionerDocket Nos. 25133, 31758.United States Board of Tax Appeals19 B.T.A. 105; 1930 BTA LEXIS 2476; February 27, 1930, Promulgated 2476 The petitioner's decedent was one of the beneficiaries of a trust created by the last will and testament of her uncle. The trustees of said trust received from time to time stock dividends on certain stocks held by the trust. Said stock dividends were subsequently, in a suit brought to construe said will, adjudged by the court to be income of the trust which should have been distributed to the beneficiaries when received by the trustees. In 1918 shares of stock representing one-half of said stock dividends were conveyed by the trustees to the petitioner's decedent pursuant to the order of said court and they were subsequently sold by her. Held, gain or loss should be computed from the date said stock dividends were received by said trustees. Rhoades E. Cave, Esq., for the petitioner. R. W. Wilson, Esq., for the respondent. MARQUETTE 105 These proceedings, which were duly consolidated for hearing and decision, are for the redetermination of deficiencies in income taxes asserted by the respondent in the amounts of $2,964.51 for 1923, $27,295.37 for 1924, and $1,323.93 for 1925. The issue is as to the basis for computing gain or loss2477 from the sale of certain shares of stock. FINDINGS OF FACT. The petitioner is and has been since January 21, 1927, the duly appointed, qualified and acting executor of the estate of Fannie H. Higbee. William R. Pye, a resident of St. Louis, Mo., died in the year 1889, leaving a last will and testament which provided, among other things, that: I do hereby convey, transfer and assign, unto Benjamin G. Chapman and Warner M. Hopkins, of the City of St. Louis, State of Missouri, all real estate that I may die possessed of (more particularly set forth in an inventory hereto 106 annexed), consisting of business and resident property in the City of St. Louis, Missouri, and leasehold therein and lands in Colorado and also - all other real estate that I may hereafter acquire or become possessed of; also all personal property and effects now belonging to me or hereafter acquired by me of whatever character embracing moneys on hand or that may be due or becoming due to me; all Bonds or Stocks of Corporations, all notes of hand or moneys due me and mortgages or Deeds of Trust securing same, to be held by them, the said Benjamin G. Chapman and Warner M. Hopkins - In Trust - however2478 for the sole use and exclusive benefit and disposal of my two nieces, sisters of the said Warner M. Hopkins, to-wit; Fannie R. Hopkins and her sister Louisa H. Chapman, wife of the said Benjamin G. Chapman share and share alike, subject, however, to the following described bequests and conditions. The said trustees, B. G. Chapman and W. M. Hopkins, or their successors, or the surviving trustee are hereby authorized, with the written consent of the aforesaid beneficiaries, Fannie R. and Lulu H. or the surviving one, to sell, convey or dispose of any or all of the real estate or personal property hereby conveyed to them, and invest the proceeds of said sale in other property as they may elect, for the sole use and disposal of the said beneficiaries, their heirs and assigns. 1st. It is hereby conditioned and provided that one-half of the real estate and personal property, (except household effects), hereby bequeathed to and for the use of the said Fannie R. Hopkins, or the equivalent thereof in money value, shall be conveyed, transferred and bequeathed at her death by her will and testament, or in default of such conveyance by the said Fannie R. Hopkins, her administrator or executor, 2479 shall convey to the "St. Louis Bethel Association of the City of St. Louis, Missouri", a corporation of said city, for the purpose of erecting in said city a house for public religious christian worship, as the trustee or directors of said Bethel Association may determine or the said Fannie R. Hopkins may appropriate such request to any other charitable purpose that she may select or determine. Fannie R. Hopkins, named in the last will and testament, and Fannie H. Higbee, above referred to, were one and the same person. The testator, William R. Pye, by his last will and testament also provided for certain specific bequests and gave (1) to his sister, Clarissa L. Wheeler, $1,000 per annum during her life; (2) to his brother, Edward R. Pye, $500 per annum during his life; (3) to Elizabeth Edgar, $600 per annum during her life; and (4) to Lizzie C. Lodwich during her life interest at 6 per cent on $4,000, or so much thereof as she should fail to recover in a certain suit then pending. The estate of William R. Pye was administered by the executors of his last will and testament, and upon the conclusion of the administration the assets mentioned in the paragraph of the will above2480 set forth were turned over to the trustees named therein. Included in said assets were 150 shares of what was then known as the American Arithmometer Co. Subsequently the trustees bought 18 additional shares of said stock. From time to time the American Arithmometer Co., the name of which was subsequently changed to Burroughs Adding Machine Co., declared stock dividends and the shares of stock representing said dividends were delivered to 107 said trustees as follows: On or about July 15, 1898, 168 shares; on or about January 16, 1905, 3,024 shares; on or about January 16, 1917, 6,720 shares, a total of 9,912 shares. The said trustees continued to hold all of the trust estate, including said 9,912 shares of the capital stock of the Burroughs Adding Machine Co. received as aforesaid, and to pay the annuities provided by the last will and testament of William R. Pye until the year 1918. In 1918 the said Fannie H. Higbee and Louisa H. Chapman claimed that they were entitled to the said 9,912 shares of the capital stock of the Burroughs Adding Machine Co. representing said stock dividends and the said Fannie H. Higbee further claimed that the provision of the last will and2481 testament of William R. Pye by which she was required to convey "one-half of the real estate and personal property * * hereby bequeathed to and for the use of the said Fannie R. Hopkins, or the equivalent thereof in money value" at her death to charity only required her to make such gift of the equivalent in money value of one-half of William R. Pye's estate at the time of his death and not one-half of the value of said estate at the time of the death of Fannie H. Higbee. On the other hand, the St. Louis Bethel Association mentioned in the last will and testament of William R. Pye as the object of such bequest, claimed that Fannie H. Higbee was required to convey to charity the equivalent in money value of one-half of that portion of the trust created for the benefit of Fannie H. Higbee, such money value to be determined as of the date of Fannie H. Higbee's death. In view of these claims and demands of Louisa H. Chapman and Fannie H. Higbee, said trustees filed in the Circuit Court of the city of St. Louis in the June term of 1918, a certain suit wherein they, the trustees, were plaintiffs, and Fannie H. Higbee, Louisa H. Chapman, Elizabeth Edgar and William B. Edgar, her husband, 2482 and the St. Louis Bethel Association were defendants, in which the plaintiffs and the trustees sought to have the court construe the last will and testament of the said William R. Pye and to advise and instruct them, the said trustees, as to the proper disposition of the said 9,912 shares of the capital stock of the Burroughs Adding Machine Co. representing the said stock dividends. Thereafter, on August 7, 1918, the Circuit Court of the city of St. Louis entered a decree in said cause, which decree is in part as follows: Wherefore in consideration of the premises the court is of the opinion (a) that under the proper construction of said will of William R. Pye deceased that it was the intention of the said testator that the stock dividends described in the plaintiff's petition and these findings having been declared out of the accumulated earnings of the Company should be a part of the income of the said trust estate and as such should have been paid to the said Louisa H. Chapman and Fannie R. Higbee as they were received by the said trustees. 108 (b) That the aforesaid trust estate was given to the plaintiffs as trustees and their successors to be held by them in trust2483 for the benefit equally of his nieces Louisa H. Chapman and Fannie H. Higbee with the powers to said trustees set forth in said will; without any limitations as to the right and interest of Louisa H. Chapman, in and to her share thereof but with the following provision with reference to the interest and right of Fannie H. Higbee in her share, to-wit: that Fannie H. Higbee should convey, transfer, or bequeath, or if she should die without so doing that her administrator or executor should convey to defendant St. Louis Bethel Association of St. Louis, Missouri, one-half of the principal or corpus of said trust estate real or personal (except household effects) or its equivalent in value in money estimated as of the time of the death of said testator to the St. Louis Bethel Association of the City of St. Louis, Missouri, defendant herein, for the purpose of erecting by it in said city a house for public religious christian worship as the trustees of said association may determine, provided, however, that said Fannie H. Higbee should have the power to annul said provision for the St. Louis Bethel Association and appropriate such bequest to any other charitable purpose she may select and2484 determine, and the court is of the opinion that Fannie H. Higbee has the valid power and right to appropriate said one-half of the principal of said trust estate or its equivalent in value in money, estimated as of the time of the death of said testator either to said Bethel Association for the purpose of erecting a church as aforesaid or to any other charitable purpose she may select by transfer in her lifetime or by her will at her death and that in event of her death without having made such appropriation to such other valid charitable purpose that it will be the duty of the administrator or executor of said Fannie H. Higbee to transfer said property or its equivalent in value in money estimated as of the time of the death of said testator to said Bethel Association for the purpose afresaid and that in the event she shall appropriate said trust property to any other charitable purpose which she may select it will be the duty of the trustees or their successors to transfer said trust property to such person or persons in such manner and form as may be necessary and appropriate to carry out her purpose. The court therefore in consideration of the premises does order, adjudge and2485 decree that the plaintiffs as trustees aforesaid transfer and assign in equal parts to defendants, Louisa H. Chapman and Fannie H. Higbee the aforesaid nine thousand nine hundred and twelve (9912) shares of the stock of the Burroughs Adding Machine Company to be owned and held as their absolute property * . Pursuant to said decree the said trustees on August 7, 1918, transferred and delivered to Fannie H. Higbee a certificate for 4,956 shares of the capital stock of the Burroughs Adding Machine Co., which represented her portion of said stock dividends. The shares of stock so received by Fannie H. Higbee, together with shares of stock representing subsequent stock dividends received thereon, were held by her until the years 1923, 1924, and 1925. In the year 1923 the said Fannie H. Higbee sold 689 shares of said capital stock of the Burroughs Adding Machine Co. for $86,029.22; in the year 1924 she sold 7,000 shares of said stock for $840,500, and in the year 1925 she sold 616 shares of said stock for $58,434.16. 109 The said Fannie H. Higbee in her returns of income for the years 1923, 1924, and 1925, took, as the basis for computing gain or loss on the sale of said2486 shares of the capital stock of the Burroughs Adding Machine Co., the value thereof at the time they were actually received by her. The respondent, upon audit of the returns, determined that the proper basis for computing such gain or loss should be the value of said shares at the time they were received by the trustees of said trust, and that there are deficiencies in tax as above set forth. OPINION. MARQUETTE: In view of the pleadings herein and the admissions made by counsel at the hearing, the only controversy between the parties to this proceeding is as to the date that Fannie H. Higbee acquired, within the meaning of the Revenue Acts of 1921 and 1924, the 4,956 shares of the capital stock of the Burroughs Adding Machine Co. that were distributed to her on August 7, 1918, pursuant to the decree of the Circuit Court of the city of St. Louis. The petitioner contends that Fannie H. Higbee acquired the stock on the date of distribution, while the respondent takes the position that she acquired it, within the meaning of the taxing statutes, on the several dates it was received by the trustees of the trust created by the will of William R. Pye. The parties appear to be in2487 accord as to the basic values to be used in computing profit and loss on the subsequent sales of the stock, depending on the date of acquisition by Fannie H. Higbee, and the petitioner concedes that if the position of the respondent as to the date of acquisition is well taken, the deficiencies determined by him are correct. The petitioner relies on the cases of ; ; ; and , in which it was held that a legatee under a will acquires personal property within the meaning of the Revenue Acts of 1918 and 1921 when such property is distributed by the executor and that gain or loss on the subsequent sale of the property should be computed from the date of distribution. The applicable provision of the Revenue Act of 1924 is identical with the provisions of the Revenue Acts of 1918 and 1921 and the same meaning must be given to the word "acquired" in the Act of 1924 as in the prior acts. We are of opinion that the contention of the petitioner that Fannie H. Higbee2488 acquired the shares of stock in question when they were actually distributed to her by the trustees can not be sustained in view of the recent decision of the Supreme Court of the United States in . In that case the petitioner's father died testate May 20, 1918. The surrogate's 110 court at Rochester, N.Y., entered a final decree April 19, 1920, pursuant to which certain stocks were distributed to the petitioner as one of the residuary legatees. For his income-tax returns he computed profit or loss on each sale by comparing the selling price of the stock with its value at the date of the decree of distribution and paid the amounts so determined. The Commissioner held that the values of the stock at the date of the testator's death should be taken for the calculation of income, and on that basis assessed for each year an additional tax, which petitioner paid under protest. The petitioner brought an action in the District Court for the Western District of New York to recover the amounts so exacted. That court gave judgment for him. The Circuit Court of Appeals reversed the judgment of the District Court. The case was taken2489 to the Supreme Court of the United States on writ of certiorari and that court, affirming the judgment of the Circuit Court of Appeals, said in part: Upon the death of the owner, title to his real estate passes to his heirs or devisees. A different rule applies to personal property. Title to it does not vest at once in heirs or legatees. . But immediately upon the death of the owner there vests in each of them the right to his distributive share of so much as shall remain after proper administration and the right to have it delivered upon entry of the decree of distribution. ; ; . Upon acceptance of the trust there vests in the administrators or executors as of the date of the death, title to all personal property belonging to the estate; it is taken, not for themselves, but in the right of others for the proper administration of the estate and for distribution of the residue. The decree of distribution confers no new right; it merely identifies the property remaining, 2490 evidences right of possession in the heirs or legatees and requires the administrators or executors to deliver it to them. The legal title so given relates back to the date of the death. ; ; . Petitioner's right later to have his share of the residue vested immediately upon testator's death. At that time petitioner became enriched by its worth which was directly related to and would increase or decline correspondingly with the value of the property. And, notwithstanding the postponement of transfer of the legal title to him, Congress unquestionably had power and reasonably might fix value at the time title passed from the decedent as the basis for determining gain or loss upon the sale of the right or of the property before or after the decree of distribution. And we think that in substance it would not be inconsistent with the rules of law governing the descent and distribution of real and personal property of decedents to construe the words in question to mean the date of death. The decree of the Circuit Court2491 for the City of St. Louis created no new property right. It merely declared and defined rights that then and had theretofore existed, rights that belonged to Fannie H. Higbee, which were vested in her by the will of her uncle, William 111 R. Pye, and which became effective, in so far as the stock dividends involved herein were concerned, when the dividends were received by the trustees. Under the construction placed upon the will by the Circuit Court, Fannie H. Higbee had, as a beneficiary of the trust created by the will, the right to have one-half of the stock dividends conveyed to her as and when they were paid to the trustees. That she did not assert her right or attempt to enforce it until later, and did not actually receive the stock until 1918, does not alter the situation. The right nevertheless existed. In view of the decision of the Supreme Court of the United States in , we are constrained to hold that Fannie H. Higbee acquired her share of the stock dividends in question, within the meaning of the Revenue Acts of 1921 and 1924, at the dates they were received by the trustees. Reviewed by the Board. Judgment*2492 will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619818/	STEPHEN B. SCALLEN and CHACKE Y. SCALLEN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentScallen v. CommissionerDocket No. 6913-85.United States Tax CourtT.C. Memo 1987-412; 1987 Tax Ct. Memo LEXIS 409; 54 T.C.M. (CCH) 177; T.C.M. (RIA) 87412; August 24, 1987; As Amended November 3, 1987; See Attached Order Amending This Opinion James W. Littlefield, for the petitioners. Genelle E. Forsberg and Gordon Gidlund, for the respondent. COHENMEMORANDUM FINDINGS OF FACT AND OPINION COHEN, Judge: Respondent determined deficiencies in and additions to petitioner's Federal income tax as follows: Additions to TaxSec.Sec.Sec.Sec.YearDeficiency6651(a)6653(a)(1)6653(a)(2)16653(b)1976$ 17,716---$ 8,8581977391,204---195,60219786,607---3,3041979277,140$ 41,571$ 13,875--198097,922-4,896--1981442,840-22,142-415 In his Answer, respondent further claims the following additions to tax: Additions to TaxYearSec. 6653(b)Sec. 6653 (b)(2)1979$ 138,570-198048,961-1981221,420Respondent asserts the additions to tax fraud only against Stephen B. Scallen (petitioner), not petitioner's wife, Chacke Y. Scallen. If the court determines that petitioner owes no additions to tax for fraud under section 6653(b), respondent, in his Answer, requests the Court (1) to make a determination, pursuant to section 6214(a), of additions to tax under section 6653(a) for 1976, 1977, and 1978 and (2) to sustain the additions to tax claimed by respondent in his notice of deficiency for 1979, 1980, and 1981. Although respondent identified 44 issues in his trial memorandum and in his opening brief, petitioners have addressed416 only 23 of them. Because petitioners failed to articulate arguments on the other issues, all of which were essentially factual issues on which they bear the burden of proof under Rule 142(a), we conclude that they have abandoned and thereby conceded those issues. See Calcutt v. Commissioner,84 T.C. 716">84 T.C. 716 (1985). 2 Respondent's determinations as to those issues, unless otherwise modified by the stipulation of the parties, are therefore sustained. 417 Our findings of fact and opinion have been organized so that related issues may be considered together. A table in the attached Appendix will assist the parties to cross-reference the issues herein to the issues laid out in their respective briefs. The issues remaining for decision are as follows: (1) Whether petitioner's gain realized on the retirement of the Eberhardt Company note in 1977 is capital gain or ordinary income. (2) Whether petitioner realized ordinary income in 1977 of $ 70,577 representing John C. Parrott, M.D.'s (Dr. Parrott), distributive share on liquidation of Franklin Park Partnership's assets. (3) Whether petitioner correctly reported gain in 1979 on the sale of the Mark Twain Hotel/Brittany Apartments (Brittany). (4) The amount of gain realized on the sale of Brittany to Charger Jet in 1980. (5) Whether petitioner is entitled to a capital loss in 1981 attributable to the sale of Brittany to Charter Jet in 1980. (6) Whether petitioner is entitled to deduct $ 18,503 in 1980 as repairs expenses relating to certain property at 1313 Como, S.E. (1313 Como). (7) Whether petitioner's 1981 transfer of 1313 Como to Interfund Services, Inc. (Interfund, 418 Inc.), was a sale or a contribution to capital. (8) Whether petitioner had income in 1981 when Interfund, Inc., transferred the remaining condominium units to Campus Corporation. (9) Whether petitioner is entitled to an interest deduction in 1979, of $ 46,783 attributable to the settlement of a lawsuit by Midway National Bank of St. Paul. (10) Whether petitioner is entitled to deduct $ 30,000 in 1980 for a lawsuit settlement involving Campus Realty Company No. 12 partnership. (11) Whether petitioner is entitled to deduct $ 58,500 in 1980 for a lawsuit settlement involving Frank Klodt & Sons, Inc.(12) Whether petitioner is entitled to deduct legal fees in 1979. (13) Whether petitioner is entitled to deduct legal fees in 1980. (14) Whether petitioner is entitled to deduct $ 5,000 for "Legal and professional services" and $ 22,000 for "Promotion" for amounts allegedly paid to Gerald R. Hansen (Hansen) in 1978. (15) Whether petitioner is entitled to capitalize the "Consulting Fees" of $ 37,198 allegedly paid to Hansen in 1978. (16) Whether petitioner is entitled to deduct $ 25,000 for "Commissions" allegedly paid to Hansen in 1979. (17) Whether petitioner is419 entitled to deduct $ 25,000 for "Consulting Fees" allegedly paid to Hansen in 1980. (18) Whether petitioner is entitled to deduct $10,000 for "Commissions" allegedly paid to Hansen in 1980. (19) Whether petitioner had income in 1980 from the forgiveness of liabilities. (20) Whether petitioner had income in 1981 from the forgiveness of liabilities. (21) Whether petitioner had additional income in 1981 from teaching at the University of Lyon in France. (22) Whether petitioner is entitled to deduct losses in 1979 and 1980 attributable to Sunnyside Development Corporation, a small business corporation. (23) Whether petitioner is liable for additions to tax for fraud under section 6653(b) in each of the years 1976, 1977, 1978, 1979, 1980, and 1981. (24) If we do not find fraud in each year in issue, whether petitioner is liable for additions to tax under sections 6651(a) and 6653(a). FINDINGS OF FACT Petitioners Stephen B. Scallen and Chacke Y. Scallen, husband and wife, resided in Minneapolis, Minnesota, when they filed their petition. They filed joint Federal income tax returns for each of the years 1971 through 1983. On each return, petitioners reported a420 tax liability of zero. Petitioner's BackgroundPetitioner graduated from the University of Minnesota Law School in 1959, ranking third or fourth in his class of about 70. He was president of the law review and a member of the Order of the Coif. From 1959 to 1961, petitioner was an associate in a large, prestigious law firm based in Washington, D.C., where he concentrated in the field of Federal income taxation. From 1961 until 1965, petitioner served as assistant dean of the University of Minnesota law school. From 1961 through the time of trial, petitioner was a professor at the University of Minnesota law school, teaching courses in Federal income taxation, business planning, securities regulations, real estate planning, international law, and international taxation. From 1976 through 1983, petitioner attended various continuing legal education courses, including, among other things, Usury Law and Modern Business Transactions, Tax Shelters, Housing Law, Estate Planning, International Tax Problems, and Purchase and Broker Agreements. In 1980, petitioner taught two continuing legal education courses: "Real Estate Planning: Purchase Agreements" and "Real Estate Planning: 421 Tax Free Exchanges." On a leave of absence from the University of Minnesota during the 1965 and 1966, petitioner was a Graduate Fellow at Harvard Law School where he researched and studied Federal taxation. Petitioner wrote two articles for the Minnesota Law Review entitled "Federal Income Taxation of Professional Associates and Corporations" (in March 1965) and "Deductibility of Anti-Trust Treble Damage Payments" (in June 1968) and one article for the 1970 Institute on Estate Planning entitles "The Professional Association." Petitioner's Real Estate ActivitiesBeginning in 1966, petitioner engaged in the real estate business in Minneapolis, Minnesota, in addition to teaching at the University of Minnesota. His activities included the buying and selling of real estate, the development of apartment complexes and condominiums, syndication and management of real estate partnerships, the arranging of real estate financing, and the management of real estate rental properties. Between 1974 and 1978, petitioner owned, controlled, or held an interest in approximately 19 petitioner owned, controlled, or held and interest in approximately 19 partnership, 6 corporations, and 11 ventures422 classified as sole proprietorships, all of which were related to real estate ventures or properties. Among the partnerships were the following: Petitioner's PercentageNameof OwnershipMonroe House Partnership50%(as of 1/1/76)Franklin Park Partnership60%(as of 1/1/76)Campus Development, Ltd.40%Partnership Cedar Courts, Ltd. Partnership-- Campus Realty Company No. 4-- Partnership (CR-4) Campus Realty Company No. 5-- Partnership (CR-5) Campus Realty Company No. 12-- Partnership (CR-12) Some of these partnerships constructed apartment buildings, and all of them operated buildings. Petitioner was the managing general partner in each of the partnerships, and he directed the preparation of partnership423 returns for most, if not all, of the partnerships. The six corporations with which petitioner was affiliated were Interfund Services, Inc. (Interfund, Inc.), Sunnyside Development Corporation (Sunnyside, Inc.), Chesapeake Development Corporation (Chesapeake, Inc.), Jansco, Inc., Blue Ridge Properties Corporation (Blue Ridge, Inc.) and Campus Realty Corporation (Campus Realty, Inc.). Petitioner was the sole shareholder and corporate officer of Interfund, Inc., Sunnyside, Inc., and Campus Realty, Inc. Interfund, Inc., and Jansco, Inc., were electing small business companies during the years in issue and Sunnyside, Inc., was an electing small business company beginning in 1979. Beginning around 1970, Donald J. Hamm (Hamm), a certified public accountant beginning in 1972, prepared tax returns for petitioner and his various entities. With respect to petitioners' personal tax returns, petitioner generally supplied Ham with information in the form of itemized lists. When Hamm had completed the personal and business returns, he would submit them to petitioner for his signature. Hamm also prepared certain adjusting journal entries challenged by respondent. The entries were usually424 made pursuant to instructions by petitioner. Hamm often requested that petitioner provide documentation, but petitioner rarely did so. Beginning in 1971, Betty Zweig was employed as petitioner's secretary and office manager. From July 1972 through February 1981, Donna Wachtler performed bookkeeping services for petitioner's real estate business. During the years 1971, 1972, and 1973, petitioner's real estate management business was conducted by Interfund, Inc. Beginning in 1974, petitioner used the name Interfund Services for his property management business. Beginning in 1975, petitioner conducted his property management business as a sole proprietorship under the name of Jansco. 3 Petitioner reported items of income and expense relating to his property management business on Schedule C of his tax returns. Although petitioner otherwise reported items of income and expense on the cash basis, all items on Schedule C were reported on the accrual basis. 425 Separate ledger accounts were kept for each property in which petitioner held an interest, either individually, through a partnership, or through a corporation. These separate ledgers did not have a cash ledger account. Instead, petitioner's property management business was the "cash hub" for all the related partnerships and entities; it managed all cash receipts and disbursements attributable to the various entities. Intercompany accounts were maintained, and adjusting journal entries described the transactions. For example, when Interfund/Jansco collected rents on behalf of Monroe House, the following entries were made in their respective books: Interfund/JanscoCash$ 30,000Due to/from Monroe House $ 30,000Monroe HouseDue to/from Interfund/Jansco$ 30,000Rental Income $ 30,000I. Franklin Park PartnershipOn March 31, 1972, Franklin Park Apartments, Ltd. (the Franklin Park Partnership) was formed to own, manage, and operate an apartment building on East Franklin Avenue. Petitioner was the general partner, and the limited partners included Campus Developments, Ltd., John C. Parrott, M.D. (Dr. 426 Parrott), Harold Roitenberg, and Leonard LaBelle. All limited partners contributed cash, except Campus Developments, Ltd., whose contribution was fee title to the Franklin Park Apartments subject to certain liabilities.A. The Eberhardt Company NoteThe property contributed by Campus Developments, Ltd., was subject to a $ 400,000 liability to the Eberhardt Company incurred on or about June 7, 1971. Specifically, Frantz Klodt & Son, Inc. (FKSI) and Franklin Park Towers Corporation (FPTC), a company in which petitioner was the sole shareholder, had executed and delivered to Eberhardt Company (Eberhardt) a Principal Note for $ 400,000 (the Eberhardt note), a Mortgage Deed, and certain other instruments identifying the property on East Franklin Avenue as collateral. On December 9, 1974, a Settlement Agreement was executed as a result of various defaults claimed by Eberhardt, including the nonpayment of principal and interest due in total amounts of $ 400,000 and $ 34,250.32 at December 1, 1974, respectively. Pursuant to the Settlement Agreement, petitioner, d/b/a Interfund/Jansco, acquired Eberhardt's interest in the $ 400,000 note. In exchange, Eberhardt received, among427 other things, "fee title to or vendee's interest in" six parcels of property, the accumulated equity value of which the parties agreed was $ 179,600. On its books for 1974, Interfund/Jansco recorded the acquisition of Eberhardt's interest in the $ 400,000 Note in the following adjusting journal entries (AJE): AJE - 13DebitCreditContract for Deed Receivable --Franklin Park$ 179,600Due to Campus Realty 1 $ 25,000Due to Campus Realty 2 55,000Due to Campus Realty 3 58,000Due to Campus Realty 8 16,300Due to Campus Realty 9 15,300Due to Selby (Avenue) 10,000AJE - 36Contract for Deed Receivable --Franklin Park$ 220,400Discount on Contract for Deed $ 220,400Interfund/Jansco continued to record the promissory note due from Franklin Park Partnership as a Contract for Deed Receivable until 1977. In 1977, Franklin Park Partnership's property was sold under foreclosure by Mutual Benefit Life Insurance Company (Mutual Benefit), the holder of the first mortgage, and the partnership was terminated. 4 On its balance sheet for428 1977, Franklin Park Partnership listed assets of $ 845,866 attributable to accounts receivable from Interfund/Jansco and liabilities of $ 493,000 to Interfund/Jansco. The liabilities consisted of the $ 400,000 liability to petitioner on the Eberhardt note and $ 93,000 of accrued interest expense on the note. To close certain accounts with the terminated partnership, Interfund/Jansco recorded the following adjusting journal entry on its books for 1977: Due to Franklin Park$ 845,886.13Due to CR-11 $ 169,177.22C/D Franklin Park 400,000.00C/D Rec. Discount220,400.00Income 497,108.91Due from Scallen -429 In respondent's notice of deficiency, he determined that petitioner's Schedule C gross receipts for 1977 should be increased by $ 220,400 representing "gain on the payoff at face of the discounted Eberhardt mortgage."B. Dr. Parrott's Share of Liquidated AssetsThe Franklin Park Partnership Agreement provided that: XI LIQUIDATIONIn the event of the dissolution of the partnership, the partnership shall be liquidated promptly and the proceeds thereof applied and distributed in the following order of priority: A. To the payment of the debts, liabilities and obligations (other than any loans or advances that may have been made by the partners to the partnership) of the partnership and to the costs and expenses of the liquidation; B. To the establishment of such reserves, if any, deemed reasonably necessary for any contingent or unforeseen debts, liabilities, or obligations of the partnership; C. To the repayment of any advances that may have been made by the General Partner to the partnership; D. To the repayment of the original capital contributions to the partnership, except for the Campus Developments' contribution; E. To the repayment of the430 original capital contribution by Campus Developments. The balance remaining after the repayment of the original capital contributions to the partnership shall be distributed as follows: one-sixth to the General Partner and five-sixths to the Limited Partners, in the same proportions as their respective contributions to capital. In 1977, the year in which the Franklin Park Partnership was terminated, the ownership of Franklin Park Partnership was as follows: petitioner - 60 percent, Campus Development Ltd. - 20 percent, and Dr. Parrott - 20 percent. Through the time of trial in 1986, Dr. Parrott had not received any distribution from the partnership's liquidation. In respondent's notice of deficiency, he determined that petitioner's Schedule C gross receipts for 1977 should be increased by $ 70,557, representing Dr. Parrott's share of the assets of Franklin Park Partnership retained by petitioner when the partnership was liquidated. II. Mark Twain Hotel/Brittany ApartmentsOn June 29, 1977, petitioner entered into a Purchase Agreement with Henry W. Haverstock, Jr., for the purchase of a 114-unit apartment/hotel known as the Mark Twain Hotel/Brittany Apartments (Brittany). 431 The purchase agreement provided that petitioner would pay $ 10,000 in cash on December 31, 1977, assume a first mortgage of approximately $ 720,000, assume a note to Guaranty State Bank of not greater than $ 26,000, assume a promissory note to Gerald R. Hansen (Hansen) of $ 2,500 due August 1, 1977, assume and pay all outstanding bills of not greater than $ 15,000, assume an agreement to pay Hansen an amount not greater than $ 90,000, and pay a note to National City Bank of $ 6,000. In March 1978, petitioner refinanced Brittany and received a loan of $ 800,000 from Midwest Federal Savings and Loan Association of Minneapolis (Midwest). The note was executed by petitioner as president of Blue Ridge, Inc., with petitioner personally guaranteeing payment of the note. Out of the proceeds of this loan, Hansen was paid $ 67,000.A. 1979 TransactionsOn January 31, 1979, Blue Ridge, Inc., sold Brittany to Hansen (the January contract). The purchase price was $ 1,700,000, including cash of $ 172,300 and a contract for deed of $ 1,527,700 to be paid in monthly installments. Any outstanding balance was due and payable on February 1, 1988. Hansen could prepay without penalty; 432 he assumed no personal liability under the contract; and he was required "to pay 9/12 of the real estate taxes due and payable in the year 1979." The total amount of real estate taxes paid in 1979 was $ 53,200. On February 1, 1979, the next day, Hansen sold Brittany to Bradley A. Herman (Herman). The purchase price was $ 1,706,700, including $ 10,000 of cash, $ 169,000 to be paid in monthly installments of $ 5,000, and $ 1,527,700 to be paid by assumption and payment of the monthly installments due Blue Ridge, Inc., pursuant to the January contract. Herman encountered financial problems in operating the property. On November 19, 1979, Herman entered into an agreement with Campus Realty, Inc., and petitioner (the November contract). Herman agreed to transfer by quitclaim deed all of his right, title, and interest in Brittany to Campus Realty, Inc. Herman further agreed to continue to make all "payments" through December 1, 1979, and to make certain improvements and repairs. Petitioner and Campus Realty, Inc., agreed to transfer to Herman their right, title, and interest in three properties, including CR-4 property (being sold on contract for deed), CR-10 property (being sold433 on contract for deed), and property located at 1714 Thomas Place. Petitioner and Campus Realty, Inc., represented that the total contract equity in these properties was $ 311,000 as of December 1, 1979. On Schedule D of petitioner's 1979 tax return, petitioner reported a long-term capital gain of $ 172,300 for "Gain on Reacquisition of Real Estate sold 2/1/79, reacquired 12/1/79, purchased originally 10/1/77." Hamm's work papers show the amount of cash received, $ 172,300, and the following computation of gain: Selling Price$ 1,700,000Commission122,740Repairs25,000Adjusted Basis979,329Gain on Sale$ 572,931On schedule E of petitioner's 1979 tax return, he reported several items identified as "Installment Sales" and that included computations of gain from gross profit percentages. In his notice of deficiency, respondent determined that petitioner must report an additional amount of gain on the sale of Brittany of $ 624,167.B. 1980 SaleIn October 1980, petitioner sold Brittany to Charter Jet, Inc., for $ 1,500,000. The Earnest Money Contract was executed by petitioner as president of Blue Ridge, Inc., which was identified434 on the contract as the "seller." On his work papers, Hamm computed for petitioner a loss on the sale of Brittany as follows: Selling Price$ 1,500,000.00 Accrued RE Tax44,350.00 RE Tax Escrow(22,170.00)$ 1,522,180.00 BasisLand $ 200,000.00 Building 1,390,394.73 Carpet 753.04 Roof 5,554.00 Smoke Detectors 3,580.00 -- ? -- 8,954.71 Loan Costs 3,901.80 $ 1,613,138.28 Less Accum Dep(51,758.00)1,561,380.28 $ (39,200.28)Petitioner reported the loss on Form 4797, Supplemental Schedule of Gains and Losses, attached to his 1980 return. Respondent disallowed the deduction because petitioner had not established that it was a loss sustained by petitioner. Instead, respondent determined that petitioner should report a gain on the sale of Brittany in 1980 of $ 608,259.C. Capital Loss - 1981When petitioner sold Brittany to Charter Jet in 1980, one of the provisions in an attachment to the Earnest Money Contract was as follows: (5) Such tenant security deposits as to the Subject Premises as have435 been received by seller, not previously fully accounted by it to the respective depositing tenants, shall be paid over in cash by seller to buyer at the closing hereunder. The closing statement, which was dated October 30, 1980, itemized various credits and expenses of the buyer-mortgagor and the seller. Among the items were the following: BuyerSellerCreditExpenseCreditExpenseEscrow-Tenants$ 10,000Settlement of Rent$ 13,912and Security Deposits 13,912 (see attached) The following statement was attached: STATEMENTSecurity Deposits$ 11,041.00Security Deposits Interest355.98Two day's prorated rent1,222.32November rents prepaid1,140.00Retained deposits and interest152.84Total $ 13,912.14On Schedule D of his 1981 tax return, petitioner deducted $ 10,000 as a short-term capital loss identified as "Additional Cost of Property Sold 1980." Respondent determined adjustments to petitioner's Schedule D wherein he disallowed the $ 10,000 deduction. III. 1313 ComoPetitioner acquired property at 1313 Como Avenue, 436 S.E. (1313 Como), in December 1970 with the intent of eventually converting it into condominiums. On his 1971 tax return, petitioner reported the following basis in the property: Land$ 40,431.20Building145,039.59Air Conditioners9,813.06Carpet and Furniture13,626.60$ 208,910.45On December 8, 1970, petitioner executed a Quit Claim Deed for 1313 Como to Campus Realty, Inc. On December 10, 1970, Campus Realty, Inc., obtained a loan for $ 160,000 from Eberhardt, secured by a mortgage on 1313 Como. Petitioner reported items of income and expense for 1313 Como on Schedule E of his tax return for years 1971 through 1975, and until February 1976. On his 1976 return, petitioner reported a long-term capital gain of $ 23,818 (before the section 1202 deduction) for the sale of 1313 Como. On June 12, 1979, Campus Realty, Inc., executed a mortgage on 1313 Como to Guaranty State Bank to secure a loan for $ 75,000. On June 29, 1979, Campus Realty, Inc., executed a mortgage on 1313 Como to Harry J. Jensen to secure a loan for $ 29,000. Both mortgages were executed by petitioner as president of Campus Realty, Inc. On his return for 1980, petitioner437 reported income of $ 36,318, expenses of $ 56,360, and depreciation of $ 7,120 relating to 1313 Como. On the dates shown below, petitioner received and deposited the following amounts in an account for Interfund, Inc., at First Bank Minneapolis as earnest money for the sale of 1313 Como condominium units: EarnestDateMoneySource8/13/80$ 200 James K. Ridley for unit #2038/18/80200 Jackie Currier for unit #2048/18/80500 Beverly J. Anthony for unit #1028/25/80200 Debra Pike & Bruce Zeega for unit #2019/8/80200 Heltomes for unit #3049/10/80200 Michael Braun for unit #2049/17/802,000 David Francitic for unit #3039/17/80500 Jackson P. Hirshbell for unit #1049/18/80300 James K. Ridley for unit #20311/26/801,000 Mary Schloff & Beth Torpy for unit #10512/3/801,000 -A. Repairs - 1980On Schedule E of his 1980 tax return, petitioner deducted $ 18,503 identified as "Repairs" relating to the property at 1313 Como. Respondent disallowed the deduction because it had not been established that it was an ordinary and necessary business expense or expended for438 the purpose designated.B. Transfer to Interfund, Inc. - 1981By Quit Claim Deed dated January 30, 1981, Campus Realty, Inc., transferred 1313 Como to Interfund, Inc., for a stated consideration of $ 1.00. Petitioner executed the document as president of Campus Realty, Inc. Petitioner told Hamm to treat the transfer as a sale by him and to compute capital gain based on a sales price of $ 500,000. Interfund, Inc., had filed returns declaring "No Activity" for 1974, 1975, 1976, and 1977. Interfund, Inc., had reported the same amount as its ending trial balance in 1978 and as its beginning trial balance in 1981. On January 28, 1981, petitioner, as an officer for Interfund, Inc., executed the 1313 Como Avenue, S.E., Condominium Declaration of Condominium No. 247 and the By-Laws of Condominium No. 247. The Declaration provided the following information with respect to each condominium unit represented: Approx.Approx.No. ofPercentage ofUnit No.ValueSq. Ft.RoomsUndivided Interest101 $ 29,500531.5045.22 102 39,500565.0655.55 103 49,500888.0568.71 104 39,500616.3256.05 105 29,500510.1335.01 201 59,500883.2368.67 202 59,500884.9768.68 203 49,500887.4268.71 204 49,500883.9068.67 301 64,500884.9768.67 302 64,500884.9768.68 303 49,500887.4268.71 304 49,500883.9068.76 5 100.00%439 In 1981, petitioner told Hamm to begin making adjusting journal entries for Interfund, Inc., again, including the following entries recording (1) the purchase of 1313 Como and (2) the sale of 1313 Como condominium units: AJE 1Real Estate500,000.00Note Receivable2,500.00Commitment Fee10,600.00Earnest Money $ 16,000.00Mortgage Payable 136,116.82Accrued Interest 3,498.25Rent 6,943.37Security 800.00Sale-Condos 48,547.70Repairs6,385.87Advertising615.25Legal1,145.00Miscellaneous481.16Due to Jansco 309,821.14(To record purchase of CR-13 Condos) AJE 2Cost of Sales$ 330,600.00Real Estate $ 330,600.00Sales - 1500.00, 25,0001,500.00325,952.30Mortgage Payable Eberhardt141,148.15---48.933.61Closing Costs1,051.71Due to Jansco - Guaranty Note Pay78,125.93Due to Jansco - Condo Closing Cash57,692.90Note Receivable 2,500.00(To record sales of condos) 440 On the following dates, warranty deeds were executed by petitioner as an officer of Interfund, Inc., conveying the following units of Condominium No. 247: DateUnit #PurchaserSales Price1/30/81104Jackson P. & Joan A. Hershbell$ 38,0001/30/81303Delbert L. & Peggy D. Ploen46,500 1/30/81304Eugene C. Heltomes46,500 1/31/81105Wilfred O. Sweney28,000 2/2/81203James K. & Linda C. Ridley48,000 3/12/81101Robert W. Anderson29,000 4/4/81103Lenore K. Scallen49,500 4/4/81302Stephen B. Scallen57,500 4/21/81102Feraidoon Bourbour39,000 10/29/81201Campus RealtyNo Price stated10/29/81202Campus RealtyNo price stated10/29/81204Campus RealtyNo price stated10/29/81301Campus RealtyNo price statedOn Interfund, Inc.'s, 1981 Form 1120S, it reported ordinary income from the sales of all the above units, except the last four, for which no amount of income was reported, as follows: Gross receipts$ 389,000Cost of goods sold380,585Gross profit$ 8,415The amount of income reported was computed by deducting a cost of sales441 based on the units' respective proportions of the $ 500,000 purchase price. On Form 4797 of petitioner's 1981 tax return, he reported a long-term gain of $ 312,114 on the sale of 1313 Como to Interfund, Inc. In his notice of deficiency, respondent disallowed the long-term capital gain reported by petitioner. Instead, respondent made the following determination: Gain on the sale of depreciable property between an individual and his 100% owned corporation is taxed as ordinary income. You have failed to establish a basis in this property of more than $ 12,500.00. Therefore your gain is Sales Price510,965.00 Adjusted Basis(12,500.00)Gain on Sale of CR-13498,465.00 C. Transfer of Units to Campus Realty - 1981On October 29, 1981, Interfund, Inc., executed a warranty deed conveying condominium units 201, 202, 204, and 301 of 1313 Como to Campus Realty, Inc., for a stated consideration of "one dollar and all good and valuable consideration." On the same day, Campus Realty, Inc., obtained a loan from Guaranty State Bank for $ 150,000 that was secured by the four condominium units. Regarding the transfer, no gain was reported by Interfund, 442 Inc., on its 1981 return, and no income was reported by petitioner on his 1981 return. IV. Lawsuit Settlements and Legal FeesA. Interest on Lawsuit Settlement - 1979On November 2, 1971, a loan for $ 248,622.60 was obtained from Midway National Bank of St. Paul (Midway) for Cedar Courts, Ltd.; the debtor on the note (the Midway note) was Interfund, Inc. The Midway note was secured by a second mortgage on property operated by CR-4 Partnership. The limited partners of Cedar Courts, Ltd., and petitioner, the managing general partner, executed Continuing Guaranties in which they personally guaranteed the loan by Midway to Interfund, Inc., to the extent of $ 25,000 each. On December 2, 1974, petitioner acquired the assets of Cedar Courts, Ltd., and the interests of the other partners pursuant to an agreement. In the agreement, the limited partners of Cedar Courts, Ltd., agreed to forego their right to a return of their capital contribution in the partnership in consideration of petitioner and Interfund, Inc.'s, agreement to indemnify them and to pay when due the indebtedness to Midway. On or about June 15, 1976, the installments due on the Midway note were in443 default, and Midway filed a Complaint in Ramsey County District Court against the limited partners and petitioner based on their personal guarantees. In settlement of the Midway lawsuit, the limited partners agreed to pay Midway $ 100,000 on or before May 2, 1979. In lieu of a crossclaim by the limited partners against petitioner based on the agreement dated December 2, 1974, the limited partners, petitioner, and Interfund, Inc., executed a supplemental agreement on April 3, 1979, providing that petitioner would reimburse the limited partners the $ 100,000 and their attorneys' fees. Petitioner agreed to pay the $ 100,000, together with interest at the rate of 8 percent per annum, in installments as follows: (1) $ 10,000, plus accrued interest, on or before October 15, 1979; (2) $ 10,000, plus accrued interest, on or before April 15, 1980; (3) $ 20,000, plus accrued interest, on or before January 15, 1981; (4) $ 20,000, plus accrued interest, on or before April 15, 1981; (5) $ 20,000, plus accrued interest, on or before July 15, 1981; and (6) $ 20,000, plus accrued interest, on or before October 15, 1981. All payments shall be applied first against the accrued interest444 and thereafter against unpaid principal. Scallen shall have the right to prepay any portion or all of the principal balance at any time without penalty.Petitioner agreed to pay the limited partners' attorneys' fees and out-of-pocket disbursements, an amount to be determined by subsequent affidavit by the limited partners' attorneys, in installments as follows: one-third on or before December 15, 1981; one-third on or before January 15, 1982; and one-third on or before February 15, 1982. On May 3, 1979, petitioner gave a mortgage on the CR-4 Partnership property to secure his obligation to the limited partners; the mortgage was released on September 2, 1980. As described in a letter and affidavit February 20, 1980, the total of the limited partners' attorneys' fees, $ 23,830, and out-of-pocket costs, $ 1,163.82, was $ 24,993.82. On May 3, 1979, petitioner entered into an agreement with Midway in which he agreed to pay Midway $ 55,000 in installments together with interest at the rate of 8 percent per annum. The installments would include a $ 10,000 payment on October 15, 1979; a $ 10,000 payment on December 15, 1979; and monthly payments, in amounts to be determined by445 formula, from May 5, 1979, until September 3, 1980, at which time the remaining balance would be due in full. The Midway note for $ 428,662.60 was recorded in petitioner's 1971 records as mortgage payable-Midway. Of that amount, $ 128,662 was set up in an account called "Prepaid Interest," from which a portion was expensed each year. Hamm's work papers reflect that in 1976 the principal had been reduced from $ 300,000 to $ 157,155.72 and the amount of prepaid interest had been reduced to $ 59,370.28. Petitioner's brother, Dr. Raymond W. Scallen, was a limited partner in Cedar Courts, Ltd. He was named a co-defendant in the Complaint by Midway, but his name does not appear on the settlement documents of April 3, 1979, defining the terms of petitioner's reimbursement to the limited partners. Petitioner made the following payments to the limited partners and their attorneys: DateLimited PartnersAttorneys' FeesTotalPrincipalInterest10/10/79$ 10,000$ 3,529.12$ 13,529.124/15/8010,0003,600.0013,600.0010/30/8080,0003,535.00$ 24,900.94108,529.42Petitioner made payments of principal to Midway of $ 446 16,368 in 1979 and $ 38,632 in 1980 as well as the interest due on these amounts. On Schedule C of his 1979 return, petitioner deducted $ 46,783 as interest expense relating to the Midway lawsuit. Respondent disallowed the interest deduction because it had not been established that it was for an ordinary and necessary business expense or expended for the purpose designated.B. Lawsuit Settlement: Limited Partners of CR-12 - 1980The 1974 books of Interfund Services list an asset called "accounts receivable CR-12." The 1975 and 1976 books of Jansco list an asset called "CR-12 Condo" and a mortgage payable on the property. The 1977 books of Jansco include an adjusting journal entry recording petitioner's sale of the CR-12 property. On February 12, 1979, John G. Bradley, Craig W. Freeman, and J. Jerome Hopperstad (plaintiffs), limited partners of CR-12, filed a complaint in District Court in the State of Minnesota against petitioner. In the complaint, the plaintiffs alleged that petitioner, the sole general partner of CR-12, was responsible for depositing all the funds of the partnership in a bank account, for paying all legitimate partnership expenses, and for repaying447 plaintiffs, upon liquidation, their capital contributions and shares of the profits. Further, plaintiffs alleged that subsequent to liquidating of the assets of CR-12, petitioner failed to maintain the partnership moneys in a separate account for the benefit of the partnership and, instead, used the money to pay obligations other than those of CR-12, i.e., petitioner used the funds to pay personal obligations and/or obligations of other businesses in which petitioner held an interest. The plaintiffs thus demanded a full accounting and an award for amounts to which they were entitled. On December 16, 1980, petitioner and the plaintiffs executed a Stipulation of Settlement (the Settlement). The parties to the Settlement acknowledged that petitioner had previously paid the plaintiffs $ 30,000 but that petitioner had not made any additional payments representing the plaintiffs' share of any remaining assets. Thus, petitioner agreed to pay the plaintiffs $ 30,000 as follows: (a) $ 2,000.00 to be paid upon the execution of this Agreement, and in any event on of before December 17, 1980; (b) $ 1,000.00, without interest, to be paid on the first of each and every month, beginning448 on October 1, 1981 and ending on December 1, 1982, a total of 15 monthly payments; and (c) $ 13,000.00, without interest, to be paid on December 31, 1982. In accordance with the Settlement, petitioner made payments of $ 2,000 in 1980 and $ 3,000 in 1981. On Schedule C of his return for 1980, petitioner deducted, under other expenses, $ 88,500 for "Lawsuit Settlement"; of that amount, $ 30,000 was attributable to the Settlement. Respondent, in his notice of deficiency, disallowed the deduction because it had not been established that it was an ordinary and necessary business expense or that it was expended for the purpose designated.C. Lawsuit Settlement: FKSI - 1980Commencing in about 1967, petitioner and Frantz Klodt & Son, Inc. (FKSI) entered into various joint ventures and/or partnerships to acquire real estate and develop apartment buildings; FKSI was also engaged as construction supervisor or construction contractor of certain apartment buildings. In 1978, FKSI filed a six-count complaint in the Hennepin County District Court, State of Minnesota, naming as defendants petitioner and certain of his controlled or related entities. Count I alleged that FKSI449 agreed to sell to petitioner all its rights, title and interest in the Franklin Park Partnership in consideration of petitioner's assumption of certain liabilities and the payment to FKSI of $ 76,258, which amount was never paid by petitioner. Count II alleged that FKSI terminated its interest in the Minnehaha Joint Venture in consideration of the payment by the Joint Venture to FKSI of $ 74,200, which petitioner personally guaranteed, but that petitioner failed to pay $ 18,197.01 of this consideration. Count III alleged that FKSI furnished labor and materials for the repair and alteration of the Franklin Park Partnership property for an agreed amount of $ 1,688.84, no part of which had ever been paid by petitioner. Count IV alleged that FKSI furnished materials and labor for the construction of an apartment building at 333 S.E. 8th Street, Minneapolis, for petitioner, on which there remained unpaid $ 13,364.28. Count V alleged that petitioner converted to his own use model apartment furniture owned by FKSI and used in a model apartment at the Edina 600 apartment project, which furniture had a value of $ 2,355. Count VI alleged that FKSI furnished labor and materials for the construction450 of a 17-unit apartment building at 411 8th Street, S.E., Minneapolis, and for the construction of an 11-unit apartment building at 924 17th Avenue, S.E., Minneapolis, for which a total of $ 10,281.63 remained unpaid. On August 7, 1979, FKSI and petitioner entered into a Settlement Agreement, wherein petitioner agreed that each of the claims was "substantial and colorable." By the terms of the Settlement Agreement, FKSI agreed to accept $ 58,500 from petitioner in settlement of its claims. Said amount was to be paid in nine equal installments of $ 6,500 beginning March 1, 1980, and every 6 months thereafter. On Schedule C of his return for 1980, petitioner deducted, under other expenses, $ 88,500 for "Lawsuit Settlement", of that amount, $ 58,500 was attributable to the Settlement Agreement with FKSI. Respondent, in his notice of deficiency, disallowed the deduction because it had not been established that it was an ordinary and necessary business expense or that it was expended for the purpose designated.D. Legal Fees - 1979On statements received in 1979, petitioner was billed a total of $ 10,561.82 for legal services performed by the law firm of Rosen, Kaplan451 & Ballenthin (Rosen) and a total of $ 240 for legal services by the law firm of Primus & Primus (Primus). The billing statements from Rosen may have included fees for services rendered in the latter half of 1978. Petitioner made no payments in 1979 on his accounts with either Rosen or Primus. On Schedule C of his 1979 return, petitioner deducted legal fees of $ 40,727. That amount was derived from the following entries in the 1979 record of Jansco: Jansco Daily Ledger$ 12,009Adjusting Journal Entry #6 -From Brittany Loan 3,472Adjusting Journal Entry #13 -Fees for Florida Escrow 252Adjusting Journal Entry #15 -Fees for Doctors Settlement 24,994$ 40,727Respondent disallowed the deduction because it had not been established that the fees were ordinary and necessary or expended for the purpose designated.E. Legal Fees - 1980On statements received in 1980, petitioner was billed a total of $ 4,920 for legal services performed by Rosen and a total of $ 480.10 for legal services performed by Primus. The billing statements from Rosen may have included fees for services rendered in the latter half of 1979. Petitioner452 made payments in 1980 of $ 10,144.49 for legal services, $ 10,050 to Rosen and $ 94.49 to Primus. On Schedule C of his 1980 tax return, petitioner deducted $ 7,314 as "legal and professional services." Respondent disallowed the deduction because it had not been established that it was ordinary and necessary or that it was expended for the purpose designed. V. Gerald R. Hansen DeductionsGerald R. Hansen (Hansen) was a real estate investor whose properties included a racetrack. Hansen and petitioner met in about 1977 and established a business relationship. That relationship included Hansen's assistance regarding certain properties and real estate transactions.A. Promotions - 1978In 1978, Hansen received the following payments from petitioner, which he included in his income for that year: Brittany6/21/78$ 25,000Brittany8/29/781,000Brittany12/781,000$ 27,000On Schedule C of his 1978 return, petitioner deducted $ 22,282 as legal and professional fees, $ 5,000 of which was paid to Hansen in April 1978. On Schedule E, the following payments identified as "Promotion" were deducted as expenses relating to the Mark453 Twain/Brittany property: DatePayeeAmount6/21/78Gerald Hansen Racing Enterprise$ 20,0008/29/78Gerald Hansen Racing Enterprise1,00012/8/78Gerald Hansen Racing Enterprise1,000$ 22,000In respondent's notices of deficiency, he disallowed deductions for the $ 5,000 in legal and professional fees and the $ 22,000 for promotions. Respondent determined, however, that the amounts were capital expenditures that may be amortized over 20 years and allowed the amortization based on a half year for 1978.B. Consulting Fees - 1978The following adjusting journal entries (AJE) were recorded on December 31, 1978, by Hamm pursuant to instructions by petitioner: St. Cloud Properties(AJE #5)Due to Jansco$ 37,197.99Contract of Deed Receivable $ 37,197.99To transfer contract of deed toMark Twain apts. -- Contract for deedgiven to G. Hansen to pay forconsulting fees.Jansco(AJE #11)Due from Mark Twain$ 37,197.99Due to St. Cloud Properties $ 37,197.99To transfer consultant fee On August 16, 1978, Michael P. and Mary454 C. Hannon sold the St. Cloud property to Harold and Marlene Houck on a contract for deed. On December 6, 1978, the Hannon's assigned the contract for deed to Richard D. Kantrud. On August 13, 1980, Kantrud deeded the St. Cloud property to the Houcks. On Schedule E of petitioner's 1978 return, $ 37,198 was deducted as "Consulting" relating to the Mark Twain/Brittany property. In respondent's notice of deficiency, he disallowed the deduction for consulting fees. Respondent determined, however, that it was a capital expenditure that may be amortized over 20 years and allowed the amortization based on a half year for 1978.C. Commissions - 1979In 1979, petitioner obtained a loan of $ 75,000 from Guaranty State Bank that was secured by a mortgage on property located at 1313 Como. On December 31, 1979, Hamm recorded the following adjusting journal entry, including a $ 25,000 deduction as a commission to Hansen: JanscoAJE #6Cash in bank - Guaranty State Bank$ 12,657.55Due to Brittany18,870.45Legal3,472.00Commission25,000.00Note Payable - Guaranty State Bank $ 60,000.00To record mortgage and disbursement of proceeds. 455 The records of Guaranty State Bank that were in the possession of the Federal Deposit Insurance Corporation (FDIC) did not show any payments to Hansen on behalf of petitioner in 1979. On Schedule C of petitioner's 1979 return, he deducted $ 25,000 identified as "Commissions." In his notice of deficiency, respondent disallowed the 1979 deduction for commissions because it had not been substantiated.D. Consulting Fees - 1980In 1980, petitioner received a loan of $ 95,000 from Guaranty State Bank. Certain records of Guaranty State Bank in the possession of the FDIC indicate two disbursements to Hansen in 1980 in the amounts of $ 25,000 and $ 15,000. At the end of the year, petitioner directed Hamm to record the following adjusting journal entry in the books of Jansco: AJE #14Due to Brittany$ 20,000Due to S.B.S.50,000Consulting Fee25,000N/P First Guaranty $ 95,000To record N/P per S.B.S.phone call On Schedule C of petitioner's 1980 tax return, petitioner deducted $ 25,000 identified as "consulting," which was the amount allegedly paid to Hansen. Respondent disallowed the deduction because it had not456 been substantiated.E. Commissions - 1980On the following dates, the following checks were made out to Hansen: DateAmount2/8/80 $ 2,0002/27/803,0003/7/80 5,000On Schedule E (Supplemental Income Schedule) of his 1980 tax return, petitioner deducted $ 10,000 as "Commissions" relating to certain property at 1501 University. Respondent disallowed the deduction because it was not established that the amount was an ordinary and necessary business expense or that it was paid. VI. Other DeterminationsA. Forgiveness of Liabilities - 1980In 1980, petitioner sold Brittany. On its books for 1980, Jansco closed the account "Due to/from Brittany" as follows: AJE #15Cash - N.W.$ 123.96Escrow for tenants - Brittany10,000.00Due to S.B.S.109,657.57Accounts Payable - Brittany $ 24,627.89Due to Brittany 95,153.64To close Brittany accountsIn his notice of deficiency, respondent included the $ 24,627.89 in petitioner's 1980 income for the forgiveness of a liability which petitioner had previously deducted as an expense.B. Forgiveness of Liabilities457 - 1981In his notice of deficiency, respondent included $ 28,062 in petitioner's 1981 income for the forgiveness of liabilities petitioner previously had deducted as accrued liabilities. These liabilities consist of the following: Anderson House of Furniture$ 11,186.84Edina 6006,479.44St. Louis Park30.50Cedar Court (C/62)130.88Monroe House8,354.18Franklin Park1,188.126 $ 28,062.12Regarding the Anderson House of Furniture, the following adjusting journal entries were recorded in the 1975 books of Interfund/Jansco: AJE # 20DebitCreditA/P Anderson$ 2,000.00N/P Central N.W.21,112.75Gain on forgiveness $ 23,112.75To reclassify payment to Andersonand to record forgiveness AJE # 50Gain on Forgiveness$ 9,800.00Due to SBS $ 25,180.66A/P Anderson House of Furn.15,380.66To record checks paid out ofSBS personal account C. Teaching in France - 1981In the summer of 1981, petitioner taught at a summer session at the University of Lyon in France. Petitioner was paid $ 6,000 by458 the University of Minnesota Foundation for teaching in France. Petitioner also received $ 4,000 from the University of Lyon as reimbursement for expenses while teaching in France. On his 1981 tax return, petitioner reported employee business expenses of $ 24,044 and income of $ 4,500 (from the University of Minnesota Foundation) for teaching at the summer session in France. Petitioner did not include any of the $ 4,000 payment in income or as a reduction of his claimed employee business expenses of $ 24,044. Respondent disallowed the deduction for employee business expenses because none of the expenses had been substantiated or shown to be business related.D. Sunnyside, Inc.Sunnyside, Inc., was incorporated in 1973, and petitioner was its sole shareholder and corporate officer. In 1975, the following adjusting journal entry was recorded in the books of Sunnyside, Inc.: Due from S.B.S. (petitioner)$ 1,000Common Stock $ 1,000Each balance sheet filed with Sunnyside, Inc.'s, tax returns from 1975 through 1979 reflects a $ 1,000 balance in each of these accounts. On its end of the year trial balance in 1973, Interfund, 459 Inc., showed that it owed Sunnyside, Inc., $ 72,915.92. On its end of the year trial balance in 1974, Interfund, Inc., showed that Sunnyside, Inc., owed $ 31,253.26 to Interfund, Inc. On September 9, 1979, petitioner transferred, by Quit Claim Deed, certain property, including apartment unit 115, to Sunnyside, Inc. On October 3, 1979, Sunnyside, Inc., executed a mortgage to Midwest Federal Savings and Loan Association of Minneapolis for $ 60,000, secured by certain property, including apartment unit 115. On the balance sheet in Sunnyside, Inc.'s, 1979 tax return, it reported a beginning balance of zero and ending balance of $ 134,538 in the account called loans from shareholders. VII. Additional Facts Re Fraud1976In 1976, petitioner claimed a deduction for a net operating loss (NOL) carryforward in the amount of $ 703,924. Respondent reduced the amount of the NOL deduction to $ 62,600, based on adjustments to petitioner's taxable income in 1973, 1974, and 1975. Some of those adjustments are described below. In 1973, petitioner failed to include in income $ 100,000 he received from Franklin Park Partnership for services. Petitioner had directed Hamm460 to report the amount as an expense on Franklin Park Partnership's return, and the Form K-1 issued to petitioner identified the amount as his salary. In 1973, petitioner also understated his distributive share or ordinary income from Cedar Courts, Ltd., partnership in the amount of $ 12,671. In 1974, petitioner understated interest income in the amount of $ 5,249. In 1974, he also claimed a bad debt deduction of $ 893,306. The deduction was based on items in the following adjusting journal entry in the 1974 books of Interfund/Jansco recorded by Hamm pursuant to petitioner's instructions: AJE #35Bad Debts$ 893,305.54Due to Monroe House $ 203,424.70Due to Cedar Courts 24,077.04Due to CR-3 15,650.15Due to CR-4 160,418.84Due to CR-5 41,118.80Due to M-2 448,616.01(To withdraw uncollectible receivables)Respondent disallowed $ 404,963 of the alleged bad debt deduction, representing the amounts due from Monroe House, Cedar Courts, CR-4, and CR-5. On its books for 1974 and 1975, Monroe House partnership listed $ 203,425 and $ 17,364, respectively, as its461 year-end balances of accounts payable to Interfund/Jansco. On its books for 1974 and 1975, Interfund/Jansco listed $ 186,088 and $ 270,645, respectively, as its year-end balances of accounts payable to Monroe House partnership. The Monroe House partnership terminated in 1976. As of the date of termination, the books of Monroe House partnership show an account receivable of $ 67,202 from Interfund/Jansco, which amount was distributed to petitioner. As of December 31, 1976, the books of Interfund/Jansco show an account payable of $ 270,645 to Monroe House partnership. In a journal entry dated January 1, 1977, the same amount was reclassified as an increase to the account "Due to Stephen B. Scallen." In 1975 and 1977, petitioner included the amounts written off as bad debts for CR-4 partnership, Cedar Courts partnership, and CR-5 partnership in his basis in various properties sold in those years. In 1975, Franklin Park partnership deducted $ 46,500 as interest expense on a Contract for Deed payable to Interfund/Jansco; petitioner did not report the amount in income in 1975. In 1975, petitioner reduced his Schedule C gross receipts by $ 74,352. The amount of the reduction represents462 expenditures of Sunnyside, Inc., which petitioner admitted was a separate taxable entity during the years in issue.1977Petitioner reported a long-term capital loss of $ 479,531 regarding the sale of the Franklin Park Partnership property in 1977. As reported, the amount realized by the partnership was limited to $ 3,540,215.04, an amount described as the property's fair market value (the FMV limitation), 7 thereby reducing the amount of the gain on the sale by $ 1,474,329.37. In a sworn affidavit dated June 30, 1976, petitioner stated that "the present value of the property is at least $ 4,500,000." Petitioner also reported in 1977 a NOL deduction carryforward. The deduction includes an amount representing a loss from the sale of Monroe House partnership property in 1976. The loss was reported on an amended return for Monroe House partnership463 and was computed, pursuant to petitioner's instructions, based on an amount realized of $ 2 million, which was described as the amount of the FMV limitation. The amount of petitioner's share of the loss was not reported on petitioner's 1976 tax return but was built into the NOL carryforward deduction for 1977. In a sworn affidavit in 1975, petitioner represented that the property's value was $ 3,575,000.1978 - 1981In 1978, petitioner failed to report (1) gain of $ 54,564 from the sale of property located at 1018 16th Avenue South and (2) gain of $ 4,131 from the sale of a boat. In 1981, petitioner omitted from income various items totaling $ 11,165. In 1978, 1979, and 1980, petitioner claimed long-term capital loss carryovers, based on the loss reported in 1975 attributable to the sale of the Franklin Park partnership property (using the FMV limitation). In 1978, 1979, 1980 and 1981, petitioner reported a NOL carryforward deduction. OPINION I. Franklin Park PartnershipA. The Eberhardt Company NoteWe must determine whether petitioner's gain realized on the retirement of the Eberhardt note in 1977 is capital gain or ordinary income. In his464 petition, petitioner asserted that the Eberhardt note was not satisfied in 1977. On brief, however, petitioner apparently concedes that $ 220,400 of gain was realized in 1977 on retirement of the Eberhardt note but maintains that its proper character was capital gain.Capital gain is derived from the sale or exchange of a capital asset. Section 1222(1) and (3); section 1.1222-1(a), Income Tax Regs. Petitioner argues that the Eberhardt note was a capital asset and that, pursuant to section 1232, its retirement constitutes an "exchange" for purposes of section 1222. Respondent contends that section 1232 does not apply and that the character of the gain is not capital because there was no sale or exchange and because the note was not a capital asset. We agree with respondent.Retirement of a note or the collection of proceeds due on an executory contract generally does not qualify as an "exchange" for purposes of section 1222. National-Standard Co. v. Commissioner,749 F.2d 369">749 F.2d 369, 371 (6th Cir. 1984),465 affg. 80 T.C. 551">80 T.C. 551 (1983). See Ehlers v. Vinal,382 F.2d 58">382 F.2d 58, 62 (8th Cir. 1967); Wood v. Commissioner,25 T.C. 468">25 T.C. 468 (1955). In this case, the note's maturity was essentially accelerated because of the foreclosure action against Franklin Park Partnership, and petitioner merely collected the funds due on the note.In appropriate circumstances, however, retirement of certain indebtedness may be considered an "exchange." Section 1232 provides, in pertinent part: (a) General Rule. -- For purposes of this subtitle, in the case of bonds, debentures, notes, or certificates or other evidences of indebtedness, which are capital assets in the hands of the taxpayer, and government or political subdivision thereof -- (1) Retirement. -- Amounts received by the holder on retirement of such bonds or other evidences of indebtedness shall be considered as amounts received in exchange therefor * .Respondent argues that section 1232 does not apply to these466 facts because the note was issued by a partnership, not a corporation or a governmental entity, and because the note was not a capital asset in the hands of the holder. Respondent further argues that the note in question is not the kind of indebtedness that section 1232 is intended to reach, citing Bradshaw v. United States,683 F.2d 365">683 F.2d 365 (Ct. Cl. 1982). Without determining whether the Eberhardt note was a capital asset in petitioner's hands or which of the partnership or the corporation was the true issuer of the note, we conclude that the note was outside the intended scope of section 1232. We have previously considered section 1232 and its legislative history. As a result, we were and remain convinced that Congress enacted section 1232 and its predecessor to apply only to corporate or governmental indebtedness of independent significance; thus any indebtedness having "no independent significance other than as evidence of an agreed purchase price for property sold" would be denied the preferable tax consequences emanating from "exchange" treatment through section 1232. 467 Estate of Stahl v. Commissioner,52 T.C. 591">52 T.C. 591, 598 (1969), affd. in part, revd. in part (on other grounds) 442 F.2d. 324 (7th Cir. 1971). See also Bradshaw v. Commissioner, supra at 379; Wilson v. Commissioner,51 T.C. 723">51 T.C. 723, 729 (1969). On these facts, the Eberhardt note had no significance independent of the purchase price it represented. Because section 1232 does not apply in this case and because petitioner's transaction does not otherwise qualify as a sale or exchange, we conclude that the gain of $ 220,400 must be reported as ordinary income.B. Dr. Parrott's Share of Liquidated AssetsWe must determine whether petitioner realized ordinary income in 1977 of $ 70,577 representing Dr. Parrott's distributive share of Franklin Park Partnership's assets which were liquidated. In his brief, respondent itemized his computation of the amount of Dr. Parrott's share, i.e., the excess assets retained by petitioner, as follows: Franklin Park PartnershipAssets - Receivable$ 845,886.00 Less Liabilities:Eberhardt Note (400,000.00)Interest on Eberhardt Note (93,000.00)Assets for Distribution352,886.00 X 20% Dr. Parrott's Share$ 70,557.20 468 Petitioner claims that he was not required to report this amount in his income for 1977 because of the provision in the partnership agreement providing "that before distributions can be made reserves must be established to satisfy contingent liabilities." Petitioner argues that a contingent liability existed in the lawsuit pending at the end of 1977 regarding his guarantee of the Eberhardt note.Taxpayers must report "all income from whatever source derived," section 61, including "accessions to wealth, clearly realized, and over which the taxpayers have complete dominion." Commissioner v. Glenshaw Glass Co.,348 U.S. 426">348 U.S. 426, 431 (1955). The Supreme Court has also stated: When a taxpayer acquires earnings, lawfully or unlawfully, without the consensual recognition, express or implied, of an obligation to repay and without restriction as to their disposition, "he has received income which he is required to return, even though it may still be claimed that he is not entitled to retain the money, and even though he may still be adjudged liable to restore its equivalent." 469 North American Oil v. Burnet, [286 U.S. 417">286 U.S. 417 (1932)]supra at p. 424. * * [James v. United States,366 U.S. 213">366 U.S. 213, 219 (1961).] In this case, petitioner had dominion and control over all the assets of Franklin Park partnership in 1977. In fact, we testified that he did not hold the money in escrow or trust for Dr. Parrott but that the money was used for expenditures of his other entities. Moreover, petitioner did not cause a "reserve" to be set aside, as required by the partnership agreement, for the satisfaction of the asserted contingent liabilities. Thus, even though Dr. Parrott may have a claim on the funds, respondent properly included the amount in petitioner's 1977 income. See Estate of Etoll v. Commissioner,79 T.C. 676">79 T.C. 676 (1982). Petitioner also argues that "the evidence further indicates" that petitioner was advised that Dr. Parrott was electing to have his partnership interest purchased by petitioner. Petitioner does not identify such evidence, and the testimony of Dr. Parrott does not support the contention. II. Mark Twain Hotel/Brittany ApartmentsA. 1979 TransactionsWe must determine470 whether petitioner correctly reported gain in 1979 on the sale of Brittany. Petitioner argues that he properly reported gain of $ 172,300 on the sale and reacquisition of Brittany. Petitioner maintains that although he did not expressly elect on his 1979 return to report gain on the installment method, the amount of gain actually reported was as if an election had been made and that, in any event, he now may make the election at trial. Respondent argues that petitioner's "reacquisition" of Brittany in November 1979 was a rescission of the January contract; thus, no gain would be recognized and petitioner would maintain the same adjusted basis in the property. 8 In the alternative, respondent argues that the entire gain realized on the January sale must be recognized in 1979 and that petitioner is precluded from reporting the gain on the installment method under section 453. Section 1001(c) provides that "[e]xcept as otherwise provided in471 this subtitle [A], the entire amount of the gain or loss, determined under this section, on the sale or exchange of property shall be recognized." No gain shall be recognized, however, if in the year of sale, the sale is rescinded and the taxpayer accepts reconveyance of the property and returns the buyer's funds. Penn v. Robertson,115 F.2d 167">115 F.2d 167 (4th Cir. 1940). We agree with respondent's statement of the law, but we do not agree that a rescission occurred on these facts. Under Minnesota law, rescission has been defined as the unmaking of a contract. Abdallah, Inc. v. Martin,65 N.W.2d 641">65 N.W.2d 641, 644 (Minn. 1954), and cases cited therein. A rescission may be effected by one of three general methods -- (1) by mutual agreement of the parties, (2) by one party declaring a rescission based on a legally sufficient ground, or (3) by applying to the courts for a judicial decree of rescission. 65 N.W.2d at 644. The evidence here does not come within any of472 the described forms of rescission. Nevertheless, respondent would ask us to deem a rescission in substance because, as he contends, the parties were essentially returned to the status quo ante the January contract as a result of the November contract. We need not decide if such a circumstance gives rise to a rescission, however, because we disagree with respondent's analysis of the facts. Simply stated, Blue Ridge, Inc., was the transferor of Brittany in the January contract, and Campus Realty, Inc., was the transferee of Brittany in the November contract. Although petitioner controlled both corporations, we will not disregard the corporate form. Petitioner testified that each corporation, among others, was occasionally "used as an agent or as merely a title holding device"; however, such an agency relationship has not been argued by either party nor is it otherwise borne out by the record. Even assuming an agency for petitioner existed through both corporations, we are still addressing a different "other" party in each contract, i.e., Hansen in the January contract and Herman in the November contract. To deem a rescission would require the Court also to disregard the transfer473 from Hansen to Herman, and respondent has provided no reason to do so. Thus, we conclude that no rescission occurred. Petitioner computed a gain on the sale in January 1979 in excess of $ 570,000; however, he maintains that he "was entitled to elect the provisions of section 453 and report only the amount of cash received, $ 172,300, as the gain realized in 1979." Petitioner's argument is unclear and confusing in that it seems to overlap concepts of section 1038, which, in the case of a seller's reacquisition of real property, generally provides for recognition of gain only to the extent of money or other consideration received prior to reacquisition, and section 453, which provides for reporting gain on the installment method. In any event, we conclude that petitioner may not use either section 1038 or section 453.Section 1038 applies only to certain reacquisitions of real property. Section 1.1038-1(a)(3)(i), Income Tax Regs.474 , provides that if in addition to discharging the purchaser's indebtedness that arose from the sale, the seller pays consideration in reacquiring the real property, section 1038 will generally apply if the reacquisition and the payment of additional consideration are provided for in the original contract for sale. The regulation further provides: This section generally shall not apply to a reacquisition of real property where the seller pays consideration in addition to discharging the purchaser's indebtedness to him that arose from the sale [(1)] if the reacquisition and payment of additional consideration was not provided for in the original contract for the sale of the property and [(2)] if the purchaser has not defaulted in his obligations under the contract or such a default is not imminent. * In this case, petitioner was to pay in excess of $ 311,000 to reacquire the property, and the original contract for sale did not provide for reacquisition or for the payment of additional consideration. Further, although there was testimony that Herman was having financial difficulties, it has not been established from the record that he was in default or that default was475 imminent. Consequently, section 1038 does not apply to these facts. Petitioner argues that "even where a taxpayer has made an invalid election inconsistent with an installment election, he has been allowed at trial to elect the installment method so long as what he did on his original return was done in good faith." For this proposition petitioner relies on Estate of Broadhead v. Commissioner,T.C. Memo. 1972-195. Petitioner misstates the law. Significant to the decided cases, including Estate of Broadhead, is that the taxpayers in those cases did not report the sale of the property in any manner. See Pollack v. Commissioner,47 T.C. 92">47 T.C. 92, 111-113 (1966), affd. on other grounds 392 F.2d 409">392 F.2d 409 (5th Cir. 1968). The method of reporting gain elected on a return, installment method or other, is irrevocable once made. Pacific National Co. v. Welch,304 U.S. 191">304 U.S. 191, 194-195 (1938); Pollack v. Commissioner,47 T.C. at 112-113. In this case, petitioner reported an amount of gain on the sale of Brittany; 476 it was not reported on the installment method, unlike other items on petitioner's 1979 tax return that were identified as "Installment Sales" and that included computations for determining gain from what appears to have been gross profit percentages. Petitioner thus falls outside of the case law on which he relies and may not now elect installment treatment under section 453. We must now determine the proper amount of gain petitioner must report in 1979. The parties have stipulated that petitioner's sales price was $ 1,700,00 and that petitioner's adjusted basis was $ 979,796. The difference in these amounts produces a gain of $ 720,204. Petitioner argues that the amount of gain should be reduced by commissions of $ 122,740 allegedly paid to Hansen and by repairs of $ 25,000. Although Hamm's work papers include these amounts in his computation of gain, Hansen's testimony and personal notes do not corroborate the alleged payment of commissions in 1979, and petitioner has otherwise failed to substantiate either payment. They therefore are not allowed as a reduction of the gain. Respondent contends that petitioner's amount realized, and hence the resulting gain, must be increased477 by $ 39,900, the real estate taxes paid by the purchaser (9/12 x $ 53,200). According to respondent, this amount was paid in 1979 but was actually a 1978 property tax, and because petitioner would have been liable for the "1978 property taxes," any of such amount paid by the purchaser would be income to petitioner. Petitioner does not dispute the amount of taxes respondent claims were paid by the purchaser but argues that the taxes are 1979 property taxes, for which the purchaser's payment of his agreed share would not increase petitioner-seller's amount realized. To make this determination, we must consider Minnesota State law and the particular language employed by the parties in their contract: "Buyer to pay 9/12 of the real estate taxes due and payable in the year 1979." (Emphasis supplied.) Property taxes do not constitute a personal obligation of the property owner but rather a lien against the property. Northwest Bank (N.A.)- Duluth v. Goodyear Tire and Rubber Company,346 N.W.2d 377">346 N.W.2d 377, 380 (Minn. App. 1984), and cases cited therein. Under Minnesota law, 478 272. 31 Lien of real estate taxes The taxes assessed upon real property shall be a perpetual lien thereon, and on all structures and standing timber thereon and on all minerals therein, from and including January 2 in the year in which they are levied, until they are paid; but, as between grantor and grantee, such lien shall not attach until the first Monday of January of the year next thereafter. As amended Laws 1967, c. 578 sec. 1, eff. May 19, 1967. [Minn.Stat. sec. 272.31 (1982). Emphasis supplied.]"The date of attachment is also the date on which the taxes become due and payable." Northwest Bank (N.A.)- Duluth v. Goodyear Tire and Rubber Company, supra.(Emphasis supplied.) See Minn. Stat. sec. 276.01 (1982). See also Independent-Consolidated School District No. 27 of Mower County v. Walderon,63 N.W.2d 555">63 N.W.2d 555, 559 (Minn. 1954). Upon this legal foundation, we conclude that petitioner must increase his amount realized on the January 31, 1979, sale479 by $ 39,900. The real estate taxes levied in 1978 became a lien which, for grantor-grantee purposes, attached to the property on the first Monday in January 1979, and thus became due and payable on that date. Because petitioner did not sell the property until January 31, 1979, the amounts received from the buyer for real estate taxes due and payable in 1979 are properly added to petitioner's amount realized. Petitioner's gain on the sale of Brittany in 1979 is thus $ 760,104 ($ 720,204 + $ 39,900), or $ 587,804 more than reported on petitioner's return.B. 1980 SaleWe must determine the amount of gain realized on the sale of Brittany to Charter Jet in 1980. The parties stipulated the amount realized on the sale as follows: Sales Price$ 1,500,000 Real Estate Taxes44,350 LessReal Estate Tax Escrow (22,170)Amount Realized$ 1,522,180 Remaining for determination, then, is petitioner's adjusted basis in Brittany at the time of sale. As already discussed, the parties disputed whether petitioner's Brittany transactions in 1979 constituted a sale and subsequent repurchase, a rescission, an installment sale under section480 453, or a reacquisition under section 1038. We concluded that petitioner must recognize the full amount of gain on the sale in January 1979. Thus, petitioner's basis at the time of the sale in 1980 must be based on his consideration paid in the November 1979 transaction in which he reacquired Brittany and on any subsequent adjustments to that basis. See sections 1011, 1012, and 1016. Because we have concluded that petitioner was taxable in 1979 on the full amount of gain realized in 1979, his basis in the property must be adjusted to reflect that determination. After careful review of alternative computations submitted by the parties, we conclude that petitioner's basis in Brittany as of October 1980 consisted of the following: Basis in note secured by property: Original face amount$1,527,700 Hansen payment (133,000)Payments reported in 1979( 30,281)Balance$1,364,419.00 The amount of money and fair market value of other property paid or transferred in connection with the reacquisition: To Herman 261,916.57 To Hansen 137,280.59 Accumulated depreciation fromNovember 1979 to October 1980 (51,758.00)Cost of refinancing in May 19803,901.80 Improvements, November 1979 to October 1980 9,887.00 Adjusted basis 1,725,646.96 481 Because the amount realized was $1,552,180.00, petitioner incurred a loss in 1980 of $173,466.96. C. Capital Loss - 1981We must determine whether petitioner is entitled to a capital loss in 1981 attributable to the sale of Brittany to Charter Jet in 1980. Petitioner maintains that the claimed loss is attributable to the tenant security deposits. Specifically, petitioner argues that he was required by the sales agreement to pay over the security deposits, that at closing "$ 10,000 of this escrow was credited to petitioner as part of his consideration," and that when he did not receive the $ 10,000 in 1981, he properly claimed a loss on his tax return. Respondent argues that the $ 10,000 item was simply paid on petitioner's behalf of closing and that the payment of an apparent obligation of petitioner (arising out of the sales contract) does not constitute a reduction in the amount realized or the cost of the sale. We agree with respondent. Moreover, petitioner's assessment of the relevant facts is erroneous; petitioner states that $ 10,000 of the tenant escrow was credited to him as part of his consideration while the closing statement unambiguously identifies482 the item as petitioner's expense. We also note that a separate item, Setlement of Rent and Security Deposits, would seem to have satisfied the provision in the sales agreement relied on by petitioner. Thus, in view of petitioner's failure to offer any evidence that would support the claimed deduction, we must sustain respondent's disallowance. III. 1313 ComoA. Repairs - 1980We must determine whether petitioner is entitled to deduct $ 18,503 as repairs expense in 1980 relating to 1313 Como.Incidental repairs that keep property in ordinary and efficient operating condition and that do not add value tot he property are ordinarily deductible expenses. Section 1.162-4, Income Tax Reg.; Bloomfield Steamship Co. v. Commissioner,33 T.C. 75">33 T.C. 75, 84-85 (1959), affd. per curiam 285 F.2d 431">285 F.2d 431 (5th Cir. 1961). Expenses that are otherwise ordinarily deductible as ordinary and necessary business expenses, however, must be capitalized if they are part of a plan of capital improvement. United States v. Wehrli,400 F.2d 686">400 F.2d 686, 689-690 (10th Cir. 1968),483 and cases cited therein. See section 263. Whether an expense is deductible or must be capitalized is a question of fact, Plainfield-Union Water Co. v. Commissioner,39 T.C. 333">39 T.C. 333, 337 (1962), and whether an expenditure is part of a plan of capital improvement is a question of fact, United States v. Wehrli,400 F.2d at 690. Respondent does not question the existence of the expenditure but argues that it was a capital expenditure pursuant to a plan of capital improvement. Respondent notes petitioner's activities in converting 1313 Como to condominiums in 1980 as support for his position. Petitioner argues that "[t]he mere fact that petitioner anticipated the conversion of the rental units to condominiums is not a valid ground for making capital an ordinary charge against rental income." We agree, however, petitioner did not produce any evidence that might establish that the nature of the repairs was consistent with deductibility under the above regulation. On the evidence, we cannot determine the true nature of the repairs expenditure. We must therefore sustain respondent's determination, in which he disallowed the deduction and allowed484 the expenditures to be capitalized, because of petitioner's failure to meet his burden of proof. Rule 142(a).B. Transfer to Interfund, Inc. - 1981We must determine whether petitioner's 1981 transfer of 1313 Como to Interfund, Inc., was a sale or a contribution to capital. 9485 Respondent determined in his notice of deficiency that petitioner could not benefit from capital gains treatment from his sale of 1313 Como to his wholly owned corporation, Interfund, Inc., that petitioner's adjusted basis was no more than $ 12,500, and that therefore petitioner must recognize ordinary income of $ 498,465. Beginning with his trial memorandum, however, respondent has taken the position that there was not a sale of 131 Como to Interfund, Inc., but rather a contribution to its capital. Respondent thus argues (1) that petitioner must not report any gain on the transfer of 1313 Como to Interfund, Inc., (2) that Interfund, Inc., must take a carryover basis in 1313 Como, and (3) that the sale of the nine condominium units by Interfund, Inc., produces additional ordinary income of $ 247,505 to petitioner (flowing through Interfund, Inc., petitioner's wholly owned small business corporation). In the alternative, respondent argues that the transfer to Interfund, Inc., should be disregarded for tax purposes because the corporation was merely a conduit for petitioner's evasion of taxes. Petitioner maintains that his transfer of 1313 Como to Interfund, Inc., was a sale for486 tax purposes and that he properly reported his gain on the transaction. We agree with respondent's primary argument and therefore do not address his alternative argument. In support of his primary position, respondent advances two theories: one, that the transaction constituted a contribution to the capital of Interfund, Inc., and two, that the transaction constituted a section 351 transfer to Interfund, Inc. If a corporation acquires property in either a qualifying section 351 transfer or as a contribution to capital (that otherwise does not qualify under section 351), the corporation will have a carryover basis in the property, i.e., the same as the transferor's basis. Section 362(a). If section 362(a) does not apply to the transfer, and the corporation acquires the property in a bona fide sale, its basis in the property is generally its cost as determined under section 1012.Whether a transfer of property to a corporation by its shareholders is a sale or a contribution to capital487 is a question of fact. Aqualane Shores, Inc. v. Commissioner,30 T.C. 519">30 T.C. 519, 530 (1958), affd. 269 F.2d 116">269 F.2d 116 (5th Cir. 1959). Such a determination generally requires an analysis of the substance of a transaction and not the form in which it was cast by the parties. Kolkey v. Commissioner,27 T.C. 37">27 T.C. 37, 58 (1956), affd. 254 F.2d 51">254 F.2d 51 (7th Cir. 1958), and cases cited therein. Various facts are considered to determine the true nature of an advance or transfer of property to a corporation: Was the capital and credit structure of the new corporation realistic? What was the business purpose, if any, of organizing the corporation? Were the noteholders the actual promoters and entrepreneurs of the new adventure? Did the noteholders bear the principle risks of loss attendant upon the adventure? Were payments of "principal and interest" on the note subordinated to dividends and to the claims of creditors? Did the noteholders have substantial control over the business operations; and if so, was such control reserved to them as an integral488 part of the plan under which the notes were issued? Was the "price" of the properties, for which the notes were issued, disproportionate to the fair market value of such properties? Did the noteholders, when default of the notes occurred, attempt to enforce the obligations? [Kolkey v. Commissioner,27 T.C. at 59.] Respondent argues that the transaction was not a sale in either form or substance. We agree. No sales agreement or documentation of the sale was offered into evidence. The Quit Claim Deed offered into evidence identifies the transfer of 1313 Como for a stated consideration of one dollar, but it does not mention the alleged sales price of $ 500,000. Petitioner now admits that the terms of sale were not memorialized in a written document; however, he maintains that no such written agreement is required and that "[t]he parties had agreed on a purchase price and petitioner was in fact paid." Petitioner's statement that the parties had agreed on a price is misleading because petitioner himself was or represented each party; thus, petitioner determined the amount of the alleged purchase price unilaterally. The evidence also does not support489 the contention that petitioner was paid the full amount of the alleged purchase price of $ 500,000. Petitioner does not identify any evidence in support of full payment. Neither debt instruments nor evidence that Interfund, Inc., would assume any existing liabilities on the property were offered. Respondent, however, notes an adjusting journal entry suggesting that Interfund, Inc., paid off a mortgage of $ 141,148.15, paid petitioner's note to Guaranty for $ 78,125.93, and paid petitioner $ 57,692.90, all from the sales proceeds of condominium units. Respondent argues that this left a balance due of $ 223,033.02 on the alleged purchase price and that there is no evidence that this amount was ever paid to petitioner, except perhaps in the retransfer to petitioner of four condominium units in October 1981. As noted by respondent, such factors indicate that payment was dependent on the success of the business, which raises a strong inference that the transaction was a capital contribution and not a bona fide sale. See Bradshaw v. United States,683 F.2d 365">683 F.2d 365, 375 (Ct. Cl. 1982), citing to Burr Oaks Corp. v. Commissioner,43 T.C. 635">43 T.C. 635 (1965), affd. 490 365 F.2d 24">365 F.2d 24 (7th Cir. 1966). Based on all of the above facts and circumstances, we conclude that petitioner's transfer of 1313 Como to Interfund, Inc., was a contribution to capital and not a bona fide sale. Petitioner's transfer also qualifies as a section 351 transfer. Section 351 provides that: (a) General Rule. -- No gain or loss shall be recognized if property is transferred to a corporation by one or more persons solely in exchange for stock or securities in such corporation and immediately after the exchange such person or persons are in control (as defined in section 368(c)) of the corporation. * Requirements of section 351 are met when assets are transferred to a preexisting wholly owned corporation even though no additional stock or securities are issued. Lessinger v. Commissioner,85 T.C. 824">85 T.C. 824 (1985). In this case, petitioner transferred 1313 Como to his wholly owned, fully controlled corporation. Thus, under either of respondent's analyses, 491 Interfund, Inc., must take a carryover basis in the property, and petitioner has no gain upon the transfer. Respondent maintains that the proper amount of the carryover basis should be computed by starting with petitioner's original purchase price in 1971, and making all necessary adjustments to basis thereafter. Respondent's agent computed petitioner's adjusted basis in 1313 Como at the time of sale on February 1, 1981, in the amount of $ 144,748, as follows: 1/1/71Land$ 40,431.20 1/1/71Building145,039.59 1/1/71Air Conditioner9,813.06 1/1/71Carpet & Furniture13,626.60 1/1/73Furniture3,591.35 Original cost$ 212,501.80 Accumulated dep. 1971-1981(67,754.00)Adjusted basis 2/1/81$ 144,747.80 Respondent's agent then determined the amount of basis to be assigned to each condominiums unit based on a percentage determined from the units' assigned value in the Declaration of Condominium No. 247. In maintaining his position, respondent disregards petitioner's alleged sale of the property in 1976 and petitioner's alleged repurchase of the property in 1980. Petitioner's contention that he sold the492 property to his brother-in-law in 1976 and later repurchased it in 1980 is supported only by his testimony, adjusting journal entries, and tax returns. Given the absence of documentation that usually accompanies bona fide transfers such as sales agreements or mortgages, we conclude that petitioner's evidence, i.e., self-serving testimony and unilateral book entries, fails to establish the alleged sale and repurchase. We also would infer from petitioner's failure to call his brother-in-law as a witness that such testimony would not corroborate petitioner's position. Wichita Terminal Elevator Co. v. Commissioner,6 T.C. 1158">6 T.C. 1158 (1946), affd. 162 F.2d 513">162 F.2d 513 (10th Cir. 1947). Cf. Kean v. Commissioner,469 F.2d 1183">469 F.2d 1183, 1187-1188 (9th Cir. 1972), affg. in part and revg. in part (on other grounds) 51 T.C. 337">51 T.C. 337 (1968). We therefore agree with respondent's computation of petitioner's basis in 1313 Como at the time of transfer to Interfund, Inc., except that an adjustment is necessary for the repairs of $ 18,503. Petitioner's adjusted basis, and Interfund, Inc.'s, carryover basis was thus $ 163,251. In order to determine the493 proper amount of gain to Interfund, Inc., upon the sale of the condominium units, we must apportion the amount of the carryover basis among the units. Such an allocation is made on an equitable basis. Section 1.61-6, Income Tax Regs. Described below are the units' respective bases as determined from the assigned values laid out in the Declaration of Condominium No. 247: Unit No.Assigned Value% of Assigned ValueBasis101$ 29,500 4.657$ 7,602.60 10239,500 6.23510,178.70 10340,500 7.81412,756.43 10439,500 6.23510,178.70 10529,500 4.6577,602.60 20159,500 9.39215,332.54 20259,500 9.39215,332.54 20349,500 7.81412,756.43 20449,500 7.81412,756.43 30164,500 10.18116,620.58 30264,500 10.18116,620.58 30349,500 7.81412,756.43 304 49,5007.814 12,756.43Total$ 633,500100.00 $ 163,250.99The total basis of the units sold in 1981 (all units except numbers 201, 202, 204, and 301, is $ 103,208.91. Thus, because the amount of the gross receipts to Interfund, Inc., for the units sold wqs $ 389,000, 494 the amount of ordinary income on the units sold is $ 285,791.09. The the extent this amount exceeds the amount of income reported by Interfund, Inc., on the sale of the units, there must be an adjustment for purposes of Interfund, Inc.'s taxable income. The adjustment to Interfund, Inc.'s, taxable income, to the extent not otherwise adjusted by the stipulation or other determinations herein, will pass through to petitioner because Interfund, Inc., was petitioner's wholly owned small business corporation. C. Transfer to Campus Realty, Inc. - 1981We must determine whether petitioner had income in 1981 when Interfund, Inc., transferred the remaining condominium units to Campus Realty, Inc. Respondent argues that, in view of our conclusion that the 1981 transfer of 1313 Como to Interfund, Inc., was a contribution to its capital, the subsequent transfer of the four units back to Campus Realty, Inc., must be treated as a distribution from Interfund, Inc., to petitioner. Respondent argues that although the transfer was made to Campus Realty, Inc., distributions of one corporation to another, both of which are wholly owned by the same shareholders, are distributions to the495 shareholder. For this proposition, respondent cites Knipe v. Commissioner,356 F.2d 514">356 F.2d 514 (3d Cir. 1966), affg. per curiam a Memorandum Opinion of this Court, and Helvering v. Gordon,87 F.2d 663">87 F.2d 663 (8th Cir. 1937). Petitioner disputes neither respondent's authority nor his statement of the law. Petitioner argues that "Interfund, Inc., allowed another of petitioner's corporations to hold record title to the remaining four condominium units for the purpose of using it as a collateral for a loan it obtained for petitioner's benefit." This "mere fact," concludes petitioner, is no cause to deem the sale or distribution of those assets to petitioner. Although petitioner's argument hints of an agency relationship, petitioner does not support his statement of the facts with any reference to evidence before the Court and does not support his conclusion with any citations to authority. We are thus more persuaded by respondent's position, which has both factual and legal support. The transfer of the four condominium units must be treated as a distribution by Interfund, Inc. In addition to the distribution of the four condominium units, the total fair496 market value of which was described in petitioner's Declaration of Condominium No. 247 as $ 233,000, respondent also identifies 1981 cash distributions to petitioner of $ 78,125.93 for the payment of petitioner's Guaranty note and $ 57,692.90 for cash paid petitioner at "closing." Petitioner does not dispute any of these amounts or that they were transferred. The proper treatment of distributions of a small business corporation is determined pursuant to sections 1371 et seq. and 301. Because the amount of income to Interfund, Inc., in 1981 from the sale of the nine condominium units exceeds the amount of cash distributions to petitioner, respondent contends that these distributions to petitioner are out of Interfund, Inc., current earnings and profits and taxable to petitioner as dividends under section 316(a)(2). Because distributions of property are not treated as distributions of previously taxed income, section 1.1375-4(b), Income Tax Regs., and because there497 were no accumulated earnings and profits in Interfund, Inc., respondent contends that the distribution of the four condominium units to petitioner must be applied as a recovery of petitioner's basis under section 301(b)(2) and any excess must be treated as gain under section 301(b)(3). Respondent computes petitioner's basis in Interfund, Inc., as follows: ItemAmountCapital Stock$ 20,000 Prior Years Activity:1971 Loss (16,685)1972 Gain 2,563 1973 Loss (1,476)Transfer of 1313 Como - Basis10 163,251Less Liability to WhichProperty was Subject (136,117)$ 31,536 To this amount respondent would add the amount of gain on the sale of the condominium units of $ 285,791.09 less the cash distributions to petitioner of $ 135,818.83, resulting in petitioner's basis in Interfund, Inc., at the end of the taxable year of $ 181,508.26. As discussed earlier, the property distribution in the amount of $ 233,000 would be applied to this498 basis, and the excess of $ 51,491.74 would be gain to petitioner. Respondent maintains that the character of the gain would be ordinary because Interfund, Inc., was a collapsible corporation under section 341(a). Petitioner does not dispute this characterization, and we agree with respondent's analysis. IV. Lawsuit Settlements and Legal FeesA. Interest on Lawsuit Settlement - 1979We must determine whether petitioner is entitled to an interest deduction in 1979 of $ 46,783 attributable to the settlement of a lawsuit by Midway. As noted by respondent, interest paid to the limited partners under the settlement agreed and paid to Midway under that settlement agreement was deducted by petitioner, was allowed by respondent, and is not in dispute here. Petitioner argues that the evidence establishes that Midway received a total of $ 205,000 in settlement of the action, that there was $ 157,155.72 of outstanding principal at the time of settlement, and that the difference of $ 47,844.28 constitutes deductible interest. Petitioner acknowledges, without explanation, that this amount is greater than the amount he claimed on his return, $ 46,783. In computing the total499 amount paid to Midway upon settlement, $ 205,000, petitioner includes the $ 100,000 payment by the limited partners, the $ 55,000 to be paid by petitioner, and an alleged $ 50,000 payment by petitioner's brother, Dr. Raymond W. Scallen. Respondent advances three arguments: (1) that in the case of a lump sum settlement in compromise of a liability, where the agreement does not allocate part of the settlement to interest, no part of the settlement is interest; see Petit v. Commissioner,8 T.C. 228">8 T.C. 228 (1947); (2) no part of the interest is deductible by petitioner because he, as well as each of the limited partners, was only a guarantor of the Midway note, on which the primary obligor was Interfund, Inc.; and (3) because petitioner individually was on the cash basis of accounting, he may only deduct interest actually paid in 1979.Section 163(a) allows a deduction for "all interest paid or accrued within the taxable year on indebtedness." The indebtedness must be that of the taxpayer. Borchert v. United States,757 F.2d 209">757 F.2d 209, 211 (8th Cir. 1985); Smith v. Commissioner,84 T.C. 889">84 T.C. 889, 897 (1985),500 affd. 805 F.2d 1073">805 F.2d 1073 (D.C. Cir. 1986). A guarantor is not entitled to deduct interest paid as a result of default by the debtor; such payments are attributable to guaranty agreements, not debt obligations. Smith v. Commissioner,84 T.C. at 898. In this case, petitioner made payments to Midway in respect of his personal guaranty of the Midway note and to the limited partners in respect of his assumption of their obligations to Midway as guarantors of the Midway note. The debtor, and hence primary obligor, on the Midway note was Interfund, Inc.; therefore, no interest deduction is allowed petitioner. We do not address the other arguments by respondent because the above analysis disposes of the issue.B. Lawsuit Settlement: Limited Partners of CR-12 - 1980We must determine whether petitioner is entitled to deduct $ 30,000 in 1980 for a lawsuit settlement involving the CR-12 partnership. Respondent contends that, based on the origin and character test, the deduction is capital in nature and that petitioner is entitled to deduct, as a long-term capital loss, only the amount actually paid in each year. Petitioner disputes both contentions. 501 To determine the proper tax treatment with respect to payments of a settlement liability, the origin and character test, sometimes referred to as the origin of the claim test, is the proper analysis. See Entwicklungs and Finanzierungs A. G. v. Commissioner,68 T.C. 749">68 T.C. 749, 759 (1977), and cases cited therein. "If * * * the settlement payment was made to resolve a claim which arose in the process of acquisition of a capital asset or to extinguish a claim involving ownership rights to a capital asset, * * * it constitutes a capital expenditure." 68 T.C. at 759-760. In applying the origin of the claim test, we must consider "the issues involved, the nature and objectives of the litigation, the defenses asserted, the purpose for which the claimed deductions were expended, the background of the litigation, and all the facts pertaining to the controversy." Boagni v. Commissioner,59 T.C. 708">59 T.C. 708, 713 (1973). Applying the above criteria, we conclude that the origin of the claim giving rise to payments pursuant to the Settlement was not in the acquisition502 or disposition of a capital asset in the hands of petitioner. Accordingly, we agree with petitioner that the item is properly deductible as a business expense. It appears from certain books and records of petitioner that the partnership CR-12 was liquidated in 1974 or 1975, that petitioner "assumed" control of the CR-12 property, and that he effected a sale of the property in 1977. Upon these events, it was petitioner's responsibility as sole general partner of CR-12 to manage the funds of the terminated partnership and to disburse to the limited partners their respective shares of capital contributions and profits. That petitioner acquired control of, and perhaps the ownership interest in, the CR-12 property should not confuse the analysis. It was petitioner's alleged failure to properly carry out his responsibilities as sole general managing partner, in liquidating the partnership, that was the "origin of the claim" to the litigation and subsequent settlement. The settlement liability therefore is not a capital expenditure giving rise to a capital loss deduction. Respondent also argues that the complaint and subsequent settlement involved petitioner only in his individual503 capacity. Respondent thus maintains that any deduction must be on the cash basis. We disagree. Petitioner's involvement in the complaint and settlement was in his capacity as general manager of the partnership. Because petitioner reported the income and expenses of his property management business on the accrual method of accounting, he is entitled to the full deduction in 1980. Section 1.461-1(a)(3)(ii), Income Tax Regs.C. Lawsuit Settlement: FKSI - 1980We must determine whether petitioner is entitled to deduct $ 58,500 in 1980 for a lawsuit settlement involving FKSI. Respondent contends that, based on the origin and character test, the deduction is capital in nature and that petitioner is entitled to deduct, as a long-term capital loss, only the amount paid. Petitioner again disputes both contentions. Based on our consideration of all the facts and circumstances, we conclude that the "origin of the claim" was capital in nature. The kinds of transactions out of which the lawsuit arose were FKSI's sale of its interest in certain partnerships or ventures to petitioner and FKSI's construction of certain apartment buildings for petitioner. 504 None of the transactions involved petitioner's property management business. Because the transactions involved the sale or disposition of capital assets in petitioner's hands, the origin of the claim is capital and petitioner is entitled to capital loss treatment. We recognize that petitioner's deduction was claimed on Schedule C; however, petitioner has failed to establish any connection of the FKSI settlement to petitioner's property management business. Accordingly, petitioner is not entitled to claim the capital loss on the accrual method; instead, he may only claim amounts as they were actually paid. Pursuant to the schedule of payments described in the Settlement Agreement, petitioner would have paid a total of $ 13,000 in 1980. Although there is no documentation that the amounts were timely paid, there is also no indication that the terms of the Settlement Agreement were not complied with. Moreover, respondent does not argue that the amounts were not paid. We therefore conclude that petitioner may claim a capital loss deduction of $ 13,000 in 1980.D. Legal Fees - 1979We must determine whether petitioner is entitled to deduct legal fees in 1979. Petitioner505 deducted legal fees of $ 40,727 on his 1979 tax return and now contends that he is entitled to a deduction in 1979 for legal fees of $ 39,267, comprised of the following: Rosen$ 10,561.82Primus240.00Brittany loan3,472.00Doctors' Settlement24,994.00$ 39,267.82Petitioner offers no explanation as to why the amount is different from that reported on his tax return. Total billings to petitioner by Rosen and Primus in 1979 were $ 10,561.82 and $ 240, but there is no evidence of payments in 1979. Petitioner also has failed to substantiate payment of the $ 3,472 amount because his only evidence was the adjusting journal entries. Petitioner argues that a deduction for these amounts is nevertheless proper because the fees were reported on the accrual method of accounting and that the actual time of payment is not relevant. Petitioner contends that respondent is unfairly insisting that the legal fees be reported on the cash method while insisting that other items of income and deduction be reported on the accrual basis. Petitioner's property management business accounted for its income and expenses on the accrual basis while petitioner otherwise506 accounted for income and expenses on the cash basis. Because petitioner failed to prove that they were attributable to his property management business, we conclude that respondent properly disallowed the deduction for these amounts in 1979. By virtue of their respective arguments, the parties have agreed that deductibility of the $ 24,994 amount is dependent upon our determination regarding the $ 30,000 lawsuit settlement with the limited partners of CR-12 in 1980. We determined, supra, that the origin of the claim involved in the lawsuit settlement with the limited partners of CR-12 was not in the acquisition or disposition of a capital asset and that the amount was attributable to petitioner's property management business. Accordingly, we conclude that the legal fees of $ 24,994 accrued in 1979 were not capital in nature, were attributable to petitioner's property management business, and therefore were properly deductible as an expense in 1979.E. Legal Fees - 1980We must determine whether petitioner is entitled to deduct legal fees in 1980. Petitioner now contends that he is entitled to deduct legal fees of $ 5,400.10; petitioner does not explain why507 this amount is different from the amount claimed on his return, $ 7,314. In the alternative, petitioner argues that "if respondent insists that petitioner must account for legal expenses on the cash basis," he is entitled to a deduction of $ 10,050, the amount paid to Rosen in 1980. Respondent argues that the legal expenses were unrelated to petitioner's property management business, for which he reported items of income and expense on the accrual basis, and therefore may only be deducted on the cash basis. Respondent acknowledges petitioner's payments to Rosen in 1980 of $ 10,050 but argues that the same amounts were deducted in prior years, when the fees were incurred, and that therefore petitioner may not be allowed a double deduction. The evidence, however, does not establish duplicate deductions. We cannot deny a deduction simply on respondent's speculation that the item may have been deducted earlier. On the evidence available, we conclude that the legal fees for which the payments totaling $ 10,144.49 were made were not related to petitioner's property management business and must therefore be deducted on the cash basis. Respondent now argues that petitioner has508 not established that the legal fees are allowable as ordinary deductions rather than as capital expenditures. Respondent suggests that the payments are attributable to fees incurred in prior years in the acquisition or disposition of various capital assets. Because of respondent's failure to identify evidence in support of his contention, a position not taken in the notice of deficiency and therefore one on which respondent bears the burden of proof, we conclude that the amounts paid may be deducted as ordinary expenses. See Rule 142(a). V. Gerald R. Hansen DeductionsA. Promotions - 1978We must determine whether petitioner is entitled to deduct $ 5,000 for "Legal and professional services" and $ 22,000 for "Promotions" for amounts allegedly paid to Hansen in 1978.Section 162(a)(1) allows a deduction for ordinary and necessary expenses paid as "a reasonable allowance for salaries or other compensation for personal services actually rendered." No deduction is allowed, however, if an expenditure otherwise deductible is a capital expenditure. Section 263. Capital509 expenditures include those involving the cost of the acquisition or disposition of a capital asset. Woodward v. Commissioner,397 U.S. 572">397 U.S. 572, 576 (1970); section 1.263(a)-1(a) and (e), Income Tax Regs.Petitioner maintains that the expenditures are properly deductible as ordinary and necessary expenses in 1978. Respondent now contends that no deduction is allowable because the amount paid was not reasonable for the services allegedly performed. Alternatively, respondent maintains his position in the notice of deficiency that the expenditures were capital. Because respondent's first argument would increase petitioner's tax liability beyond the amount determined in the notice of deficiency and because it was raised in respondent's Answer, he bears the burden of proving the payments were unreasonable. Rule 142(a). He has not satisfied that burden. After considering all the facts and circumstances, we agree with respondent's determination that the expenditures should be capitalized. That the amounts were actually paid is not questioned. That petitioner and Hansen conducted their business relationship at arm's length is not disputed by respondent nor contrary510 to any evidence of record. Petitioner testified that Hansen assisted him with obtaining sources of financing and with structuring sales and forms of refinancing. Hansen's testimony is consistent, suggesting that his primary assistance to petitioner in 1978 involved the Britanny property. The evidence does not, however, support allocation of the full amount to a particular property. Expenses paid in obtaining loan financing are capital expenditures to be amortized over the life of the loan. Duncan Industries, Inc. v. Commissioner,73 T.C. 266">73 T.C. 266, 275 (1979). Accordingly, petitioner's payments totaling $ 27,000 to Hansen in 1978 were capital expenditures that should be amortized as determined by respondent. B. Consulting Fees - 1978We must determine whether petitioner is entitled to capitalize the "Consulting Fees" of $ 37,198 allegedly paid to Hansen in 1978. In his Answer to the petition, respondent contends that the amount was not ordinary and necessary, and respondent now argues that there was no transfer of property because petitioner never held an511 interest in the St. Cloud property. Alternatively, respondent maintains his position in the notice of deficiency that the amount should be capitalized. Because respondent's first argument is a new matter raised in his Answer, he bears the burden of proving that there was no real transfer. Rule 142(a). Petitioner no longer seeks the current deduction but only seeks to have the amount capitalized and amortized. Upon examining the record, we agree with respondent's position that petitioner did not transfer anything to Hansen. Other than the adjusting journal entries, petitioner has produced no documentary evidence in support of the alleged transactions. Documents do exist, however, which show transfers of the St. Cloud property before and after the date of the adjusting journal entries but which do not involve petitioner or Hansen. Hamm testified that he never saw documentation and that he merely recorded the transaction, i.e., the adjusted journal entries, as instructed by petitioner. Moreover, Hansen's testimony describing payments from petitioner in 1978 included no mention of this alleged payment for "consulting fees." Based on this evidence, the petitioner's failure to512 produce or identify conflicting evidence, we believe that respondent has met his burden of proof. None of the alleged consulting fee in 1978 may be deducted or capitalized.C. Commissions - 1979We must determine whether petitioner is entitled to deduct $ 25,000 for "Commissions" allegedly paid to Hansen in 1979. In support of the claimed deduction, petitioner relies on the recorded adjusting journal entry and the alleged incompleteness of "respondent's evidence." It is petitioner, however, who bears the burden of proving entitlement to the deduction, Rule 142(a), and the adjusting journal entry itself is insufficient, particularly in light of respondent's evidence to the contrary. A mere entry in the books and records does not establish the correctness of that entry or the allowability of a claimed deduction. See Northwestern States Portland Cement Co. v. Huston,126 F.2d 196">126 F.2d 196, 199 (8th Cir. 1942). The records of Guaranty State Bank that were in the possession of the FDIC did not show any payments to Hansen on behalf of petitioner in 1979. Hansen, whose513 testimony and notes identified and confirmed certain payments in 1978, could not recall, or identify in his notes, any receipts of income from petitioner in 1979. Although respondent requested proof of the payment in certain forms of formal discovery, no such verification was provided. We therefore sustain respondent's determination.D. Consulting Fees - 1980We must determine whether petitioner is entitled to deduct $ 25,000 for "Consulting Fees" allegedly paid to Hansen in 1980. Petitioner relies on the bank records as substantiation of the claimed deduction. Respondent argues, however, that the bank records show only that there was a disbursement and not that there was a payment for consulting fees. Further, respondent argues that in view of petitioner's testimony, Hansen's testimony, and Hansen's notes on his income in 1981, the amount simply could have been a loan from petitioner out of the proceeds from Guaranty State Bank. Hansen's notes and testimony suggest that he included a $ 15,000 payment in income in 1980 but not a $ 25,000 payment. Hansen and petitioner testified that they often made loans to each other. In view of these facts, and petitioner's514 failure to prove the nature of the advance, assuming it was made, we conclude that no deduction may be allowed. Rule 142(a).E. Commissions - 1980We must determine whether petitioner is entitled to deduct $ 10,000 for "Commissions" allegedly paid to Hansen in 1980. Petitioner argues that certain checks establish the deduction he claims. Although the checks do confirm that Hansen received $ 10,000, their existence does not establish the nature or purpose of the payments. Hansen testified that he thought the payments could have been payments due him on the Brittany contract. In view of this testimony, which at the very least raises doubt as to the deductibility of the payments as commissions, and petitioner's failure otherwise to produce evidence of substance in support of the claimed deduction, it must be disallowed. Rule 142(a). VI. Other DeterminationsA. Forgiveness of Liabilities - 1980We must determine whether petitioner had income in 1980 from the forgiveness of liabilities. Respondent argues that petitioner has produced no evidence showing that he was obligated to pay the item or that there were any creditors asserting claims for the515 item. Petitioner argues that the very fact that he sold Brittany does not mean the account payable is immediately due and is forgiven if not paid out of the sales proceeds. We do not disagree with petitioner's argument; however, it misses the point.Section 61(a)(12) provides that gross income includes income from the discharge of indebtedness. The burden is upon petitioner to establish that respondent erred in his determination (1) that certain liability accounts in petitioner's books and records no longer reflect true liabilities and (2) that petitioner must therefore include a correlative adjustment in income. North American Coal Corp. v. Commissioner,32 B.T.A. 535">32 B.T.A. 535, 543 (1935), affd. 97 F.2d 325">97 F.2d 325 (6th Cir. 1938). See generally Carl T. Miller Trust v. Commissioner,76 T.C. 191">76 T.C. 191 (1981). Petitioner's argument is merely speculative, and petitioner has otherwise failed to produce evidence showing error in respondent's determination. He has not met his burden of proof, and respondent's determination is therefore sustained.B. 516 Forgiveness of Liabilities - 1981We must determine whether petitioner had income in 1981 from the forgiveness of liabilities. Again, petitioner must prove error in respondent's determination. Petitioner disputes only the adjustment attributable to Anderson House of Furniture. Petitioner argues that "[t]he evidence establishes, however, that this account payable was never forgiven or compromised but rather paid on in the years following 1981." Petitioner's only "evidence" is his own self-serving testimony that, although Anderson House of Furniture had commenced certain lawsuits against petitioner, none of its accounts with petitioner were released, discounted, or compromised, except to extend the due dates. Respondent, however, notes certain adjusting journal entries in the 1975 books of Interfund/Jansco that tend to discredit petitioner's testimony. In view of the foregoing and petitioner's failure to produce or identify evidence in support of his allegation that the debt to Anderson House of Furniture was not forgiven, petitioner has not met his burden of proof, and we therefore sustain respondent's determination.C. Teaching in France - 1981We must517 determine whether petitioner had additional income in 1981 from teaching at the University of Lyon of France. Petitioner concedes that the claimed employee business expenses are nondeductible but now argues that no amount of the $ 10,000 he received from the University of Minnesota and the University of Lyon, $ 4,500 of which was reported in income, is includible in income. Petitioner treats both the $ 6,000 payment from the University of Minnesota and the $ 4,000 payment from the University of Lyon as reimbursements and argues that no part of any reimbursement is includible in gross income if the related expenditures by the employee are made solely for the convenience and benefit of the employer. In support of his position, petitioner cites to Johnson v. Commissioner,32 T.C. 257">32 T.C. 257 (1959), affd. 276 F.2d 110">276 F.2d 110 (7th Cir. 1960); Kremer v. Commissioner,T.C. Memo. 1961-337; and Rev. Rul. 80-348, 2 C.B. 31">1980-2 C.B. 31. Petitioner misstates the authority in Johnson, a case concerning the appropriate period of limitation to be applied to its particular facts. Instead, Johnson held that 518 only the balance or excess of the employer's reimbursements over the employee's expenses must be included in the employee's income. We have also reviewed the memorandum opinion and revenue ruling and conclude that they are distinguishable and do not lend support to petitioner's argument. The law in the area of employee business expenses and reimbursements is settled. In cases where the employee is required to account to the employer for such expenses, (1) if the reimbursements equal the ordinary and necessary business expenses paid or incurred by the employee, the employee need only include a statement to that effect in his return; (2) if the reimbursements exceed the expenses, the employee must include the excess in income and state on his return that he had done so; and (3) if the expenses exceed the reimbursements and the employee wishes to secure a deduction for such excess, the employee must include in his return a statement identifying the total reimbursements, the nature of his occupation, the number of days away from home, 519 and the total expenses broken down into broad categories. Section 1.162-17(b), Income Tax Regs. In cases where the employee is not required to account to the employer, the employee must include in his return a statement identifying the total reimbursements, the nature of his occupation, the number of days away from home, and the total expenses broken down into broad categories. Section 1.162-17(c), Income Tax Regs.On the record before us, it is unclear whether petitioner was required to account to his employer for his employee business expenses; however, the result is the same under either subsection of the regulation. Petitioner was reimbursed a total of $ 10,000 for teaching at the University of Lyon and has conceded that he is not entitled to any employee business expenses. Because petitioner only reported $ 4,500 in income for teaching at the University of Lyon, he must include in income an additional $ 5,500.D. Sunnyside, Inc.We must determine whether petitioner is entitled to deduct losses in 1979 and 1980 attributable to Sunnyside, Inc., a small business corporation. The parties have agreed that, 520 if petitioner establishes basis in Sunnyside, Inc., the Sunnyside, Inc., losses in 1979 and 1980 are $ 12,705 and $ 21,005, respectively. Because petitioner was the sole shareholder of Sunnyside, Inc., during these years, any such losses, i.e., net operating losses, would pass directly to him. Section 1374. The parties also had agreed that if we determine that Sunnyside, Inc., is the owner of a certain apartment, Sunnyside unit #115 (unit 115), petitioner is entitled to an additional loss in 1980 of $ 8,401 relating to Sunnyside, Inc., to the extent of his basis therein.Under section 1374(c)(2), a shareholder's portion of the small business corporation's net operating loss shall not exceed the sum of the adjusted basis of the shareholder's stock and the adjusted basis of any indebtedness of the corporation to the shareholder. Respondent argues that the application of section 1374(c)(2) would limit petitioner's 1979 and 1980 deduction for his share of the corporation's net operating loss in those years to zero. Respondent's final computation of petitioner's adjusted basis was as521 follows: 1979 BasisItemAmountShareholder investment$ 1,000.00 "Loans" from shareholder134,538.00 Less portion of "loan"account attributable to Interfund, Inc. (31,253.26)Reversal of erroneous AJE74,352.38 Reduced by loan of Sunny-side, Inc., of mortgage proceeds on unit #115 (60,000.00)Reduced by loan of Sunny-side, Inc., for 11Chesapeake, Inc. (194,482.61)Total ($ 75,845.49)or zero basis1980 BasisItemAmountShareholder investment$ 1,000.00 "Loans" from shareholder207,430.96 Less portion of "loan"account attributable to Interfund, Inc. (31,253.26)Reversal of erroneous AJE74,352.38 Reduced by loan of Sunny-side, Inc., of mortgage proceeds of unit #115 (60,000.00)Reduced by loan of Sunny-side, Inc., for Chesapeake, Inc. (194,482.61)Total $ (2,952.53)or zero basisOf respondent's computations, petitioner only disputes the third item in each year, having assumed "arguendo" the correctness522 of the other items. For the third item, the portion of loan account attributable to Interfund, Inc., respondent originally deducted $ 72,915.92 because that was the amount shown on the 1973 books of Interfund, Inc., as a debt to Interfund, Inc. As pointed out by petitioner, however, the amount was actually reflected on the books of Interfund, Inc., as Interfund, Inc.'s, liability to Sunnyside, Inc. Petitioner contends that the amount should thus be reversed and further contends that it should be added to his basis in Sunnyside, Inc. Petitioner argues that the debt was carried over to Interfund/Jansco, the proprietorship, from Interfund, Inc. In response, respondent now argues (1) that there is no evidence that any consideration was paid or received by Interfund, Inc., for the transfer of its assets and liabilities to the proprietorship and (2) that, in any event, he should have used the amounts in Interfund, Inc.'s, 1974 books, because that was the last year petitioner's property management business was operated through the corporation before being transferred to the proprietorship. The 1974 books show that Sunnyside,Inc., owed Interfund, Inc., a balance at the end of the year523 of $ 31,253.26. After considering the available evidence and the arguments of each party, we conclude that petitioner has failed to establish any amount of adjustment basis under section 1374(c)(2). We are most persuaded by respondent's argument and final computation. The year-end trial balances of Sunnyside, Inc., show that the corporation continued its account "Due to/from Interfund" before and after petitioner's property management business was transferred from Interfund, Inc., the corporation, to Interfund/Jansco, the proprietorship. Because there is no evidence that consideration passed in that transfer, the balance of the account in the last year it represented loans from Interfund, Inc., was properly deducted from petitioner's basis by respondent. We also note that the balance sheet in the 1979 tax return of Sunnyside, Inc., reflects an ending balance of $ 134,538 in the loans from shareholders account and a beginning balance of zero. In such cases, we would consider past years such as 1973 and 1974 to be immaterial in that the ending balance in 1979 in the loans from shareholders account would have arisen from transfers or loans only in 1979. Petitioner has failed, 524 however, to produce evidence that conforms to the return filed or that explains why it differs from the trial balances in the record. We also are not convinced that petitioner had any basis in the stock of Sunnyside, Inc. Our search through the record revealed the following adjusting journal entry in Sunnyside, Inc.'s records for 1975: AJE #12Due from S.B.S. (petitioner)$ 1,000Common Stock $ 1,000Moreover, each of the balance sheets filed by Sunnyside, Inc. with its tax returns maintains the $ 1,000 balance in each of these accounts. Because petitioner was the president and sole shareholder of Sunnyside, Inc., because petitioner has never paid off the "Due" account, and because petitioner has failed to demonstrate any intent to pay off the "Due" account, we conclude that he had no basis in the stock. Petitioner gave only a "promise to pay" in exchange for the common stock. Compare Nat Harrison Associates, Inc. v. Commissioner,42 T.C. 601">42 T.C. 601, 624-625 (1964) (cash basis taxpayer denied a deduction for interest "paid" in the form of a note; the note represented only a promise to pay). Petitioner has failed525 to establish any basis in Sunnyside, Inc., in 1979 and 1980 and thus may not deduct any losses for those years arising from Sunnyside, Inc. (Although there is no "remaining basis" against which petitioner may deduct additional losses, given petitioner's quitclaim deed in 1979 and Sunnyside, Inc.'s, mortgage on unit 115 (commencing in October 1979), Sunnyside, Inc., not petitioner, was the owner of unit 115 at the end of 1979.) VII. FraudWe must determine whether petitioner is liable for fraud under section 6653(b) in each of the years in issue. For the years in issue, section 6653(b) imposes an addition to tax equal to 50 percent of the underpayment if any part of the underpayment is due to fraud. The addition attaches to the entire underpayment, even if only a portion of it is due to fraud. Mensik v. Commissioner,328 F.2d 147">328 F.2d 147, 150 (7th Cir. 1964), afg. 37 T.C. 703">37 T.C. 703 (1962). Because of concessions by petitioner and because of our determinations on the other issues in this case, an underpayment of tax existed in each year in issue. We must526 therefore determine whether any part of the underpayment in each year was due to fraud on the part of petitioner. The 50-percent addition to tax in the case of fraud is a civil sanction provided primarily as a safeguard for the protection of the revenue and to reimburse the Government for the heavy expense of investigation and the loss resulting from the taxpayer's fraud. Helvering v. Mitchell,303 U.S. 391">303 U.S. 391, 401 (1938). Respondent has the burden of proving, by clear and convincing evidence, that some part of the underpayment for each year was due to fraud. Section 7454(a); Rule 142(b). This burden is met if it is shown that the taxpayer intended to evade taxes known to be owing by conduct intended to conceal, mislead, or otherwise prevent the collection of such taxes. 12Stoltzfus v. United States, 398 F.2s 1002, 1004 (3d Cir. 1968); Webb v. Commissioner,394 F.2d 366">394 F.2d 366, 377 (5th Cir. 1968), affg. a Memorandum Opinion of this Court. A fraudulent underpayment of taxes may result from an overstatement of deductions as well as an understatement527 of income. Hicks Co. v. Commissioner,56 T.C. 982">56 T.C. 982, 1019 (1971), affd. 470 F.2d 87">470 F.2d 87 (1st Cir. 1972); Neaderland v. Commissioner,52 T.C. 532">52 T.C. 532, 540 (1969), affd. 424 F.2d 639">424 F.2d 639 (2d Cir. 1970). The existence of fraud is a question of fact to be resolved upon consideration of the entire record. Gajewski v. Commissioner,67 T.C. 181">67 T.C. 181, 199 (1976), affd. without published opinion 578 F.2d 1383">578 F.2d 1383 (8th Cir. 1978). Fraud will never be presumed. Beaver v. Commissioner,55 T.C. 85">55 T.C. 85, 92 (1970). Fraud may, however, be proved by circumstantial evidence because direct proof of the taxpayer's intent is rarely available. The taxpayer's entire course of conduct may establish the requisite fraudulent528 intent. Stone v. Commissioner,56 T.C. 213">56 T.C. 213, 223-224 (1971). Otsuki v. Commissioner,53 T.C. 96">53 T.C. 96, 105-106 (1969). In this case, the record is replete with clear and convincing evidence of fraud in each of the years in issue. Petitioner intentionally devised a network of related and interrelated entities that obfuscated any tracing or investigation of questionable business practices by any interested party, including the government. Petitioner's activities thus provided a "cushion" against the payment of any Federal income taxes during the years in issue. For the reasons discussed below, we conclude from the specific activities and overall conduct of petitioner throughout the years in issue that respondent has satisfied his burden of proof. In Spies v. United States,317 U.S. 492">317 U.S. 492, 499 (1943), the Supreme Court identified certain badges of fraud as follows: By way of illustration, and not by way of limitation, we would think affirmative willful attempts may be inferred from conduct such as keeping a double set of books, making529 false entries or alternations, or false invoices or documents, destruction of books or records, concealment of assets or covering up sources of income, handling of one's affairs to avoid making the records usual in transactions of the kind, and any conduct, the likely effect of which would be to mislead or to conceal. * * * [Emphasis supplied.] The failure to maintain complete and accurate records is an indicium of fraud. Grosshandler v. Commissioner,75 T.C. 1">75 T.C. 1, 20 (1980), and cases cited therein. Petitioner's books and records were wholly deficient in reflecting the deductions and other transactions claimed by petitioner and his various businesses. Present in those records, and often the only written support for many deductions and transactions, were the adjusting journal entries made by petitioner's accountant Hamm according to petitioner's instructions. Although Hamm often requested documentation to support the adjusting journal entries, he was rarely provided with any. In spite of respondent's formal discovery requests, documentation was not produced to530 respondent or during trial. In view of petitioner's professional background, he certainly was aware of the importance of adequate records, but he failed to maintain them. Petitioner's conduct thus indicates that he was "handling * * [his] affairs to avoid making records usual in transactions of the kind," Spies v. United States, supra, to an extent demonstrating fraudulent intent."In determining presence or absence of fraud the trier of facts must consider * * * the training and experience of the party charged." Iley v. Commissioner,19 T.C. 631">19 T.C. 631, 635 (1952). See Solomon v. Commissioner,732 F.2d 1459">732 F.2d 1459, 1461 (6th Cir. 1984), affg. a Memorandum Opinion of this Court. Petitioner's knowledge of tax law is exceptional, and his teaching experience shows that he maintained an ongoing foundation in the basic principles of Federal income taxation and was abreast of any current developments in the area. Petitioner's experience afforded him the opportunity to carefully structure sophisticated real estate transactions and to meticulously531 organize the books and records relating to both his business and his personal affairs. Instead, petitioner's transactions and his books and records are difficult to understand and nearly impossible to trace. Moreover, these problems are compounded by petitioner's use of so many names and entities, particularly where one name refers to both a corporation and a proprietorship. We do not believe or accept petitioner's assertions that the underpayments of his taxes were attributable to errors by Hamm. The failure by a taxpayer to make available complete and accurate records to the person charged with the responsibility of preparing the taxpayer's returns may, in the view of the courts, reflect an intent on the taxpayer's part to conceal and deceive. In Estate of Temple v. Commissioner,67 T.C. 143">67 T.C. 143, 162 (1976), the Court upheld the imposition of the fraud addition and stated: While a taxpayer's reliance upon his accountant to prepare accurate returns may indicate an absence532 of fraudulent intent, this is true in the first instance only if the accountant has been supplied with all the information necessary to prepare the returns. * * * [Citations omitted.]See also Foster v. Commissioner,391 F.2d 727">391 F.2d 727 (4th Cir. 1968), affg. a Memorandum Opinion of this Court. Many of the omissions and mischaracterizations on petitioner's tax returns were too substantial to be "overlooked" by petitioner.Although an understatement of income standing alone is not sufficient to prove fraud,a pattern of consistent and substantial understatements of income is strong evidence of fraud. Marcus v. Commissioner,70 T.C. 562">70 T.C. 562, 577 (1978), affd. without published opinion 621 F.2d 439">621 F.2d 439 (5th Cir. 1980). Based on our determinations, petitioner consistently understated income by substantial amounts in each year in issue. Regardless of our determinations, however, petitioner admitted to the following understatements of income: 1973$ 100,000 Income for services19745,249 Interest income197546,500 Interest income197858,695 Gains on sale/exchange198111,165 Various items533 Petitioner's understatements of income are strong proof of fraud.The carryforward of amounts based on fraud from one year to another supports the addition to tax for fraud in each affected year. 13 Petitioner claimed a deduction for a NOL carryforward in each year in issue. Respondent reduced the amount of the carryforward in 1976 by almost $ 650,000, and petitioner no longer disputes respondent's adjustments. Built into petitioner's NOL were (1) consistent understatements of income in 1973, 1974, and 1975, (2) bad debt deductions for accounts that, according to petitioner's books and records, were not worthless when claimed, (3) a loss deduction on the sale of certain real property derived from the use of a "FMV limitation" where the amount of the FMV claimed by the petitioner, and not supported by independent appraisal, was substantially less than the amount he otherwise believed to be correct, and (4) the reduction of petitioner's 1975 Schedule C gross receipts by an amount that should have been reported as an expense by a separate entity. In 1977, petitioner reported a long-term534 capital loss deduction in which he again used a FMV amount, not supported by independent appraisal, that was substantially less than the amount he otherwise believed to be correct. The capital loss was also carried forward through 1981. We are convinced that the items described above were fraudulently claimed by the petitioner and that deductions claimed by petitioner in subsequent years based on the carryforward of such items constitute fraud in each carryforward year. Based on all of the above, we conclude that petitioner exhibited conduct constituting the willful attempt to evade taxes in each year in issue. Accordingly, we sustain the imposition of the 50-percent addition to tax for fraud against petitioner in each of those years. Decision will be entered under Rule 155.APPENDIXRespondent'sPetitioner'sIssueOpening Brief IssueAnswering Brief Issue1 101 2 112 3 208 4 29145 42206 31167 40218 41229 197 10261211271312176 13321714143 15154 16165 17241018301519251120361921351822219 23442324----535 May 20, 1988 ORDERThis case was tried in St. Paul, Minnesota, on June 20, 23, and 24, 1986; the Court's opinion was filed August 24, 1987, as T.C. Memo 1987-412">T.C. Memo. 1987-412. Petitioners' Motion for Reconsideration was filed September 24, 1987, and granted in part by order dated November 3, 1987. Petitioners' Motion to Correct Mathematical Error, directed at the order of November 3, 1987, was filed November 10, 1987. Respondent's Response to Petitioners' Motion to Correct Mathematical Error was filed November 16, 1987. In a conference call on November 23, 1987, the Court suggested that the parties attempt to negotiate their differences over petitioners' pending motion but acknowledged that the order of November 3, 1987, was partially in error. On January 11, 1988, respondent filed a Status Report, reporting with respect to the negotiations of the parties over petitioners' Motion to Correct Mathematical Error. As of that time, the record showed only a single dispute remaining with respect to the computations for decision, namely petitioners' correct adjusted basis in the property known as Brittany as of October 1980. The parties were unable to reach agreement, and536 respondent's Computations for Entry of Decision were filed March 16, 1988, along with Respondent's Second Response to Petitioners' Motion to Correct Mathematical Error. On March 28, 1988, petitioners' Computation for Entry of Decision, petitioners' Objection to respondent's computation for entry of decision and proposed decision, petitioners' Memorandum of Law in Support of Objection, Memorandum of Law in Support of Motion for Leave to File a Motion to Amend the Motion to Correct Mathematical Error and in Support of Motion to Amend Petitioners' Motion to Correct Mathematical Error, Memorandum in Support of Petitioners' Motion for Leave to File and Petitioners' Motion to Amend Petition to Elect Income Averaging, Motion for Leave to File a Motion to Amend the Motion to Correct Mathematical Error, Motion for Leave to File a Motion to Amend the Petition were filed and their Motion to Amend Petition, Motion to Amend Petitioners' Motion to Correct Mathematical Error, and a proposed Amendment to Petition were lodged. By the foregoing documents, petitioners raised, for the first time and 21 months after trial, a claim that they were entitled to compute their tax for certain of the years537 in issue by income averaging. They also changed their position with respect to the recomputation of adjusted basis in Brittany property. The dispute over computations was set for hearing in Chicago, Illinois, on April 13, 1988. At that time Respondent's Objection to Petitioners' Motion for Leave to File a Motion to Amend the Petition, Objection to Motion for Leave to File a Motion to Amend the Motion to Correct Mathematical Error, and Memorandum in Support of Respondent's Objection to Petitioner's Motion for Leave to File and Petitioners' Motion to Amend Petition to Elect Income Averaging were filed. Petitioners' Motion for Leave to File a Motion to Amend the Petition and the Motion for Leave to File a Motion to Amend the Motion to Correct Mathematical Error were granted. Petitioners' Motion to Amend Petitioners' Motion to Correct Mathematical Error was also granted, with the understanding that, as a minimum, the errors in the Court's order of November 3, 1987, would be corrected. Petitioners' Motion to Amend the Petition was taken under advisement. Upon due consideration of the entire record in this case, and for reasons more fully appearing in respondent's Objection to Petitioners' 538 Motion for Leave to File a Motion to Amend the Petition and Memorandum in Support of Respondent's Objection to Petitioners' Motion for Leave to File and Petitioners' Motion to Amend Petition to Elect Income Averaging, and in the transcript of proceedings of April 13, 1988, it is hereby ORDERED: That the portion of the Court's order of November 3, 1987, set forth in the second ordered paragraph at the bottom of page 1 and the top of page 2 of said order, consisting of subparagraph "(1)" is vacated and set aside. It is further ORDERED: That the Court's Memorandum Findings of Fact and Opinion (T.C. Memo. 1987-412) filed August 24, 1987, is amended by striking therefrom the two full paragraphs beginning at page 58 with the words "Petitioner argues" and "The parties to" and the first full paragraph on page 59 beginning with the words "An adjustment." It is further ORDERED: That petitioners' basis in Brittany as of October 1980 shall be determined as set forth in Schedule No. 3 of respondent's Computations filed March 16, 1988, because the Court determines that respondent's said computations correctly reflect the evidence in the record in this case. It is further ORDERED: That539 petitioners' Motion to Amend Petition filed April 13, 1988, is denied, because the Court determines that the belated claim for income averaging is untimely and prejudicial to respondent and cannot be decided on the present record. See Lewis v. Commissioner, 90 T.C. (filed May 19, 1988). It is further ORDERED: That decision shall be entered in accordance with respondent's computation filed March 16, 1988. Mary Ann CohenFootnotes1. Unless otherwise indicated, all references to sections are to the Internal Revenue Code of 1954, as amended and in effect during the years in issue. All references to rules are to the Tax Court Rules of Practice and Procedure.↩. 50 percent of the interest due on $ 442,840. ↩. 50 percent of the interest due on $ 442,840.↩2. The Court ordered seriatim briefs in this case, with respondent going first. The Court expressly stated: "Some of the items seem clear but the amounts are trivial, so it will take very careful analysis of the record by both parties before I know what result I'm reaching in this case." Respondent dedicated 125 pages to 644 proposed findings and, on 2 pages, asserted only 23 proposed findings. All of petitioners' proposed findings were conclusory statements of the issues he addressed, one conclusion per issue. None of the petitioners' proposed findings, and only a few of his objections to respondent's proposed findings, contained citations to evidence in the record. See Rule 151(e)(3). Each of petitioners' arguments, except with respect to fraud, consisted generally of one-half to two pages of conclusory statements, occasional citations to the record, and rare citations to or analysis of applicable legal authority for petitioners' position. Petitioners' brief was totally unhelpful. See Stringer v. Commissioner,84 T.C. 693">84 T.C. 693, 705 (1985), affd. without published opinion 789 F.2d 917">789 F.2d 917↩ (4th Cir. 1986). . In June 1974, petitioner acquired the assets of CR-4 and the interests of the other partners by assuming all of the partnership liabilities. In December 1974, petitioner acquired the assets of Cedar Courts, Ltd. Partnership and CR-5 and the interests of the other partners by assuming all of the partnerships' liabilities. In 1974 or 1975, petitioner acquired control of the assets of CR-12.↩3. The record is confusing in that certain documents identify petitioner's property management business as Jansco or Interfund or Interfund/Jansco; moreover, the terms are easily confused with petitioner's corporations bearing the same name, i.e., Interfund, Inc., and Jansco, Inc.↩4. Specifically, on August 18, 1976, Mutual Benefit filed two complaints with the District Court of the State of Minnesota: one sought judgment against Franklin Park Partnership, petitioner, and other related parties for $ 800,000, the difference between the amount of the mortgage and the asserted value of the property; the other sought judgment against petitioner for his personal guarantee of the Eberhardt note, such guarantee having been assigned to Mutual Benefit. On September 22, 1978, mutual releases and Stipulations of Dismissal with Prejudice were executed by the parties in both actions. ↩5. The total of the percentages is actually 100.09%. ↩6. The sum of these amounts is actually $ 27,369.96. ↩7. The FMV limitation was based on the following language in footnote 37 of Crane v. Commissioner,331 U.S. 1">331 U.S. 1 n. 37 (1947): Obviously, if the value of the property is less than the amount of the mortgage, a mortgagor who is not personally liable cannot realize a benefit equal to the mortgage. * * * ↩8. Respondent is thus seeking to deny petitioner a stepped-up basis for when the property was subsequently sold to Charter Jet in 1980. ↩9. Not unlike certain other matters in dispute, including the Brittany transactions, each party identifies the issue and frames his respective argument in a manner indicating, without specifically stating, that certain forms of the transactions under consideration are being ignored. Regarding this issue, respondent and petitioner state that petitioner↩ transferred 1313 Como to Interfund, Inc. In his tax returns, petitioner apparently treated the property as his, by reporting items of income and expense relating to the property on Schedules E. The documents in evidence, however, do not identify petitioner as the transferor of 1313 Como to Interfund, Inc., but rather Campus Realty, Inc. Also, during the same period petitioner was reporting the property's activity in his return, mortgages on the property were executed by Campus Realty, Inc. Other than petitioner's testimony that he did not consider Campus Realty, Inc., to be a separate taxable entity, neither party has argued or identified evidence that an agency relationship existed between Campus Reality, Inc., and petitioner. The issue as to who actually owned the property before it was transferred to Interfund, Inc., is not raised by the parties, and we will therefore limit our analysis to the matter in dispute, i.e., whether the transfer was a sale or a contribution to capital. 10. We have substituted the amount of the carryover basis as determined in the previous discussion. Respondent did not account for the 1980 contribution to capital of $ 18,503.↩11. Sunnyside, Inc., apparently paid Chesapeake, Inc., on a note held by Interfund/Jansco. ↩12. Petitioner would interpose a requirement of "substantial evidence of egregious misconduct before imposing the civil fraud penalty." The cases cited by petitioner do not establish such a requirement. See, e.g., Shaw v. Commissioner,27 T.C. 561">27 T.C. 561 (1956), affd. 252 F.2d 681">252 F.2d 681 (6th Cir. 1958); Ferguson v. Commissioner,14 T.C. 846">14 T.C. 846, 849↩ (1950). 13. See Technical Industrial Consultants, Inc. v. Commissioner,T.C. Memo 1966-150">T.C. Memo. 1966-150. Compare Adcock v. Commissioner,T.C. Memo. 1982-206↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619819/	WALTER J. BREAKELL, III and DOROTHY BREAKELL, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentBreakell v. CommissionerDocket No. 12292-90United States Tax Court97 T.C. 282; 1991 U.S. Tax Ct. LEXIS 77; 97 T.C. No. 18; September 5, 1991, Filed 77 Decision will be entered under Rule 155. Ps had a negative adjusted gross income and paid no regular income tax. Included in the computation of adjusted gross income were preference item deductions, represented by a dividend exclusion and the capital gain deduction under sec. 1202, I.R.C. Ps computed their alternative minimum tax by utilizing the negative adjusted gross income and also by reducing the amount of their preference items by the amount of those items from which they derived no tax benefit in respect of their regular income tax. Held, the tax benefit adjustment under sec. 55(h), I.R.C., does not permit Ps to obtain a reduction of their preference items to the extent that the amount thereof has been taken into account in their negative adjusted gross income. John H. Lavelle, for the petitioner. Elizabeth P. Flores, for the respondent. TANNENWALD, Judge. TANNENWALD283 OPINION Respondent determined a deficiency of $ 34,346 in petitioners' 1986 Federal income tax together with an addition to tax of $ 83 under section 6653(a)(1)(A)1 and 50 percent of the interest payable under section 6653(a)(1)(B). After concessions by the parties, the sole issue for78 decision is the extent to which petitioners understated their tax preference items and therefore their alternative minimum tax. All of the facts have been stipulated and are found accordingly. At the time they filed their petition, petitioners resided in Bradenton, Florida. They filed a timely joint Federal income tax return for the taxable year 1986. On that return, they reported items of income and deductions as follows: IncomeInterest$ 26,817 Dividends ($ 131 less $ 112 exclusion)19 Capital gain ($ 712,557 less sec. 1202 deduction of $ 427,534)285,023 Net rental income38,753 Net operating loss carryover(509,507)Adjusted gross income$ (158,895)Deductions(2,367)Exemptions(2,160)Adjusted gross income plusexemptions and deductions$ (163,422)284 On that return, petitioners computed79 their alternative minimum tax as follows: Adjusted gross income($ 158,895 less $ 15,683alternative minimum taxnet operating loss adjustment)$ (143,212)Plus tax preference itemsDividend exclusion112 Sec. 1202 deduction ($ 427,534 less $ 163,422)264,112 Alternative minimum taxableincome$ 121,012 Minus married filingjoint return exemption(40,000)$ 81,012 Alternative minimum tax(at 20 percent)$ 16,202 Respondent has recomputed petitioners' alternative minimum tax as follows: Adjusted gross income line 32 of Form 1040$ (158,895)AMT NOL adjustment15,683 $ (143,212)Plus tax preference items Dividend exclusion112 Sec. 1202 deduction427,534 Alternative minimum taxable income$ 284,434 Minus the married filing joint return exemption(40,000)$ 244,434 Alternative minimum tax (20 percent of $ 244,434)$ 48,887 It is obvious from the foregoing that the only difference between the parties is the proper figure to be used in respect of the section 1202 deduction for purposes of the alternative minimum tax. Petitioners claim that it should be the gross amount of that deduction, namely, $ 427,53480 less the amount from which no tax benefit was derived as shown on their 1986 return, namely $ 163,422. Petitioners assert that, unless their figure is accepted, they will lose part of both their section 1202 deduction and their net operating loss deduction of $ 509,507, which was not eligible to be carried over to a subsequent taxable year. Respondent does not dispute petitioners had $ 163,422 loss of tax benefits in respect of their section 1202 deduction for purposes of their regular income tax but claims that petitioners' position results in a double tax benefit in that the section 1202 deduction has been taken into account in producing the $ 163,422 figure shown on the return and that to the extent that this is so, petitioners should be subjected to the alternative minimum tax. Respondent 285 insists that petitioners' computation of alternative minimum taxable income counts the section 1202 deduction twice. With a minor adjustment, we agree with respondent. The alternative minimum tax provisions are set forth in sections 55 through 58 and the particular provision involved herein is section 58(h) which, as applicable to the taxable year 1986, 2 reads as follows: (h) Regulations81 to Include Tax Benefit Rule. -- The Secretary shall prescribe regulations under which items of tax preference shall be properly adjusted where the tax treatment giving rise to such items will not result in the reduction of the taxpayer's tax under this subtitle for any taxable years.We see no need to delve into the history of section 58(h) and the thrust which has been accorded it in the decided cases. That task has been thoroughly performed in First Chicago Corp. v. Commissioner, 88 T.C. 663">88 T.C. 663 (1987), affd. 842 F.2d 180">842 F.2d 180 (7th Cir. 1988), which established two principles which govern our decision herein. First, we reaffirmed the position, which we had previously taken in Occidental Petroleum Corp. v. Commissioner, 819">82 T.C. 819 (1984), that the82 fact that the Secretary of the Treasury had not issued regulations (a situation which continues to exist) 3 did not relieve us from doing "the best we can with section 58(h)." Respondent does not dispute this principle herein. First Chicago Corp. v. Commissioner, 88 T.C. at 669. Second, we reaffirmed the position we took in Occidental Petroleum Corp. v. Commissioner, supra, that section 58(h) was to be implemented by first determining the reduction in regular taxes for the taxable year through the use of nonpreference items and then applying the preference items to determine the extent to which the use of such latter items resulted in a tax benefit and therefore should be subject to the alternative minimum tax. See also Weiser v. United States, 746 F. Supp. 958">746 F. Supp. 958 (N.D. Cal. 1990), on appeal (9th Cir., Sept. 26, 1990); Rev. Rul. 80-226, 2 C.B. 26">1980-2 C.B. 26, for a statement of respondent's position. The fact that First Chicago and 286 Occidental Petroleum involved credits instead of deductions is, in our opinion, immaterial. 83 The application of the foregoing principles in respect of the order in which deductions are utilized in computing the alternative minimum tax herein can be illustrated as follows: Interest and dividends$ 26,948Rents and royalties38,753Capital gains712,557Total gross income$ 778,258Net operating loss carryover509,507Balance$ 268,751Itemized deductions4,527Balance$ 264,224Preference deductions Dividend exclusion$ 112 Sec. 1202 deduction427,534427,646Unutilized preference deductions$ 163,422On the basis of the foregoing, it is apparent that petitioners were unable to utilize $ 163,534 out of their preference item deductions in computing their 1986 taxable income for purposes of their regular income tax. But that consequence does not end the matter. While the $ 163,422 did not result in any tax benefit in determining petitioners' regular income tax, it nevertheless contributed $ 158,895 to produce the negative adjusted income which constitutes the starting point for computing the alternative minimum tax. Thus, to that extent, petitioners have already received the equivalent of a reduction in the $ 427,64684 preference items. Petitioners' position fails to take into account that the base of the alternative minimum income tax in section 55 was changed from gross income to adjusted gross income by section 201(a) of the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA), Pub. L. 97-248, 96 Stat. 411, establishing the use of negative adjusted gross income as the base figure, which had built into it offsets representing preference item deductions, e.g., the $ 100 dividend exclusion and the section 1202 deduction involved herein. To accept petitioners' position would clearly produce an unwarranted double deduction to the extent of $ 158,895. We find support for our analysis and conclusion in Weiser v. United States, supra.With respect to the remaining $ 4,527 of the $ 163,422 287 loss of tax benefit in respect of petitioners' regular income tax, it is apparent that, unless the $ 427,646 in preference items is reduced by that amount, petitioners will be subject to the alternative minimum tax on an amount that in no way produced a tax benefit. Thus, we hold that the $ 427,646 of preference items should be reduced by $ 4,527 in calculating petitioners' alternative85 minimum tax. In view of the concessions of the parties on other issues, Decision will be entered under Rule 155. Footnotes1. All statutory references are to the Internal Revenue Code as amended and in effect for the year in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩2. Sec. 58(h)↩ was repealed by the Tax Reform Act of 1986, Pub. L. 99-514, sec. 701(a), 100 Stat. 2320, but continued with a change in language, namely, "shall" to "may" effective for years after 1986. See sec. 59(g).3. Temporary Regulations dealing with the application of the tax benefit rule under sec. 58(h) to credits but not deductions have been adopted. Sec. 1.58-9T, Temporary Income Tax Regs., 54 FR 19364↩ (May 5, 1989).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619820/	A. D. Amerise, Petitioner, v. Commissioner of Internal Revenue, RespondentAmerise v. CommissionerDocket No. 111766United States Tax Court1 T.C. 1108; 1943 U.S. Tax Ct. LEXIS 166; May 12, 1943, Promulgated 166 Decision will be entered for the respondent. Petitioner leased his home and temporarily rented another. Held, rent paid by the petitioner is nondeductible family living expense, under section 24 (a) (1) of the Internal Revenue Code, and may not be deducted as expense of production of income, under section 121 (a) (2) of the Revenue Act of 1942. W. W. Arner, C. P. A., for the petitioner.Charles P. Bagley, Esq., for the respondent. Disney, Judge. DISNEY1108 OPINION.This case involves income taxes of $ 62.81 and $ 357.52 for the calendar years 1939 and 1940, respectively. The facts were stipulated, and we therefore find as follows:1. Petitioner is a resident of Coral Gables, Florida. His profession is that of physician.2. In 1937 petitioner purchased a lot at 3745 Alhambra Court, Coral Gables, Florida, and erected a residence thereon. At or about this time the residence was appropriately furnished by petitioner. The cost of the lot, residence and furnishings was in excess of $ 25,000.00.3. Petitioner and his family have resided in and used this residence exclusively for personal living quarters continuously since 1937 up to and including the years167 1939 and 1940, except as hereinafter stated.4. In 1939 petitioner rented said residence (furnished) for the period from January 24, 1939 to May 1, 1939, for the sum of $ 1,500.00, which was received in said year. During said rental period petitioner rented other living quarters for himself and family for the sum of $ 550.00, which was paid in said year.5. In 1940 petitioner rented said residence (furnished) for the period from January 10, 1940 to April 10, 1940 for the sum of $ 1,800.00, $ 900.00 of which was received in 1939 and $ 900.00 of which was received in 1940. During said rental period petitioner rented other living quarters for himself and family for the sum of $ 1,000.00, which was paid in 1940.6. In 1940 petitioner received the sum of $ 1,450.00 as partial rental for said residence for a similar "winter season" of several months in 1941.7. Petitioner included as taxable income in his income tax returns for 1939 and 1940 the rentals received in those years in the respective amounts of $ 2,400.00 and $ 2,350.00. Petitioner deducted in these returns the rentals paid for other living quarters for himself and family in the respective amounts of $ 550.00 and $ 1,000.00. 168 8. At all times during the years 1939 and 1940, the tax years here involved, petitioner was engaged in the active practice of his profession as a physician and owned no other real estate of any character.The only question presented is whether the petitioner may deduct the amounts he paid out for rent for a temporary home [ILLEGIBLE WORD] periods when he leased his own home. The petitioner cites and relies upon 1109 O. D. 1134, C. B. 5, page 122, 1 and section 23 (a) (2) of the Internal Revenue Code, 2170 added by section 121 (a) (2) of the Revenue Act of 1942. Reliance is also placed upon Deputy v. DuPont, 308 U.S. 488">308 U.S. 488, to the effect that a deductible ordinary and necessary expense need not be of frequent occurrence to the taxpayer, and Cecil v. Commissioner, 100 Fed. (2d) 896, involving the definition of business in connection with use of a home for exhibition purposes. The respondent's position is that section 24 (a) (1) of the Internal Revenue Code3 prevents allowance of deduction "in any case" for living or family expenses, that the amounts paid by the petitioner for rent are such living and family169 expense, and that section 24 (a) (1) is not affected by section 23 (a) (2) of the Internal Revenue Code. He points out that regulations have been issued to that effect (T. D. 5196, December 8, 1942).We think it clear that the respondent's view should be sustained. We find no parallel between renting and then subletting an apartment, as discussed by O. D. 1134, supra, and the instant situation. The rent paid for an apartment or other property is in its nature essentially the expense thereof to be deducted from amounts received for subletting it. Here the petitioner leased his home, receiving money therefor, and incurred family living expenses elsewhere when he temporarily rented a home. Although section 121 (a) of the Revenue Act of 1942 was specially designed to broaden the base of nontrade or nonbusiness expenses, including the "ordinary and necessary expenses paid or incurred * * for the production of income," no amendment of section 24 (a) (1) is suggested, and in our opinion none was intended. Family living expenses remain personal171 and nondeductible. The error in petitioner's view is in connecting rent paid for 1110 the use of the family with the income received from the home owned and customarily occupied by the family. Such rent paid out obviously does not contribute to the maintenance of the regular home, then being leased; it contributes to the comfort of the petitioner and his family. It is in a wholly different category from such items as ordinary repairs, or water bills paid, upon the leased premises, as to the deductibility of which we think there would be no question. It is apparent, in our opinion, that section 121 (a) (2) of the Revenue Act of 1942 was intended simply to allow theretofore questioned expenses where trade or business is not involved, but where, nevertheless, among other situations, income is produced, but not to allow deduction of expenses not producing such income. Herein, income was produced, by leasing the home. It was not produced by the act of the petitioner and family paying rent elsewhere, but only by the direct expense of maintaining the leased property. We find no error on the part of the Commissioner in denying the deductions claimed.Decision will be entered172 for the respondent. Footnotes1. The taxpayer lived in an apartment where it was the custom of the residents to sublease their apartments or houses for the summer months. In his 1920 return the taxpayer included in his gross income the amount received as rent for the apartment which he sublet and deducted as a business expense the amount which he had to pay as rent for the apartment, claiming that he had sublet his apartment as a purely business proposition and that the transaction was entered into for profit. He occupied no part of the apartment after it was sublet.Held, that the rent which the taxpayer was required to pay for the apartment during the time that it was sublet at a profit is deductible in computing net income.↩2. SEC. 23. DEDUCTIONS FROM GROSS INCOME.In computing net income there shall be allowed as deductions:(a) Expenses. -- * * *(2) Non-trade and non-business expenses. -- In the case of an individual, all the ordinary and necessary expenses paid or incurred during the taxable year for the production or collection of income, or for the management, conservation, or maintenance of property held for the production of income.↩3. SEC. 24. ITEMS NOT DEDUCTIBLE.(a) General Rule. -- In computing net income no deduction shall in any case be allowed in respect of --(1) Personal, living, or family expenses, except extraordinary medical expenses deductible under section 23 (x)↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619822/	CARROLL E. DONNER AND THE MARINE TRUST COMPANY OF BUFFALO, GUARDIANS OF THE PROPERTY OF JOSEPH W. DONNER, JR., PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. CARROLL E. DONNER AND THE MARINE TRUST COMPANY OF BUFFALO, EXECUTORS OF THE ESTATE OF JOSEPH W. DONNER, PETITIONERS, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. CARROLL E. DONNER, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Donner & Marine Trust Co. v. CommissionerDocket Nos. 60235-60237.United States Board of Tax Appeals32 B.T.A. 364; 1935 BTA LEXIS 953; April 16, 1935, Promulgated 953 1. The value of securities at the time contributed to a partnership and not the cost to the contributor is the proper basis for determining gain or loss upon the future sale of such securities by the partnership. Edward B. Archbald,27 B.T.A. 837">27 B.T.A. 837, followed. 2. Partnership income attributable to the limited interest of Joseph W. Donner, which he assigned to a trust company, as trustee, to collect the profits and income therefrom and pay the same to his wife during her lifetime, is taxable to the assignor. burnet v. Leininger,285 U.S. 136">285 U.S. 136, followed. Ralph M. Andrews, Esq., for the petitioners. W. Frank Gibbs, Esq., and Frank M. Thompson, Jr., Esq., for the respondent. MORRIS 365 These duly consolidated proceedings are for the redetermination of the following deficiencies in income tax. Name DocketYear or periodAmount No.Carroll E. Donner and the Marine Trust Co.of Buffalo, Guardians602351929$676.23Carroll E. Donner and the Marine Trust Co. of Buffalo, Executors60236Jan. 1 to Nov. 9, 192922,256.20Carroll E. Donner6023719294,235.81954 The issue common to all three proceedings pertains to the respondent's erroneous inclusion of the following amounts in the taxable incomes of the several petitioners: Docket No.Year or periodAmount602351929$18,872.5060236Jan. 1 to Nov. 9, 1929107,746.6960237192956,152.50 being the difference between the costs of certain securities contributed to Rennod Co., a limited partnership, and the market values of said securities at the time of such contributions. Another issue, found only in Docket No. 60236, pertains to the respondent's allegedly erroneous inclusion of $3,614.13 in taxable income, representing the decedent's distributive share of the net income of the Rennod Co. for the taxable year 1929. The respondent moved at the hearing for an increased deficiency and reiterated his claim thereto in amended answers filed by him. The respondent expressly abandons the averment in Docket No. 60236 that the petitioner had the power to revest in himself title to the entire corpus of the trust set up for the benefit of Joseph W. Donner, Jr., and concedes that the income of that trust was not taxable to the decedent. He also abandons his averment955 that there was no bona fide partnership. He adheres to his position that the partnership income attributable to the interest of Joseph W. Donner, which Donner relinquished by his assignment of such interest in trust for his wife, is taxable to his estate. FINDINGS OF FACT. Joseph W. Donner, the decedent in Docket No. 60236, prior to his death, was a resident of the city of Buffalo, New York. He died on November 9, 1929, leaving a will appointing his wife, Carroll E. Donner, and the Marine Trust Co. of Buffalo, a trust company organized under the laws of the State of New York, with its offices 366 and places of business in the city of Buffalo, New York, his executors. Letters testamentary were issued by the Surrogate of Erie County, New York, to said executors on November 25, 1929, and at all times thereafter they have been and now are the duly qualified and acting executors of the estate of Joseph W. Donner, and are the petitioners in said proceeding. Joseph W. Donner left surviving him a son, Joseph W. Donner, Jr., who was and now is a minor. On May 15, 1931, letters of guardianship of the property and estate of Joseph W. Donner, Jr., were issued by the Surrogate956 of Erie County, New York, to Carroll E. Donner, his mother, and the Marine Trust Co, of Buffalo, above referred to. Said guardians at all times thereafter have been and now are the duly qualified and acting guardians of the property and estate of Joseph W. Donner, Jr., and are the petitioners in Docket No. 60235. Carroll E. Donner, individually, is the petitioner in Docket No. 60237. On January 31, 1929, and for some time prior thereto (but subsequent to January 1, 1927) Joseph W. Donner was and had been the owner of numerous securities including certain shares of Columbia Graphophone Co., Ltd. On said date by an instrument in writing Joseph W. Donner assigned, transferred, and delivered absolutely to his wife, Carroll E. Donner, without consideration and by way of gift, 1,200 of his shares in that company. Joseph W. Donner's cost in the 1,200 shares was $33,847.50, and their value on January 31, 1929, was $90,000. On February 11, 1929, by declaration of trust, dated February 1, 1929, the decedent, Joseph W. Donner, constituted himself trustee of 500 shares of stock of said company for the benefit of his minor son, Joseph. Joseph W. Donner's cost in the 500 shares was957 $18,627.50. On February 11, 1929, the date of the creation of the trust for Joseph W. Donner, Jr., said shares had an aggregate value of $37,500. Said declaration of trust provided, among other things, in paragraph 3 thereof, as follows: All dividends, income, increment and rights in respect of said property shall be received and paid over to or used by me for the benefit of said infant during minority, and all proceeds of any sale, exchange or other disposition of such property above named shall be held by me for the benefit of said infant, provided, however, that I shall have the right to reinvest any of such income, increment or proceeds during the minority of said infant, and after such infant arrives at the age of twenty-one years any of the proceeds thereof, and any increment or appreciation thereof, or the proceeds thereof during the existence of this trust, for the benefit and use of said infant in any property whatsoever, including the right to invest the same in any partnership becoming a member thereof as such trustee, and I shall not be accountable for any loss sustained in the exercise of my unrestricted discretion in respect of such reinvestment. 367 958 It also provided in article 7 that the trust should be revocable by the donor subject to the following conditions: (a) That at least two years' written notice of his intention to revoke is given by the donor. (b) That the donor be living on the date of the expiration of said two years. (c) That the donor at the date of such expiration shall deliver to the trustee an instrument in writing revoking the trust pursuant to the notice. No notice of revocation under article 7 of said trust indenture was given. On February 11, 1929, Joseph W. Donner, Carroll E. Donner, and Joseph W. Donner, as trustee for Joseph W. Donner, Jr., under declaration of trust dated February 1, 1929, above referred to, entered into a written agreement, by the terms of which it was agreed that the parties thereto should enter into a limited partnership, pursuant to the Limited Partnership Act of the State of New York, under the name of "Rennod Company", for the purpose of dealing in stocks, bonds, and other securities. The general partners and the value of securities each agreed to contribute were as follows: Joseph W. Donner$60,011.80Carroll E. Donner20,000.00The limited partners959 and the value of securities each agreed to contribute were as follows: Carroll E. Donner$70,000Joseph W. Donner120,000Joseph W. Donner, as trustee for Joseph W. Donner, Jr37,500The limited partners were to receive annually from the partnership income amounts equal to the following percentages of their capital contributions: Carroll E. Donner7 percentJoseph W. Donner, as trustee for Joseph W. Donner, Jr7 percentJoseph W. Donner10 percentThe general partners were to receive the balavce of the profits of the partnership and to absorb its losses in proportion to the amount of their respective contributions. Carroll E. Donner and Joseph W. Donner, as trustee for Joseph W. Donner, Jr., were to have priority as limited partners over Joseph W. Donner as a limited partner, both in the matter of sharing in the partnership profits and in the return of their contributions on liquidation. In the same manner Joseph W. Donner, as a limited partner, was to have priority over the general partners. On February 11, 1929, a "Certificate of Formation of Limited Partnership of 'Rennod Company'" was filed pursuant to the Limited960 Partnership Act of the State of New York, in the office of the Clerk of Erie County, New York. On February 11, 1929, Joseph W. Donner, by an instrument in writing, duly assigned, transferred, and delivered to Rennod Co., 368 as his limited partnership contribution to the capital of Rennod Co., 1,600 shares of the common capital stock of Columbia Graphophone Co., Ltd., which he acquired during the calendar year 1928 at an aggregate cost of $64,742.50, and which had a fair market value on February 11, 1929, of $120,000. On February 11, 1929, Joseph W. Donner, by an instrument in writing, duly assigned, transferred, and delivered to Rennod Co., as his general partnership contribution to the capital of Rennod Co., certain other securities having a then aggregate fair market value of $275,980. Said securities were subject to indebtedness to brokers in an amount of $215,968.20, which Rennod Co., in consideration of the transfer of the securities to it, assumed and agreed to pay. The net value of Joseph W. Donner's general partnership contribution was $60,011.80. All of the securities transferred to Rennod Co. as his general partnership contribution were purchased by Joseph961 W. Donner on or after January 1, 1927, at an aggregate cost of $222,800.32. On February 11, 1929, Carroll E. Donner, by an instrument in writing, duly assigned, transferred, and delivered to Rennod Co., as her limited and general partnership contributions to the capital of Rennod Co., 1,200 shares of the common capital stock of Columbia Graphophone Co., Ltd., which shares she had previously acquired by gift from her husband, as hereinbefore stated, and which he had acquired by purchase subsequent to January 1, 1927, at an aggregate cost of $33,847.50. Said shares had an aggregate fair market value on February 11, 1929, of $90,000 and were entirely free from indebtedness. It was agreed by the terms of the partnership agreement that of the $90,000, $70,000 represented Carroll E. Donner's limited partnership contribution, and $20,000 represented her general partnership contribution. On February 11, 1929, Joseph W. Donner, as trustee for Joseph W. Donner, Jr., under the declaration of trust dated February 11, 1929, by an instrument in writing, duly assigned, transferred, and delivered to Rennod Co., as his limited partnership contribution to the capital of Rennod Co., 500 shares962 of the common capital stock of Columbia Graphophone Co., Ltd., which Joseph W. Donner had theretofore but subsequent to January 1, 1927, purchased at a cost of $18,627.50. Said shares had an aggregate fair market value on February 11, 1929, of $37,500. Subsequent to the organization of the partnership and on March 14, 1929, Joseph W. Donner purchased 75 shares of the capital stock of Marine Union Investors, Inc., at a cost of $2,400. On the same date, by an instrument in writing, he duly transferred, assigned, and delivered to Rennod Co. the 75 shares of Marine Union Investors, Inc., as an additional general partnership contribution to the capital of Rennod Co. 369 On March 22, 1929, by an indenture of trust, dated and effective as of February 1, 1929, Joseph W. Donner granted, assigned, and transferred to the Marine Trust Co. of Buffalo, as trustee: The interest of the Donor as a limited partner in the partnership of "Rennod Company", of Buffalo, New York, said interest consisting of the capital contribution and a share of the profits to the extent of Ten Percent (10%) per annum on the capital contribution made by the Donor as such limited partner, which the donor963 as such limited partner would otherwise be entitled to receive under the provisions of the said partnership agreement; but without in any way subjecting the Trustee to liability for the obligations or for the losses of said partnership; it being understood and agreed, that by virtue of said assignment the Trustee shall not become a member of said partnership. The trustee was to receive and collect the profits and entire net income therefrom and pay over the same to Carroll E. Donner during her lifetime. No notice of revocation under article 7 of said trust indenture was given. The partnership, for the period from the date of its organization to the death of Joseph W. Donner on November 9, 1929, had gross income and expenditures properly deductible for income tax purposes as follows: If profits and If profits and losses from sale oflosses from sale ofsecurities are com-securities are com-puted on basis ofputed on basis ofcontributingthe values thereofpartner's cost on date of contri-bution to Rennod CoDividends from domestic corporations$10,667.73$10,667.73Interest on bank balances3.393.39Net profit from sale of securities contributed by partners178,798.2022,692.31Net loss from sale of securities purchased or acquired by Rennod Co(Loss (3,616.37)(Loss) (4,391.31)Gross income185,852.9528,972.12Interest, taxes, legal expenses20,445.6220,445.62Net income for period 2/11/29 to 11/9/29165,407.338,526.50964 The partnership, for the period from the death of Joseph W. Donner on November 9, 1929, to the close of business on December 31, 1929, had gross income and expenditures properly deductible for income tax purposes as follows: If profits andIf profits andlosses from sale oflosses from sale ofsecurities are com-securities are com-puted on basis ofputed on basis ofcontributingthe values thereofpartner's coston date of contri-bution to Rennod CoDividends$0.13$0.13Net loss from the sale of securities(Loss) 46,611.29(Loss) 47,875.72Gross income(Loss) 46,611.16(Loss) 47,875.59Interest and taxes171.28171.28Net loss for period 11/9/29 to 12/31/2946,782.4448,046.87370 Subsequent to the death of Joseph W. Donner, and on June 4, 1931, Rennod Co. was liquidated and wound up. On his death on November 9, 1929, Joseph W. Donner left a last will and testament by the terms of which no specific bequest was made of the testator's interest in the partnership, Rennod Co., but which bequeathed "the rest, residue and remainder" of the testator's property, "real, personal and mixed, of whatsoever nature965 and wheresoever situated" to a trustee, to invest the same and collect the income therefrom, and to pay over the net income to his wife in quarterly installments in each year during her life. Upon the death of his wife, the principal of the trust was to be distributed among the testator's children, share and share alike. At all times material herein Joseph W. Donner, individually, Carroll E. Donner and the Marine Trust Co. of Buffalo, as executors of the estate of Joseph W. Donner, Carroll E, Donner, individually, Carroll E. Donner and the Marine Trust Co. of Buffalo, as guardians of the property and estates of Joseph W. Donner, Jr., and the partnership Rennod Co., kept their accounts and filed their returns on a cash receipts and disbursements basis. On March 15, 1930, the partnership filed a return with the collector of internal revenue in Buffalo, New York, on Treasury Department form 1065, covering the period from the date of organization of the partnership on February 11, 1929, to the close of business on December 31, 1929. Said return disclosed a net loss from the sale of securities for the period of $21,885.20, and a total net loss after addition of other income and966 deduction of various expenses of $31,703.72. Profits and losses from the sale of securities acquired from the contributing partners were computed in the return by determining the difference between selling price and the value of said securities on the date they were transferred to Rennod Co. The total net loss of $31,703.72 was shown in the distribution schedule of Rennod Co.'s return to be distributable between the general partners in proportion to their respective general partnership contributions as prescribed by paragraph 8 of the partnership agreement as follows: Joseph W. Donner$20,805.54Executors of estate of Joseph W. Donner2,972.25Carroll E. Donner7,925.93The amounts reported as distributable to Joseph W. Donner and to the executors of his estate, respectively, were the same proportions of the total net loss which would have been distributable to Joseph W. Donner had he lived through the whole of the year 1929, as the number of days between the organization of Rennod Co. and November 9, 1929, bore to the number of days from November 9, 1929, to the end of the year 1929. The loss of $20,805.54 was not included in the 371 return filed967 for Joseph W. Donner for the period January 1 to November 9, 1929. A return showing no taxable income was filed by the executors of the estate of Joseph W. Donner for the period from November 9 to December 31, 1929. No returns were filed on behalf of Joseph W. Donner, Jr., a minor, or Carroll E. Donner for the calendar year 1929. The respondent having determined that there was taxable income to Carroll E. Donner and Joseph W. Donner, Jr., a minor, for said period, caused delinquent returns to be filed for the calendar year 1929 for Carroll E. Donner and Joseph W. Donner, Jr., a minor. In determining the taxable income to Carroll E. Donner and Joseph W. Donner, Jr., for the calendar year 1929, the only income determined by the respondent as having been received by the two petitioners was in connection with Rennod Co. The exhibits attached to and incorporated in the stipulation of facts entered into between the parties are incorporated in our findings, by reference, to the same effect as if included herein. OPINION. MORRIS: The major question for our determination is the proper basis for computing gain or loss upon the securities transferred to the partnership, Rennod Co. 968 , upon the sale of such securities by that company in the taxable year. The respondent contends that the basis should be the cost to the contributing partners and that the fair market value thereof at the date of such contributions should not be used, as the petitioners contend. ; affirmed at ; certiorari denied, , so completely disposes of this issue in favor of the petitioners that further discussion is useless. See also ; certiorari denied, October 8, 1934. The respondent's answer places in issue the question of whether or not the partnership income attributable to the interest of Joseph W. Donner, which he assigned as of February 1, 1929, to the Marine Trust Co. of Buffalo, as trustee, to collect the profits and income therefrom and pay the same to his wife, Carroll E. Donner, during her lifetime is, notwithstanding such assignment, taxable to him or, in his stead, his estate. The respondent contends that, in effect, this was merely an assignment of "future income" and that therefore for tax purposes the income969 must be taxed to the assignor. The petitioner relies mainly upon , and , affd., , both of which held that there was an asignment of a partnership interest, and that thereafter the profits accruing to that interest were taxable to the assignee. These cases were decided, however, prior to 372 the decision of the United States Supreme Court in . In that case the Court said: The statute dealt explicitly with the liability of partners as such. Applying to this case, the statute provided that there should be included in computing the net income of Leininger his distributive share of the net income of the partnership. That distributive share * * was one half. In view of the clear provision of the statute, it can not be said that Leininger was required to pay tax upon only a part of this distributive share because of the assignment to his wife. * * * * * * The Congress could thus tax the distributive share of each partner as such, as in Lucas v. Earl, supra, it taxed the salary970 and fees of the person who earned them. * * In the instant case, the right of the wife was derived from the agreement with her husband and rested upon the distributive share which he had, and continued to have, as a member of the partnership. Sections 181 and 182(a) of the Revenue Act of 1928 are practically identical with section 218(a) of the Revenue Acts of 1918 and 1921, which were involved in the Leininger case. In the instant proceeding the trustee's rights rested upon Donner's distributive share, and were derived from the trust agreement. That agreement specifically provided that the trustee was not to become a member of the partnership. There was no change therefore in the membership of the partnership by virtue of the agreement. Accordingly, under the statute as construed by the Supreme Court in the above opinion, Joseph W. Donner is taxable upon the distributive share of his limited partnership interest whether distributed or not. Several other questions were raised by the pleadings, which it is unnecessary to decide, either due to concessions made by the parties or to our conclusion on the first issue. Reviewed by the Board. Decision will be entered*971 under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619823/	DAN E. BUTTS AND PATRICIA J. BUTTS, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent PATRICIA J. BUTTS, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent Butts v. Comm'rDocket Nos. 20656-11, 1908-13 United States Tax Court2015 Tax Ct. Memo LEXIS 80; April 15, 2015, FiledDecision text below is the first available text from the court; it has not been editorially reviewed by LexisNexis. Publisher's editorial review, including Headnotes, Case Summary, Shepard's analysis or any amendments will be added in accordance with LexisNexis editorial guidelines.80 Docket Nos. 20656-11, 1908-13. Filed April 15, 2015.Ps did not timely file Federal income tax returns for 2007 and 2008. R issued a notice of deficiency to each P for 2008 and to P-H for 2007. Ps jointly petitioned this Court with respect to those three notices of deficiency. After Ps filed their joint petition, R issued a notice of deficiency to P-W for her 2007 tax year, and P-W then filed a separate petition with respect to that notice of deficiency. Thereafter, Ps filed joint Federal income tax returns for 2007 and 2008, claiming on the 2007 return an overpayment attributable to tax withholding by P-W's employer from P-W's 2007 wages. The parties have stipulated an overpayment for 2007 but dispute whether Ps are entitled to a refund of that overpayment.Held: I.R.C. sec. 6512(b)(3)(b) requires the application in the instant case of the two-year lookback period in I.R.C. sec. 6511(b)(2)(B).- 2 -[2]Held,further, we lack jurisdiction under I.R.C. secs. 6511 and 6512 to order a refund of the 2007 overpayment because no portion of it was paid within the applicable lookback period.Dan E. Butts and Patricia J. Butts, pro sese in docket No. 20656-11.Patricia J. Butts, pro se in docket No. 1908-13.Fred E. Green, Jr., for respondent.MEMORANDUM FINDINGS OF FACT81 AND OPINIONWHERRY, Judge: These consolidated cases are before the Court onpetitions for redetermination of deficiencies in income tax as well as additions totax for failure to file timely, failure to pay timely, and failure to pay estimated- 3 -[3] income tax that respondent determined for petitioners' 2007 and 2008 taxyears.1 We tried Mr. Butts' case, and Mrs. Butts' case was submitted under Rule122.2The parties filed a stipulation of settled issues (SOSI), a stipulation of facts(with exhibits), and a supplemental stipulation of facts (with exhibits) in Mr.Butts' case, and a first stipulation of facts in Mrs. Butts' case, the facts of each ofwhich are agreed to by the parties and incorporated herein by this reference. Theparties have stipulated that petitioners have an overpayment of $3,335 for the 2007tax year, as claimed on their recently filed 2007 joint Federal income tax return(2007 overpayment). The parties have further stipulated that the only issueremaining for decision is whether petitioners are entitled to a refund of that1The petition in docket No. 20656-11 (Mr. Butts' case) was properly addressed, U.S. postage prepaid, and timely mailed on August 29, 2011. That petition82 was filed on September 7, 2011, and relates to petitioner Patricia Butts' 2008 tax year and to Dan Butts' 2007 and 2008 tax years. When that petition was filed, respondent had not yet issued a notice of deficiency for Patricia Butts' 2007 tax year. Respondent issued such a notice on October 16, 2012, and in response Mrs. Butts timely mailed a separate petition, which was filed on January 22, 2013, giving the Court jurisdiction over her 2007 tax year in a separate case, docket No. 1908-13 (Mrs. Butts' case).2Unless otherwise indicated, section references are to the Internal Revenue Code of 1986, as amended and in effect for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.- 4 -[4] overpayment, or whether sections 6511 and 6512 preclude the Court fromordering this refund.33After we tried Mr. Butts' case, the parties submitted a joint status report in which they advised the Court that petitioners had filed joint Federal income tax returns for 2007 and 2008, that respondent generally agreed with the information reported on the returns, and that a basis for settlement had been reached. The parties thereafter filed the SOSI. Rather than directly address the83 determined deficiencies and additions to tax, the SOSI stipulates, succinctly, that petitioners are entitled to a refund of a $6,248 overpayment for the 2008 tax year and that petitioners have (but are not necessarily entitled to a refund of) a $3,335 overpayment for the 2007 tax year. By stipulating overpayments for both tax years for petitioners jointly, respondent conceded the determined deficiencies and the failure to pay timely and failure to pay estimated income tax additions. The fate of the failure to file timely addition is less clear.Both petitions contested respondent's determination of sec. 6651(a)(1) additions for failure to timely file 2007 Federal income tax returns. As a general rule, the Commissioner bears the burden of production and "must come forward with sufficient evidence indicating that it is appropriate to impose the relevant penalty." Higbee v. Commissioner, 116 T.C. 438">116 T.C. 438, 446 (2001); seesec. 7491(c). Once the Commissioner has satisfied this burden of production, the burden shifts to the taxpayers to prove an affirmative defense or that they are otherwise not liable for the penalty or the addition to tax. See Higbee v. Commissioner, 116 T.C. at 446-447. The parties stipulated that as of June 13, 2011, petitioners had not filed Federal income tax returns for 2007. The due84 date for those returns was April 15, 2008. Seesec. 6072(a) (requiring calendar year taxpayers to file returns on or before, generally, April 15 of the following tax year). These facts satisfy respondent's burden of production. Seesec. 6651(a)(1) (providing for an addition to tax in the case of failure to file a required return by the prescribed date). Because petitioners presented no evidence and made no argument concerning the failure to file timely addition to tax during the trial in Mr. Butts' case or in connection with the Rule 122 stipulation in Mrs. Butts' case, we would ordinarily conclude that petitioners are liable for the sec. 6651(a)(1) addition to tax.Yet the parties also stipulated that petitioners' entitlement to a refund of the claimed overpayment was "[t]he sole issue to be resolved", and respondent(continued...)- 5 -[5] FINDINGS OF FACTPetitioners did not timely file their Federal income tax returns for thetaxable years 2007 and 2008. On May 31, 2011, respondent issued a notice ofdeficiency to petitioner Patricia Butts (Mrs. Butts) for her 2008 tax year. On June13, 2011, respondent issued notices of deficiency to petitioner Dan Butts (Mr.Butts) for his 2007 and 2008 tax years. On September 7, 2011, petitioners85 timelyfiled a joint petition in this Court seeking redetermination of the deficiencies andadditions to tax determined in these three notices. At that time they lived inNevada.3(...continued)reiterated in a subsequently filed status report that the only issue remaining before the Court was whether either petitioner was entitled to a refund. If petitioners' entitlement to a refund is the sole issue left for the Court to resolve, then the sec. 6651(a)(1) addition to tax must have already been resolved between the parties. The SOSI and the parties' other stipulations leave the nature of that resolution ambiguous: Did petitioners concede the addition to tax, or did respondent? Because respondent drafted the SOSI and petitioners are unrepresented, we will construe this ambiguity against respondent. See Rink v. Commissioner, 100 T.C. 319">100 T.C. 319, 325 (1993) (construing closing agreement in accordance with contract law principles), aff'd, 47 F.3d 168">47 F.3d 168 (6th Cir. 1995); Stamos v. Commissioner, 87 T.C. 1451">87 T.C. 1451, 1455 (1986) (construing stipulation in accordance with contract law principles); Cung v. Commissioner, T.C. Memo 2013-81">T.C. Memo. 2013-81, at 6 (construing stipulation of settled issues in accordance with contract law principles); 5 Corbin on Contracts, sec. 24.27 (Rev. ed. 1998) (written contract may be construed against the drafting party for the purpose of resolving ambiguities). Accordingly, we conclude86 that respondent conceded all additions to tax determined in the notices of deficiency that gave rise to these cases.- 6 -[6] On October 16, 2012, respondent issued a notice of deficiency to Mrs. Buttsfor her 2007 tax year. As of that date, neither petitioner had filed an income taxreturn for 2007. On January 22, 2013, Mrs. Butts filed a petition in this Courtseeking redetermination of the deficiency and additions to tax determined in thefourth and latest notice of deficiency. She still lived in Nevada at that time.On February 4, 2013, petitioners submitted joint Federal income tax returnsfor 2007 and 2008, claiming on their 2007 joint return an overpayment of $3,335attributable to withholding from Mrs. Butts' 2007 wages. The parties havestipulated that petitioners have an overpayment of $3,335 for the 2007 tax year.We tried Mr. Butts' case on November 18, 2012. Mrs. Butts' case wassubmitted under Rule 122 on February 10, 2015. We consolidated the cases forpurposes of opinion.OPINIONPetitioners, individually and/or together, seek a refund of the 2007overpayment. Respondent contends that the time limitations of sections 6511 and6512 preclude a refund of any portion of the 2007 overpayment. Petitioners bear87 the burden of proving that they are entitled to a refund. SeeRule 142(a)(1); see,e.g., Krape v. Commissioner, T.C. Memo 2007-125">T.C. Memo. 2007-125, 93 T.C.M. (CCH) 1239">93 T.C.M. (CCH) 1239, 1240- 7 -[7] (2007);Jackson v. Commissioner, T.C. Memo. 2002-44, 83 T.C.M. (CCH)1242, 1243 (2002).In general, this Court has jurisdiction to determine the amount of anoverpayment of tax for a taxable year, and the amount so determined by the Courtmust be credited or refunded to the taxpayer after the decision has become final.Seesec. 6512(b)(1). If a notice of deficiency is issued to a taxpayer for aparticular taxable period, and the taxpayer files a timely petition in this Courtclaiming an overpayment for that taxable period, that overpayment may berefunded only as provided in section 6512(b). Sec. 6512(a)(1), (b); sec.301.6512-1(b), Proced. & Admin. Regs.Section 6512(b)(3) limits the amount of the taxpayer's credit or refund.Specifically, section 6512(b)(3) circumscribes the amount of the taxpayer's creditor refund to the portion of the overpayment, if any, paid--(A) after the mailing of the notice of deficiency,(B) within the period which would be applicable under section 6511(b)(2), (c), or (d), if on the date of the mailing of the notice of deficiency a claim had been filed (whether or not filed) stating the grounds upon which the Tax Court finds that there is an overpayment, or(C) within the period which would be applicable under section 6511(b)(2), (c), or (d), in respect of any claim88 for refund filed within- 8 -[8] the applicable period specified in section 6511 and before the date of the mailing of the notice of deficiency * Before testing whether any portion of the 2007 overpayment falls withinone of these alternative periods, we must first establish when petitioners paid thetax constituting the 2007 overpayment. The parties stipulated that the 2007overpayment is attributable to withholding from Mrs. Butts' 2007 wages by heremployer. Under section 6513(b)(1), income tax deducted and withheld from anemployee's wages is deemed to have been paid on April 15 of the following taxyear--that is, in petitioners' case, April 15, 2008. If that date satisfies any of thethree alternative tests of section 6512(b)(3), petitioners are entitled to a refund. Itdoes not.The U.S. Supreme Court considered an almost identical issue inCommissioner v. Lundy, 516 U.S. 235">516 U.S. 235, 237 (1996):In this case, we consider the "look-back" period for obtaining a refund of overpaid taxes in the United States Tax Court under 26 U.S.C. § 6512(b)(3)(B), and decide whether the Tax Court can award a refund of taxes paid more than two years prior to the date on which the Commissioner of Internal Revenue mailed the taxpayer a notice of deficiency, when, on the date the notice of deficiency was mailed, the taxpayer had89 not yet filed a return. We hold that in these circumstances the 2-year look-back period set forth in§ 6512(b)(3)(B) applies, and the Tax Court lacks jurisdiction to award a refund.- 9 -[9] Petitioners may not obtain a refund of the 2007 overpayment under section6512(b)(3)(A) because the deemed payment date, April 15, 2008, fell before--notafter, as required by the statute--the mailing dates of both notices of deficiencyissued to petitioners for the 2007 tax year.4 Second, section 6512(b)(3)(C) will notavail petitioners because they filed a claim for refund, at the earliest, on February4Respondent mailed notices of deficiency for the 2007 tax year to Mr. Butts on June 13, 2011, and to Mrs. Butts on October 16, 2012. Even though respondent computed petitioners' income tax liabilities and mailed notices of deficiency to them separately, the parties stipulated that "[p]etitioners" have an overpayment. This stipulation begs the question of which of the separately mailed notices constitutes "the notice of deficiency" for purposes of sec. 6512(b)(3) where the overpayment in question is a joint one. Because the 2007 overpayment consists of tax withheld from Mrs. Butts' wages, the notice of deficiency mailed to Mrs. Butts might logically provide90 the relevant date. See Michelson v.Commissioner, T.C. Memo. 1997-39, 73 T.C.M. (CCH) 1809">73 T.C.M. (CCH) 1809, 1810 (1997) (where the Commissioner mailed separate notices of deficiency to married taxpayers, and taxpayers later filed a joint return on which they claimed an overpayment, holding that husband was not entitled to any refund because he had no interest in any portion of the overpayment, which arose entirely from withholding from his wife's wages). On the other hand, because petitioners jointly have an overpayment, one could reasonably argue that the date on which respondent mailed Mr. Butts' notice of deficiency should determine his refund entitlement. Regardless of which notice of deficiency's date controls, we would reach the same conclusions. We therefore test petitioners' refund claim under sec. 6512(b)(3) using both dates, in the alternative. See id., 73 T.C.M. (CCH) at 1810 (where the Commissioner mailed separate notices of deficiency to married taxpayers, and taxpayers later filed a joint return on which they claimed an overpayment, applying sec. 6512(b)(3) to each spouse separately using the mailing date of his or her notice of deficiency); Anderson v. Commissioner, T.C. Memo 1993-288">T.C. Memo. 1993-288, 66 T.C.M. (CCH) 4">66 T.C.M. (CCH) 4, 7 (1993) (same), aff'd without published opinion, 36 F.3d 1091">36 F.3d 1091 (4th Cir. 1994).- 10 -[10] 4, 2013,5which was after--not before, as required by the statute--the dates ofmailing of both notices of deficiency.Accordingly,91 as in Lundy, section 6512(b)(3)(B) is the applicable provision.That provision incorporates the "lookback" periods of section 6511(b)(2) "anddirects the Tax Court to determine the applicable [lookback] period by inquiringinto the timeliness of a hypothetical claim for refund filed 'on the date of themailing of the notice of deficiency.'" Commissioner v. Lundy, 516 U.S. at 242(quoting section 6512(b)(3)(B)).6 Section 6511(b)(2), in turn, provides for two5The parties stipulated that petitioners "submitted" a joint 2007 Federal income tax return on February 4, 2013, claiming an overpayment. We find that this submission establishes the filing date of petitioners' refund claim. See UnitedStates v. Kales, 314 U.S. 186">314 U.S. 186, 194 (1941) (stating that where an informal submission puts the Commissioner on notice of a taxpayer's claim, it will be treated as a formal claim even if its defects are remedied after the applicable limitations period has expired, and especially if the Commissioner "has accepted and treated it as such").6Sec. 6511 also establishes the period of limitations for filing a refund claim, but under the circumstances of this case, that period of limitations is irrelevant:Unlike the provisions governing refund suits in United States District Court or the United States Court of Federal Claims, which make timely filing of a refund claim a jurisdictional92 prerequisite to bringing suit, see26 U.S.C. § 7422(a); Martin v. United States, 833 F.2d 655">833 F.2d 655, 658-659 (7th Cir. 1987), the restrictions governing the Tax Court's authority to award a refund of overpaid taxes incorporate only the look-back period and not the filing deadline from § 6511. See 26(continued...)- 11 -[11] alternative lookback periods: a three-year period and a two year-period.Sec. 6511(b)(2)(A) and (B).To decide which of these look-back periods to apply, the Tax Court must consult the filing provisions of § 6511(a) and ask whether the claim described by § 6512(b)(3)(B)--a claim filed "on the date of the mailing of the notice of deficiency"--would be filed "within 3 years from the time the return was filed." See § 6511(b)(2)(A) (incorporating by reference § 6511(a)). If a claim filed on the date of the mailing of the notice of deficiency would be filed within that 3-year period, then the look-back period is also three years and the Tax Court has jurisdiction to award a refund of any taxes paid within three years prior to the date of the mailing of the notice of deficiency. §§ 6511(b)(2)(A) and 6512(b)(3)(B). If the claim would not be filed within that 3-year period, then the period for awarding a refund is only two years. §§ 6511(b)(2)(B) and 6512(b)(3)(B). [Commissionerv. Lundy, 516 U.S. at 242.]Petitioners' hypothetical refund claim would have been filed on either June13, 2011 (the date on which respondent mailed93 a notice of deficiency to Mr.Butts), or October 16, 2012 (the date on which respondent mailed a notice ofdeficiency to Mrs. Butts). Because both of these dates precede the date on whichpetitioners submitted their joint 2007 tax return, regardless of which date we use,their hypothetical refund claim would not have been filed within three years after6(...continued)U.S.C. § 6512(b)(3). Consequently, a taxpayer who seeks a refund in the Tax Court * * does not need to actually file a claim for refund with the IRS; the taxpayer need only show that the tax to be refunded was paid during the applicable look-back period. [Commissioner v.Lundy, 516 U.S. 235">516 U.S. 235, 240-241 (1996); fn. ref. omitted.]- 12 -[12] the date on which they filed their tax return. Hence, as in Commissioner v.Lundy, 516 U.S. at 245, the two-year lookback period applies and is measuredfrom the date of mailing of the notice of deficiency.7Therefore, we have jurisdiction to order a refund of any overpayment of taxpaid within the two-year period preceding the filing date of petitioners'hypothetical refund claim--that is, on or after either June 13, 2009 (two yearsbefore respondent mailed a notice of deficiency to Mr. Butts), or October 16, 2010(two years before respondent mailed a notice of deficiency to Mrs.94 Butts). Seesecs. 6511(b)(2)(B), 6512(b)(3)(B). Because the 2007 overpayment was paid, inits entirety, on April 15, 2008, well before the date of either notice of deficiency,we lack jurisdiction to order a refund of any portion of it.87Shortly after the Supreme Court decided Commissioner v. Lundy, 516 U.S. 235">516 U.S. 235, Congress amended sec. 6512(b)(3). The amendment provided for a three-year lookback period where a notice of deficiency is mailed during the third year after the due date (with extensions) for filing the return and no return has been filed before such time. Seesec. 6512(b)(3) (flush language).The due date for petitioners' 2007 tax return was April 15, 2008, seesec. 6072(a), and no facts in the record indicate that petitioners sought or obtained a filing extension. Respondent mailed both notices of deficiency after, not during, the third year following that April 15, 2008, and petitioners had not yet filed a return when either notice was mailed. Hence, Congress' amendment of sec. 6512(b)(3) does not afford petitioners a three-year lookback period.8If petitioners had established that a three-year lookback period should apply, they would be entitled to a refund only of an overpayment paid on or after(continued...)- 13 -[13] Petitioners offer two arguments against this conclusion. First, they contend95 that respondent's preparation of substitutes for return (SFRs) establishes a filingdate for their 2007 tax return for purposes of sections 6511 and 6512. We haveheld, however, that "a substitute for return prepared by the Commissioner pursuantto section 6020(b)(1) is not a return filed by the taxpayer for purposes of section6511." Healer v. Commissioner, 115 T.C. 316">115 T.C. 316, 322 (2000). The SFRs have nobearing on petitioners' entitlement to a refund of the 2007 overpayment.Second, petitioners contend that respondent is precluded from litigating theissues and amount in controversy in Mrs. Butts' case by events in Mr. Butts' caseunder the doctrines of res judicata and/or collateral estoppel. Both doctrines applyonly after a judgment has been entered by a court of competent jurisdiction. SeeCommissioner v. Sunnen, 333 U.S. 591">333 U.S. 591, 597 (1948) (explaining that res judicatabars relitigation of a cause of action by "the parties to the suit and their privies"after "a court of competent jurisdiction has entered a final judgment on themerits"); Peck v. Commissioner, 90 T.C. 162">90 T.C. 162, 166 (1988) (explaining that"collateral estoppel precludes parties (and their privies) from relitigating issues8(...continued)either June 13, 2008, or October 16, 2009. Because the 2007 overpayment was paid on April 15, 2008, before both of these dates, application of a three-year lookback period would96 not produce a different outcome.- 14 -[14] actually and necessarily litigated and decided in a final prior judgment by acourt of competent jurisdiction"), aff'd, 904 F.2d 525">904 F.2d 525 (9th Cir. 1990). No suchjudgment has been entered in either of these consolidated cases. We concur withpetitioners that the amount of their 2007 tax liability has already been resolved,but by stipulation rather than through litigation and judgment by the Court in Mr.Butts' case. In any event, the parties have not stipulated, and we have neitherfound nor decided, that petitioners are entitled to a refund of the 2007overpayment. Pursuant to the SOSI, this remains the sole issue for our decision.For the reasons explained above, we resolve it against petitioners. We holdthat, because no portion of the 2007 overpayment was paid during any of thealternative periods specified in section 6512(b)(3), no amount of that overpaymentmay be allowed or refunded.To reflect the foregoing,Appropriate decisions will beentered.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619824/	ESTATE OF RAY A. FORD, DECEASED, JACK F. FORD AND RICHARD A. FORD, PERSONAL REPRESENTATIVES, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentEstate of Ford v. CommissionerDocket No. 5086-92United States Tax CourtT.C. Memo 1993-580; 1993 Tax Ct. Memo LEXIS 595; 66 T.C.M. (CCH) 1507; December 8, 1993, Filed 595 Decision will be entered under Rule 155. For petitioners: James W. R. Brown and Thomas R. Brown. For respondent: Albert B. Kerkhove. CHIECHICHIECHIMEMORANDUM FINDINGS OF FACT AND OPINION CHIECHI, Judge: Respondent determined a $ 666,287 deficiency in petitioner's Federal estate tax. 1596 The sole issue for decision is the fair market value of the stock owned by Ray A. Ford (decedent) at the date of his death in each of five closely held corporations. 2FINDINGS OF FACT Some of the facts have been stipulated and are so found. Decedent died testate on April 3, 1988 (the valuation date). Petitioner is the estate of the decedent (the estate). Jack F. Ford and Richard A. Ford, personal representatives of the estate, resided in Omaha, Nebraska, at the time the petition was filed. At the date of his death, decedent owned the following stock interests, the values of which are at issue in this case: Number ofPercentage of TotalCompanyShares HeldShares OutstandingFord's Mercantile Warehouses Co.1986.86Ford Bros. Real Estate Co.26436.41R.A. Ford Dodge Real Estate Co.28541.42Ford Bros. Van & Storage Co.54892.41Ford Storage & Moving Co.21474.56597 At and before decedent's death, these five companies were engaged in the following activity or held the following properties. Ford Storage & Moving Co. (Ford Moving) operated a transfer and storage business that decedent had commenced in 1915. Ford's Mercantile Warehouses Co. (Ford Mercantile), Ford Bros. Real Estate Co. (Ford Real Estate), and R.A. Ford Dodge Real Estate Co. (Ford Dodge) owned certain real properties located in Omaha which they leased to Ford Moving for use in its business. Ford Bros. Van & Storage Co. (Ford Van) owned certain transportation equipment which it leased to Ford Moving for use in its business. Hereinafter, these five companies will sometimes be referred to collectively as the Ford companies. Ford Moving's transfer and storage business involved storing and distributing its customers' products, storing household goods, performing local moving and cartage in the Omaha area, and long-distance hauling of household goods. On the valuation date, the assets of Ford Moving included 36.19 percent of the stock of Ford Mercantile. The operation of Ford Moving's transfer and storage business was divided into two main components: (1) the commercial division, 598 headed by Jack F. Ford, decedent's son, who had been employed there over 40 years at decedent's death, and (2) the household goods division, headed by another son of decedent, Richard A. Ford, who had joined the business after World War II. The commercial division of Ford Moving handled food products, cigarettes, paper goods, agricultural chemicals, and power equipment products. On the valuation date, the commercial division operated out of a warehouse at 7402 L Street, which had been leased from Ford Mercantile for a term of eight years beginning January 1, 1987. It also utilized space for its operations in certain older, downtown buildings owned by and leased from Ford Mercantile, Ford Real Estate, and Ford Dodge. Under the terms of the lease for the 7402 L Street warehouse, Ford Moving, as lessee, paid all taxes, insurance, utilities, and repair expenses for the premises. Ford Moving also leased space for its commercial division from an unrelated party in a single story, high-ceilinged warehouse in Omaha. Although Ford Moving had 72 commercial warehouse customers, its two largest customers were American Honda Motor Co. (Honda) and the Kellogg Company (Kellogg). In 1987, 599 Ford Moving agreed to make available for Kellogg's products 60,000 square feet of the warehouse located at 7402 L Street that it was leasing from Ford Mercantile. Ford Moving also warehoused and distributed Honda products, such as motorcycles, lawn mowers, all terrain vehicles, and power equipment. This operation was conducted in space leased from an unrelated party. Due to changes in the market, Honda wound down its relationship with Ford Moving between October 1987 and July 1988. Honda, however, was obligated to continue paying rent for the leased space until February 1989 and therefore made clear that it expected Ford Moving to mitigate that obligation by obtaining other accounts. The clients of the household goods division of Ford Moving consisted of approximately 150 individuals and 50 moving and storage companies. The household goods division transported household goods, either by doing the work itself or by arranging for cartage, for which it received a commission. Customers of Ford Moving also stored household goods for periods ranging from 30 days to several years. Ford Moving undertook performance of contracts entered into by Ford Van with Allied Van Lines and the600 Department of Defense under which Ford Van agreed to move and store household goods. Ford Moving's household goods division operated out of three multistory warehouses located at 10th and Jones Streets (Jones Street warehouses), which were leased from Ford Mercantile. On the valuation date, the assets of Ford Mercantile consisted almost entirely of cash, amounts due from related entities, municipal bonds, real estate, and some warehouse equipment. The real estate owned by Ford Mercantile consisted in part of the Jones Street warehouses. Those buildings were located in a congested downtown warehouse district, were dependent on elevators to move goods, did not permit high stacking of goods, and restricted the use of mechanical equipment for handling goods. Consequently, the warehouses owned by Ford Mercantile were not well suited to the needs of Ford Moving's commercial customers for the storage and handling of goods. On the valuation date, Ford Mercantile was leasing these warehouses to Ford Moving for use in the latter's transfer and storage business. Ford Mercantile also owned a two story office/warehouse at 7402 L Street that it had acquired in 1986 and a single story warehouse601 at 7300 L Street that it had acquired in 1987. 3 These facilities had been purchased to respond to the needs of Ford Moving's customers. They better accommodated transportation equipment, afforded off-street parking, enabled use of large warehouse handling equipment, and permitted palletization of stored goods, which then could be stacked high. The two L Street facilities were required to meet the demands of Ford Moving's customers for expeditious and accurate handling of incoming and outgoing shipments of commercial goods. On the valuation date, Ford Mercantile was leasing the warehouse at 7402 L Street to Ford Moving for use in its business and was leasing the warehouse at 7300 L Street to an unrelated party. For fiscal years 1983 through 1988, virtually all Ford Mercantile's income consisted of rent and interest. 602 On the valuation date, Ford Real Estate held assets consisting almost entirely of cash, amounts due from related entities, securities, real estate, and some warehouse equipment. These assets included a $ 55,000 receivable from Ford Mercantile, as well as 9.53 percent of the stock of Ford Mercantile. For fiscal years 1983 through 1988, virtually all Ford Real Estate's income consisted of rent and interest. On the valuation date, Ford Real Estate's real property, consisting of one warehouse, was being leased and used by Ford Moving in operating its business. On the valuation date, Ford Dodge held assets consisting almost exclusively of cash, amounts due from related entities, securities, real estate, and some warehouse equipment. Among these assets were municipal bonds, a loan of $ 155,000 to Ford Mercantile, and 20.94 percent of the stock of Ford Mercantile. The real property owned by Ford Dodge consisted of a multistory warehouse located at 1024 Dodge Street and a warehouse located at 102-110 North 11th Street. On the valuation date, both warehouses were leased by Ford Moving for use in its business. For fiscal years 1983 through 1988, virtually all the income of Ford Dodge603 consisted of rent and interest. On the valuation date, the assets of Ford Van consisted almost exclusively of cash, amounts due from related entities, securities, and equipment of the type used in the transfer and storage business. The securities consisted mainly of municipal bonds and 14.70 percent of the stock of Ford Mercantile. Ford Van's equipment consisted primarily of trucks, tractors, trailers, and automobiles that were being leased on the valuation date to Ford Moving for use in its transfer and storage business. Ford Van had an agency agreement with Allied Van Lines for the moving and storage of household goods. Ford Van also had a contract with the Department of Defense for the storage of household goods and related services. The Department of Defense contract called for goods to be stored over periods of 36 to 48 months. Ford Van did not perform directly either the Allied Van Lines agency agreement or the Department of Defense contract. Rather, as noted above, Ford Moving undertook performance under those contracts. For fiscal years 1983 through 1988, virtually all Ford Van's income consisted of rent, interest, and gain from the sale of certain assets. The following604 table summarizes decedent's stock ownership in the Ford companies and the stockholdings of each Ford company in the other Ford companies as of the valuation date: Decedent'sPercentagePercentageInterest inCompanyInterestFord MercantileFord Storage & Moving Co.74.5636.19Ford's Mercantile Warehouses Co.6.86N/A Ford Bros. Real Estate Co.36.419.53R.A. Ford Dodge Real Estate Co.41.4220.94Ford Bros. Van & Storage Co.92.4114.70The Ford companies never paid any dividends. In years prior to his death, decedent had made gifts of some of his stock in the Ford companies. OPINION Property includable in a decedent's gross estate generally is to be valued as of the date of decedent's death. 4605 Sec. 2031. 5 The issue we must decide is the fair market value of decedent's stockholdings in each of the Ford companies as of April 3, 1988, the date of his death. Petitioner bears the burden of demonstrating error in respondent's determination. Rule 142(a). Valuation of stock for tax purposes is a question of fact. Estate of Goodall v. Commissioner, 391 F.2d 775">391 F.2d 775, 786-787 (8th Cir. 1968), affg. on this issue T.C. Memo. 1965-154; Hamm v. Commissioner, 325 F.2d 934">325 F.2d 934, 938 (8th Cir. 1963), affg. T.C. Memo. 1961-347; Estate of Andrews v. Commissioner, 79 T.C. 938">79 T.C. 938, 940 (1982). The determination of the value of closely held stock is a matter of judgment, rather than of mathematics. Hamm v. Commissioner, supra at 940. Moreover, since valuation is necessarily an approximation, it is not required that the value we determine be one as to which there is specific testimony, provided that it is within the range of figures which properly may be deduced from the evidence. Silverman v. Commissioner, 538 F.2d 927">538 F.2d 927, 933 (2d Cir. 1976),606 affg. T.C. Memo. 1974-285; Hamm v. Commissioner, supra at 939-940. The regulations define fair market value for purposes of the Federal estate tax as "the price at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell and both having reasonable knowledge of relevant facts." Sec. 20.20311(b), Estate Tax Regs. In the case of unlisted stock, the best criteria of fair market value are arm's-length sales in the ordinary course of business within a reasonable time before or after the valuation date. Estate of Andrews v. Commissioner, supra at 940. In the instant case, however, the record does not disclose any such sales of the stock at issue; the only transactions involving that stock which are part of the record are gifts by decedent. 6607 Where the value of unlisted stock cannot be determined from actual sale prices, section 2031(b) provides that value is to be determined by taking into consideration the value of stock in corporations listed on an exchange that are engaged in the same or similar business, 7 as well as all other factors bearing on value. The factors we must consider are those that an informed buyer and seller would take into account. Hamm v. Commissioner, supra at 938. Section 20.2031-2(f), Estate Tax Regs., lists some of those factors, including the company's net worth, prospective earning power, dividend-earning capacity, goodwill, the economic outlook for its industry, its position in the industry, its management, the degree of control represented by the block of stock to be valued, and nonoperating assets to the extent not otherwise considered. See also Arc Realty Co. v. Commissioner, 295 F.2d 98">295 F.2d 98, 103 (8th Cir. 1961), affg. on this issue 34 T.C. 484">34 T.C. 484 (1960). 608 There is, however, no fixed formula for applying the foregoing factors. See Estate of Goodall v. Commissioner, supra at 786; O'Malley v. Ames, 197 F.2d 256">197 F.2d 256, 258 (8th Cir. 1952). The regulations provide, and we have held, that the weight to be given the various factors in arriving at fair market value depends upon the facts of each case. Estate of Andrews v. Commissioner, supra at 940-941; sec. 20.2031-2(f), Estate Tax Regs. As the trier of fact, we have broad discretion in assigning the weight to accord to the various factors and in selecting a method of valuation. Estate of O'Connell v. Commissioner, 640 F.2d 249">640 F.2d 249, 251 (9th Cir. 1981), affg. on this issue T.C. Memo 1978-191">T.C. Memo. 1978-191; Hamm v. Commissioner, supra at 941. Nonetheless, primary consideration is generally given to earnings in valuing the stock of an operating company, while asset values are generally accorded the greatest weight in valuing the stock of a holding company. Levenson's Estate v. Commissioner, 282 F.2d 581">282 F.2d 581, 586 (3d Cir. 1960),609 remanding on other grounds T.C. Memo. 1959-120. Section 5 of Rev. Rul. 59-60, 1 C.B. 237">1959-1 C.B. 237, 242, which we have recognized "has been widely accepted as setting forth the appropriate criteria to consider in determining fair market value", Estate of Newhouse v. Commissioner, 94 T.C. 193">94 T.C. 193, 217 (1990), 8 states: In general, the appraiser will accord primary consideration to earnings when valuing stocks of companies which sell products or services to the public; conversely, in the investment or holding type of company, the appraiser may accord the greatest weight to the assets underlying the security to be valued.610 As is customary in valuation cases, the parties have relied extensively on the opinions of their respective experts to support their respective views on the fair market value of the stock of each of the Ford companies under the willing buyer-willing seller standard. We evaluate the expert opinion evidence in light of the qualifications of the experts and all other evidence of value. Estate of Christ v. Commissioner, 480 F.2d 171">480 F.2d 171, 174 (9th Cir. 1973), affg. 54 T.C. 493">54 T.C. 493 (1970); Parker v. Commissioner, 86 T.C. 547">86 T.C. 547, 561 (1986). We are not bound by the formulae and opinions proffered by expert witnesses, especially when they are contrary to our judgment. Instead, we may reach a decision on value based on our own analysis of all the evidence in the record. Silverman v. Commissioner, 538 F.2d at 933; Palmer v. Commissioner, 523 F.2d 1308">523 F.2d 1308, 1310 (8th Cir. 1975), affg. 62 T.C. 684">62 T.C. 684 (1974); Hamm v. Commissioner, 325 F.2d at 940-941; IT&S of Iowa, Inc. v. Commissioner, 97 T.C. 496">97 T.C. 496, 508 (1991).611 Where experts offer divergent estimates of fair market value, we will decide what weight to give those estimates by examining the factors used by the experts to arrive at their conclusions. Casey v. Commissioner, 38 T.C. 357">38 T.C. 357, 381 (1962). While we may accept the opinion of an expert in its entirety, Buffalo Tool & Die Mfg. Co. v. Commissioner, 74 T.C. 441">74 T.C. 441, 452 (1980), we may be selective in the use of any part of such an opinion. Parker v. Commissioner, supra at 562. Furthermore, we may reject the opinion of an expert witness in its entirety. Palmer v. Commissioner, supra at 1310; Parker v. Commissioner, supra at 562-565. Before turning to our consideration of the divergent expert opinions in this case, we restate the Court's view that questions of fair market value, like those that are at issue here, are generally more properly resolved through the give and take of settlement negotiations by the parties, rather than adjudication. Buffalo Tool & Die Mfg. Co. v. Commissioner, supra at 451. In612 the absence of such a resolution in the present case, we are left to decide the fair market value of the stock at issue. In so doing, we will determine what weight to give to the conflicting expert opinions advocated by the parties. Petitioner's Expert ReportPetitioner contends that respondent's determination of the fair market value of the closely held stock of each of the Ford companies is excessive and that a lower value is appropriate in each instance. In support of those lower values, petitioner offers the report and testimony of its expert, Dr. Jerome F. Sherman, an Associate Professor of Finance at Creighton University. We note that petitioner's expert is not a member of any appraisal society or association. Nor is he a full-time business appraiser. Moreover, it is significant that petitioner's expert conceded at trial that his report contained various errors that were drawn to his attention by both respondent and the Court, indicating that his report was, at a minimum, carelessly prepared. We also find it noteworthy that petitioner's expert opinion of the value of the stock at issue was lower than that claimed on petitioner's estate tax return. A valuation 613 stated on a tax return constitutes an admission, which can be overcome only by cogent evidence that it is wrong. Waring v. Commissioner, 412 F.2d 800">412 F.2d 800, 801 (3d Cir. 1969), affg. per curiam T.C. Memo. 1968-126; Mooneyham v. Commissioner, T.C. Memo. 1991-178; Estate of McGill v. Commissioner, T.C. Memo. 1984-292. For the reasons set forth below, petitioner's expert report does not rise to the level of cogent proof. 9Petitioner's expert valued the stock of each corporation at issue on the basis of a weighted average of historic book value and historic earnings. He attributed614 25 percent of the stock value to book value and 75 percent to a weighted multiple of earnings or cash flow. Dr. Sherman used historic cash flow (earnings plus depreciation) in the case of Ford Mercantile, Ford Dodge, and Ford Real Estate and earnings (net income) in the case of Ford Van and Ford Moving. To arrive at his weighted multiple of earnings or cash flow, Dr. Sherman took the amount of each of the Ford companies' earnings or cash flow for the five years immediately preceding decedent's death and weighted that amount in reverse chronological order, with the most recent year being given the greatest weight and the earliest year being given the smallest weight. These amounts were then multiplied by a factor of 10 in the case of Ford Mercantile, Ford Dodge, and Ford Real Estate and by a factor of 12 in the case of Ford Moving and Ford Van. 10615 Respondent has raised numerous objections to the method used by petitioner's expert in determining the fair market value of petitioner's stockholdings in each of the five Ford companies and to his opinions of each such value. We agree with respondent that defects in the methodology used by petitioner's expert render it incapable of yielding persuasive determinations of fair market value for the stock at issue. We shall now highlight some of those deficiencies. Petitioner's expert acknowledged at trial that there is a difference between an operating company and a holding company. He admitted during his testimony that Ford Mercantile, Ford Real Estate, Ford Dodge, and Ford Van are holding companies. His expert report characterized Ford Moving as an operating company. Nonetheless, petitioner's expert used essentially the same formula for valuing both the Ford operating company and the Ford holding companies, with only the minor variations described above. He thus disregarded the well-established valuation principle that, in valuing the stock of a holding company, the greatest weight generally is accorded to net asset value. Instead, in valuing the stock of each of the Ford companies, 616 including the four holding companies, he utilized the approach ordinarily employed in valuing an operating company, namely, giving primary importance to earnings. Levenson's Estate v. Commissioner, 282 F.2d at 586. Furthermore, as respondent's expert demonstrated, the bulk of the assets of Ford Moving were nonoperating investments, and thus even Ford Moving was a blend of an operating company and a holding company. Petitioner's expert did not even attempt to separate the operating and nonoperating portions of Ford Moving for valuation purposes, as did respondent's expert. Petitioner's expert therefore failed to give appropriate weight to asset values in arriving at his opinion of the fair market value for the Ford Moving stock owned by decedent on the valuation date. We also note that petitioner's expert did not explain in his report the reasons for deciding to use his weighted average valuation formula. Rather, he merely stated in his report that "The valuation of a corporation is based upon 75% of a multiple of earnings and 25% of book value." Petitioner's expert did not set forth the derivation of those percentages or why the relative weights617 of the factors he selected should remain the same regardless of the type of corporation being valued. Nor was any independent corroboration offered for the method of valuation used by petitioner's expert. See Parker v. Commissioner, 86 T.C. at 564. Petitioner's expert also did not explain why he declined to consider the other factors enumerated in the regulations and Rev. Rul. 59-60 in arriving at his valuation. We have in the past declined to accept valuations based simply on mechanical formulae which assign arbitrary weights to various factors. Estate of Bennett v. Commissioner, T.C. Memo. 1993-34; Estate of Mueller v. Commissioner, T.C. Memo 1992-284">T.C. Memo. 1992-284. In these cases, we noted the following passage from section 7 of Rev. Rul. 59-60: Because valuations cannot be made on the basis of a prescribed formula, there is no means whereby the various applicable factors in a particular case can be assigned mathematical weights in deriving the fair market value. For this reason, no useful purpose is served618 by taking an average of several factors (for example, book value, capitalized earnings and capitalized dividends) and basing the valuation on the result. Such a process excludes active consideration of other pertinent factors, and the end result cannot be supported by a realistic application of the significant facts in the case except by mere chance. [1959-1 C.B. at 243.]The above reasoning is applicable here. We conclude that Dr. Sherman's combination of arbitrarily weighted figures for book value and historic earnings or cash flow does not produce a reliable estimate of the fair market value of the stock at issue in this case. Nor did petitioner's expert explain adequately his choice of the multiples he applied to the weighted average of historical earnings or cash flow figures. He selected a factor of 12 for Ford Van and Ford Moving, stating that that figure was based on the price-earnings multiple for publicly traded trucking companies. Certain circumstances suggest that use of such a multiple is inappropriate. With respect to Ford Van, it did not even engage in trucking; it merely leased its cars, trucks, tractors, and trailers619 to Ford Moving for use in the latter's transfer and storage business. At trial, petitioner's expert acknowledged that Ford Van was a holding company. With respect to Ford Moving, a substantial portion of its earnings was attributable to nonoperating assets; as discussed below, those earnings should not be treated as if they were earned from trucking operations. With respect to Ford Mercantile, Ford Real Estate, and Ford Dodge (the three companies which owned real estate), petitioner's expert selected a capitalization rate of 10 percent, explaining, without supporting data or explanation, that that rate was appropriate for the Omaha area. Estimates and assumptions not supported by independent evidence or verification are of little assistance to the Court and will not be accepted as probative of value. Rose v. Commissioner, 88 T.C. 386">88 T.C. 386, 418 (1987), affd. 868 F.2d 851">868 F.2d 851 (6th Cir. 1989); Parker v. Commissioner, 86 T.C. at 564. We do not accept as probative expert opinions which are based on speculation. Estate of Gordon v. Commissioner, 70 T.C. 404">70 T.C. 404, 412-414 (1978);620 Royce C. McDougal, M.D., Inc. v. Commissioner, T.C. Memo. 1985-64; see also Klapmeier v. Telecheck International, Inc., 482 F.2d 247">482 F.2d 247, 252 (8th Cir. 1973). An expert's opinion is of little or no value unless it is supported by disclosed facts. Tripp v. Commissioner, 337 F.2d 432">337 F.2d 432, 434 (7th Cir. 1964), affg. T.C. Memo. 1963-244; Casey v. Commissioner, 357">38 T.C. at 381. Accordingly, we do not accept the multiplication factors selected by petitioner's expert as probative of the value of the stock at issue. In addition to using a formula which understated the contribution made by each of the Ford companies' assets to the total fair market value of the stock of each such company, petitioner's expert valued the assets of each company using unadjusted book value, thereby undervaluing the assets themselves. Petitioner's expert generally used historic book value as a factor in his formula, notwithstanding that petitioner had obtained appraisals as of the valuation date for certain of the Ford companies' assets, namely, the real estate owned621 by Ford Mercantile and Ford Dodge, the securities issued by unrelated entities that were owned by Ford Mercantile, Ford Dodge, Ford Real Estate, and Ford Moving, as well as the cars, trucks, trailers, and securities issued by unrelated entities that were owned by Ford Van. 11Petitioner's expert did not attempt to show that book value was superior as an indicator of the value of each of the Ford companies' assets to the appraisals of fair market value obtained by petitioner. In fact, he acknowledged that book value might not reflect an asset's fair market value at a particular valuation date. Nonetheless, petitioner's expert made no adjustments to the book values of the assets622 of the Ford companies to bring them into line with their fair market values. We find that Dr. Sherman's use of historic book value instead of fair market value as of the date of decedent's death resulted in undervaluation of the assets of the Ford companies and that therefore petitioner's expert undervalued decedent's stockholdings in each of those companies on that date. We have previously noted that "unadjusted book values are often unreliable for valuation purposes because they may have little relation to the assets' fair market values at the date of valuation." Estate of Andrews v. Commissioner, 79 T.C. at 948 n.16. See Gulf, Mobile & Ohio R. Co. v. United States, 579 F.2d 892">579 F.2d 892, 897 (5th Cir. 1978). Concerns as to the use of book values are especially appropriate here, since many of the assets, such as the warehouses, had been held for many years as of the valuation date, and their historical cost, less depreciation, was not indicative of their fair market value as of that date. The schedules prepared by respondent's expert comparing the book value of the assets of the Ford companies to their appraised values as623 of the date of decedent's death make this disparity readily apparent. We conclude that the fair market values of the assets, rather than unadjusted book values, would have been considered more important by a hypothetical willing buyer and willing seller in arriving at the fair market value of the stock at issue on the valuation date. Consequently, in view of the substantial discrepancies between book value and appraised value, we do not accept the use by petitioner's expert of the book value of the Ford companies' assets in arriving at his valuation of that stock. See Dellacroce v. Commissioner, 83 T.C. 269">83 T.C. 269, 291 (1984). We also note that petitioner's expert applied a non-marketability discount of 33 percent to decedent's stockholdings in each of the Ford companies. He also applied a minority interest discount of seven percent to decedent's stockholdings in each of those companies in which decedent did not own greater than 50 percent of the outstanding stock on the valuation date (namely, Ford Mercantile, Ford Real Estate, and Ford Dodge). We have previously defined these types of discounts as follows: The minority shareholder discount is designed624 to reflect the decreased value of shares that do not convey control of a closely held corporation. The lack of marketability discount, on the other hand, is designed to reflect the fact that there is no ready market for shares in a closely held corporation. * * * [Estate of Andrews v. Commissioner, 79 T.C. at 953.]Petitioner's expert did not explain how he arrived at the discount figures he utilized. He merely stated that they were warranted because selling the Ford companies' stock would be difficult and because a minority stockholder could not control the liquidity of his investment. Petitioner's expert affords us no basis for evaluating the reasonableness of the discount figures he used. Even if he selected the figures based on his experience, petitioner's expert should have disclosed the process by which he arrived at his conclusions. Petitioner's expert therefore affords us no grounds upon which to decide whether a hypothetical willing buyer and willing seller would have applied discounts of the magnitude he employed in bargaining over the stock at issue. Consequently, we find both of the discount figures utilized by petitioner's expert625 to be of no assistance to the Court in valuing the stock at issue. Based on the record herein, we find that the report of petitioner's expert is seriously flawed as illustrated above and that it therefore is not probative of the fair market value of the stock at issue. Consequently, we will not rely on petitioner's expert report in valuing the stock of each of the Ford companies. Tripp v. Commissioner, 337 F.2d at 434; Estate of Newhouse v. Commissioner, 94 T.C. at 244; Parker v. Commissioner, 86 T.C. at 564-565. Respondent's Expert ReportRespondent submitted an expert report in support of her determination of the fair market value on the valuation date of petitioner's stock in each of the Ford companies. We turn now to that report. Preliminarily, we note that, even if we reject the expert report of one party, we are not required to accord the valuation of the other party total or even partial acceptance. See Palmer v. Commissioner, 523 F.2d at 1310; Estate of Gilford v. Commissioner, 88 T.C. 38">88 T.C. 38, 56 (1987). Where626 a party has clearly shown to our satisfaction a significant error in the expert opinion we find more persuasive, appropriate adjustments will be made. Estate of Gilford v. Commissioner, supra.Accordingly, we will consider petitioner's objections to the method employed by respondent's expert in the course of reviewing that expert's report. Respondent's expert report was prepared by Patrick K. Schmidt, William C. Herber, and Robert J. Strachota, MAI, all of whom are employed by the Shenehon Company (respondent's expert), a real estate and business appraisal firm. The authors of respondent's expert report are professional appraisers. Consistent with the applicable standards of their profession, their report sets forth the analysis and data underlying their conclusions. Respondent's expert took into account the factors listed in Rev. Rul. 59-60, 1 C.B. 237">1959-1 C.B. 237, in valuing the stock of each of the five Ford companies. Thus, for each of those companies, respondent's expert reviewed the nature and history of its business, general economic and industry outlook, historic financial condition, earning capacity, 627 dividend-paying capacity, goodwill, sales of the stock, size of the stockholding valued, and market prices of comparable actively traded companies. Valuation of Ford Mercantile, Ford Dodge, Ford Real Estate, and Ford VanAfter examining the assets and considering the nature of four of the companies -- Ford Mercantile, Ford Real Estate, Ford Dodge, and Ford Van -- respondent's expert concluded they are holding companies. Petitioner's expert did not disagree with this conclusion, having acknowledged at trial that they are holding companies. Hereinafter, those four companies will collectively be referred to as holding companies. Each of the holding companies' assets consisted of real estate or equipment, cash, marketable securities, stock in Ford Mercantile, and amounts due from related entities. Virtually all of the income of each such company consisted of rents and interest income from marketable securities and, in the case of Ford Van, proceeds of asset sales. Respondent's expert found no operational aspects in any of the holding companies, such as employees. Respondent's expert considered all of the factors listed in Rev. Rul. 59-60,628 but, based on the characteristics of each holding company, respondent's expert concluded that the most important factor in determining the fair market value of the stock of Ford Mercantile, Ford Real Estate, Ford Dodge, and Ford Van was the fair market value of each of those company's assets, less its liabilities. In this regard, we note that each factor listed in Rev. Rul. 59-60 does not necessarily have a bearing on value and need not be given weight in every case. Estate of Lee v. Commissioner, 69 T.C. 860">69 T.C. 860, 869-870 (1978); Estate of Gallo v. Commissioner, T.C. Memo 1985-363">T.C. Memo. 1985-363. Because respondent's expert found that a potential buyer of the stock of each holding company would be primarily seeking the long-term appreciation of each such company's assets and a vested interest in the entity associated with those assets, respondent's expert concluded that earnings and dividend-paying capacity were not probative of the value of the stock of the holding companies. There is no dispute as to the fair market value of (1) the real properties owned by Ford Mercantile, Ford Dodge, and 629 Ford Real Estate, (2) the cars, trucks, tractors, and trailers owned by Ford Van, or (3) the securities issued by unrelated entities owned by those four holding companies. To value the real estate owned by Ford Mercantile and Ford Dodge on the valuation date, respondent's expert relied upon an appraisal report prepared for petitioner by Joseph D. Yager, MAI, of Otis & Associates, an experienced real estate appraiser. Mr. Yager valued the real estate principally on the basis of market sales of comparable properties. In valuing the real estate owned by Ford Real Estate on the valuation date, respondent's expert relied upon the sale of its one warehouse property in July 1988, approximately three months after the date of decedent's death. To value the cars, trucks, tractors, and trailers owned by Ford Van on the valuation date, respondent's expert relied on valuations furnished petitioner by local equipment dealers. To value the securities issued by unrelated entities held by each of the four holding companies on the valuation date, respondent's expert relied upon representations by petitioner as to their fair market value as of that date. Other assets of the holding companies, such630 as amounts due from related companies, were valued by respondent's expert at their face value. Respondent's expert valued the stock owned by each of the holding companies in Ford Mercantile as of the valuation date by multiplying the fair market value of Ford Mercantile's net asset value by the percentage of Ford Mercantile stock held by each such company. The following table summarizes as of the valuation date the stockholdings of Ford Dodge, Ford Real Estate, and Ford Van in Ford Mercantile and the value assigned each such stock interest by respondent's expert: Percentage InterestValue of Such InterestCompanyin Ford Mercantilein Ford MercantileFord Dodge20.94$ 267,885Ford Real Estate9.53121,917Ford Van14.70188,057Using the above-described asset-based method for valuing the stock of each of the holding companies, respondent's expert concluded that the fair market value on the valuation date of all of the stock outstanding in each such holding company was as follows: CompanyFair Market Value of StockFord Mercantile$ 1,279,298Ford Real Estate737,826Ford Dodge1,289,874Ford Van929,562Petitioner finds fault with the use of631 net asset values to value the stock of the holding companies, claiming that such method has been rejected by every court to which it has been presented. Petitioner is wrong. In prior cases, we and other courts have relied upon net asset values in determining the fair market value of interests in closely held entities. See, e.g., Hamm v. Commissioner, 325 F.2d at 941; Ward v. Commissioner, 87 T.C. 78">87 T.C. 78, 102-104 (1986); Harwood v. Commissioner, 82 T.C. 239">82 T.C. 239, 265-268 (1984), affd. without published opinion 786 F.2d 1174">786 F.2d 1174 (9th Cir. 1986); Estate of Huntington v. Commissioner, 36 B.T.A. 698">36 B.T.A. 698, 714-716 (1937); see also In re Nathan's Estate, 166 F.2d 422">166 F.2d 422, 425-426 (9th Cir. 1948), affg. a Memorandum Opinion of this Court dated July 17, 1946; Bank of California v. Commissioner, 133 F.2d 428">133 F.2d 428, 430-431 (9th Cir. 1943); Estate of Jephson v. Commissioner, 87 T.C. 297">87 T.C. 297, 303-304 (1986); Estate of Piper v. Commissioner, 72 T.C. 1062">72 T.C. 1062, 1071 (1979);632 Estate of Cruikshank v. Commissioner, 9 T.C. 162">9 T.C. 162, 165 (1947). As we indicated above, net asset value generally is accorded the greatest weight in valuing the stock of a corporation where it is not an operating company and its activities are limited to the holding of real estate or other investments. 12Levenson's Estate v. Commissioner, 282 F.2d at 586. In Rev. Rul. 59-60, it is stated that: The value of the stock of a closely held investment or real estate holding company * * * is closely related to the value of the assets underlying the stock. For companies of this type the appraiser should determine the fair market values of the assets of the company. * * * The market values of the underlying assets give due weight to potential earnings and dividends of the particular items of property underlying the stock, capitalized at rates deemed proper by the investing public at the date of appraisal. * * * For these reasons, adjusted net worth should be accorded greater weight in valuing the stock of a closely held investment or real estate holding company * * * than any of 633 the other customary yardsticks of appraisal, such as earnings and dividend paying capacity. [ Rev. Rul. 59-60, sec. 5(b), 1959-1 C.B. at 243.]Petitioner appears to confuse the requirement that all factors be considered with the weight to be given each factor in a given situation. The cases relied upon by petitioner 13 appear to stand only for the proposition that other factors besides net asset value should be considered, but they do not prevent us from according the greatest weight to net asset value where it is appropriate to do so. 634 Here, respondent's expert report states that all the factors recited in Rev. Rul. 59-60, which we have noted above, were considered in valuing the stock of the Ford companies, including the four holding companies. The valuation report prepared by respondent's expert with respect to each of the holding companies contains information pertaining to those factors, indicating that this was done. Even though each factor should be, and was, considered by respondent's expert, every factor may not necessarily be entitled to be given weight under the circumstances of a particular case. Estate of Gallo v. Commissioner, T.C. Memo 1985-363">T.C. Memo. 1985-363; see also Estate of Lee v. Commissioner, 69 T.C. at 869-870. At trial, Mr. Strachota, president of respondent's expert, testified that it is inappropriate to value a holding company on the basis of expected income because such companies are created to build up capital appreciation over time and de-emphasize regular cash flow. Respondent's expert also found that a potential buyer of the stock of each holding company would be principally concerned with635 the value of the underlying assets and the potential appreciation of such assets and would not be concerned with short-term dividend-paying capacity. 14Where a company is managed with a view to long-term appreciation of assets and not for current income or dividends, it is appropriate to give the greatest weight to net asset value, rather than to earnings, in valuing its stock. Hamm v. Commissioner, supra at 941. 636 Due to the nature of the holding companies and the goals of potential buyers of their stock, respondent's expert did not find other factors listed in Rev. Rul. 59-60, such as earning or dividend-paying capacity, as probative of fair market value as the net value of the underlying assets of each of the holding companies. At trial, Mr. Strachota testified that a valuation of each of the holding companies under an earnings approach had been performed, but that the resulting values had not been relied on because they undervalued the holding companies' stock and a potential buyer would not consider them determinative of value. The financial statements of the holding companies, and even petitioner's expert valuation of the holding companies, which was based primarily on their earnings and to a lesser extent on their assets' book value, show that the value of such earnings was significantly less than the net fair market value of their assets. Where the earnings approach understates the value of stock, we have given it correspondingly little weight. E.g., Ward v. Commissioner, 87 T.C. at 101-103. In deciding the637 relative weight to be accorded net asset value and earnings in valuing a corporation, we will consider the extent to which the company is actively engaged in producing income as opposed to simply holding property for investment. Id. at 102-103. Where a corporation's assets consist of real estate, earnings are considered important where the corporation actively engages in a real estate management business. Estate of Andrews v. Commissioner, 79 T.C. at 944, 946. Where a corporation simply holds assets for investment and does not have active business operations, we have approved use of net asset value as a basis for valuing stock. Estate of Jephson v. Commissioner, 87 T.C. at 303-304; Estate of Piper v. Commissioner, 72 T.C. at 1071-1072. Moreover, even where a corporation has some minimal active business operations, we have relied on net asset value to value its stock. Estate of Lee v. Commissioner, 69 T.C. at 869-870 (asset value used as basis for valuation where assets consisted almost exclusively of undeveloped realty and638 operating business accounted for less than five percent of assets). In the instant case, respondent's expert found no operational aspects in any of the Ford holding companies. We agree that the companies appear to be simply holders of investment property, engaging in no active business operations with respect to them. For instance, under the lease between Ford Mercantile and Ford Moving for the warehouse at 7402 L Street, Ford Moving agreed to pay for all taxes, insurance, utilities, and repairs on the building. The financial statements of the four holding companies do not show evidence of the active conduct of a business, such as is revealed on the statements of Ford Moving; they reflect only income and any expenses connected with holding property. If there are operational aspects to the four holding companies, petitioner has failed to demonstrate their existence. Moreover, even if such aspects existed, petitioner has failed to demonstrate the amount by which the stock values should be adjusted to take account of them. Accordingly, we accept the net asset value approach utilized by respondent's expert in valuing the stock of each of the four holding companies. Furthermore, 639 even if we were to accord weight to earnings, notwithstanding the absence of active business operations by any of the holding companies and the tremendous disparity between the value of each such company's earnings and the value of each such company's assets, we find that the effect of the earnings factor on the value of the stock of each of the holding companies would be slight at best. Under such circumstances, we have held that the effect of earnings on value may be adequately accounted for in the discounts we otherwise allow from the full value of the stock in issue. Ward v. Commissioner, supra at 103. We reach the same conclusion in the instant case and conclude that any impact which earnings might have had on the value of the stock of each of the holding companies on the valuation date may be adequately accounted for in the discounts we will allow from the full value of the stock in each such company as determined by respondent's expert and herein, as discussed below. Petitioner also argues that respondent's expert should have taken into account the cost of liquidating the assets of the four holding companies, including any taxes that would640 be payable in connection with a liquidation. For purposes of valuing the stock of those companies, respondent's expert assumed that no liquidation would occur. Petitioner's expert valuation is based on the same assumption. That assumption was consistent with accepted practice, since the cost of liquidation, including taxes, is not taken into account for purposes of valuation where the prospect of liquidation is merely speculative. Ward v. Commissioner, 87 T.C. at 104; Estate of Piper v. Commissioner, 72 T.C. at 1086-1087; Estate of Cruikshank v. Commissioner, 9 T.C. at 165. Petitioner has pointed to no circumstances indicating that any of the holding companies would be liquidated. Consequently, no adjustment for any expenses associated with liquidation should be made in valuing any of those companies. Petitioner further claims that respondent's expert overvalued petitioner's stock in each of the holding companies, pointing out that publicly traded stocks in certain large, high quality companies paid substantial dividends, while the holding companies were of lower quality and paid no641 dividends. Respondent contends on brief that the companies referred to by petitioner are not comparable to the holding companies at issue, as required by section 2031(b) and section 20.2031-2(f), Estate Tax Regs. Respondent argues that therefore they furnish no useful information concerning the valuation of the stock of each of the Ford holding companies. We agree with respondent that the companies to which petitioner would compare the holding companies are large public utilities and industrial concerns which are completely unlike those holding companies. Moreover, respondent's expert did consider the applicability of dividend yields in valuing the stock of each of the holding companies, but concluded that that factor would not affect its value. Respondent's expert found that a prospective buyer of the stock in each of the holding companies would be principally interested in long-term appreciation of assets, not short-term dividend-paying capacity. Petitioner also suggests that the cash flows of certain large, high quality companies are superior to those of the Ford holding companies. However, that fact would not be important to a prospective investor principally interested642 in long-term appreciation of assets, rather than current earnings. While stock in the type of company on which petitioner relies as a basis of comparison is within the universe of possible investments available to a prospective purchaser of stock in each of the holding companies, such circumstance does not, in our view, establish that a prospective purchaser of stock in each of the holding companies, who is principally interested in long-term appreciation, would pay less for petitioner's stock in each of those companies because current dividend yields are available elsewhere. Accordingly, on the record here, we do not find that respondent's expert overvalued petitioner's stockholdings in each of the holding companies on account of the dividend yields and cash flow of the publicly traded companies referred to by petitioner. Respondent's expert calculated the fair market value on the valuation date of petitioner's stock in each of the four holding companies as the percentage of each company's net asset value equal to petitioner's percentage equity interest in each such company, thereby resulting in the following value for petitioner's stock interest in each company before applying643 discounts, if any: Petitioner's PercentageUndiscounted ValueCompanyInterest in Companyof Such InterestFord Mercantile6.86$ 87,760Ford Real Estate36.41268,642Ford Dodge41.42534,266Ford Van92.41859,008With respect to petitioner's stock in Ford Real Estate and Ford Dodge, respondent's expert applied a minority interest discount of 20 percent to the value so determined and a further discount of 10 percent for lack of marketability. In contrast to petitioner's expert, respondent's expert explained how these discounts were derived and set forth the factors considered in selecting them. We find application of these discounts to be warranted based on petitioner's minority position in each of those two companies and the absence of a ready market for each such company's shares. Respondent's expert thus determined, and we conclude, that on the valuation date the fair market value of (1) petitioner's 36.41 percent stock interest in Ford Real Estate was $ 193,423 and (2) its 41.42 percent stock interest in Ford Dodge was $ 384,671. Respondent's expert allowed no discounts to its previously determined value of $ 859,008 for petitioner's 92.41 percent644 stock interest in Ford Van on the ground that petitioner had a controlling position in that stock. 15 We have, however, found in other cases that a control position in a closely held company does not obviate the difficulty of disposing of stock for which there is no ready market. Estate of Andrews v. Commissioner, 79 T.C. at 953; Estate of Bennett v. Commissioner, T.C. Memo 1993-34">T.C. Memo. 1993-34. There is no suggestion in the record that a ready market for the shares of Ford Van existed on the valuation date, and we find that a seller of petitioner's stock in Ford Van would face the same difficulties as a seller of petitioner's stock in Ford Dodge and Ford Real Estate, with respect to which respondent's expert allowed a 10 percent marketability discount. Respondent's expert concluded that such a discount was appropriate in valuing the stock of those two companies, given the size of the interests valued, the quality of the companies, and the relations among shareholders. Based on our consideration of such factors, we conclude that 10 percent is the appropriate amount of discount required to reflect the diminution in value of petitioner's645 holding of Ford Van attributable to its lack of marketability. Respondent's expert also did not apply any discount for minority interest or lack of marketability to its previously determined value of $ 87,760 for petitioner's 6.86 percent stock interest in Ford Mercantile on the ground that petitioner indirectly controlled 16646 a majority of Ford Mercantile's stock through its control of Ford Van and Ford Moving. 17 In deciding not to apply any discounts, respondent's expert assumed that petitioner's stock in each of the Ford companies would be sold as a block so as to maximize the value of that stock (block sale assumption). 647 Respondent's expert thus did not believe any discounts were warranted where petitioner had effective control of Ford Mercantile by virtue of his control of Ford Van and Ford Moving, which together owned over 50 percent of Ford Mercantile's stock on the valuation date. Mr. Strachota, president of respondent's expert, testified that, in his opinion, a prudent seller would sell the 6.86 percent interest in Ford Mercantile in a manner which would enable realization of its full, undiscounted value. Petitioner argues that the assumption of a sale on such terms caused respondent's expert valuation of the Ford companies to have been made on such a narrow basis so as to undermine totally respondent's expert's opinion of the value of that stock. Pointing to a statement in respondent's expert report that the valuation of each Ford company is not to be used separately, petitioner argues that respondent's expert valuation is usable only if it is assumed that petitioner's stock in all of the Ford companies would be sold to one buyer. We disagree. At trial, Mr. Strachota explained that respondent's expert based its block sale assumption on the interrelationship of petitioner's stockholdings, 648 and not on the business relationships of the companies. He further testified that the statement in respondent's expert report referred to by petitioner was designed simply to call attention to the fact that a control position in Ford Mercantile existed due to the interrelationship of petitioner's stockholdings in the Ford companies. Mr. Strachota further indicated that the valuation of petitioner's stock would not be invalidated if the block sale assumption were to be changed and that the only consequence of changing the block sale assumption would be to discount the value of petitioner's direct holding of Ford Mercantile stock for minority interest and lack of marketability. We are not prepared to reject entirely respondent's block sale assumption. However, it seems to us that a block sale of petitioner's stock would occur, if at all, on the basis of not only the interrelationship of petitioner's stockholdings, but also the business relationships of the Ford companies. A buyer of all petitioner's stock in the Ford companies would acquire interests in companies which enjoyed a set of established arrangements necessary for Ford Moving to conduct a transfer and storage business. 649 It also appears that a buyer of Ford Moving's stock would be particularly desirous of acquiring petitioner's 92.41 percent interest in Ford Van, since that company held the Allied Van Lines agency agreement and the Department of Defense contract, which were of importance to the household goods transfer and storage division of Ford Moving. In valuing Ford Moving, respondent's expert appears to have assumed that use of Ford Van's contracts would continue. We are not prepared, however, to accept the block sale assumption of respondent's expert as applied to petitioner's 6.86 percent interest in Ford Mercantile. There seems to be no business reason why a prospective purchaser of any of the other Ford companies would desire to acquire petitioner's stock in Ford Mercantile as well. The record shows that each of the Ford companies generally dealt with Ford Mercantile at arm's length. Respondent's expert report notes that Ford Moving paid a market rent for the warehouse space leased from Ford Mercantile. Furthermore, Ford Moving had leased Ford Mercantile's warehouse at 7402 L Street for an eight-year term beginning January 1, 1987. Thus, Ford Moving's continued occupancy of the premises650 did not depend on maintaining control of Ford Mercantile. 18 Moreover, in the event of a block sale of Ford Moving and Ford Van, the purchaser would acquire a 50.89 percent of the stock of Ford Mercantile, rendering acquisition of petitioner's direct 6.86 percent interest unnecessary for control. The only reason respondent's expert has advanced for its block sale assumption is that a prudent seller would wish to sell petitioner's stock in the Ford companies as a block because such a sale would maximize the value of petitioner's direct stockholding in Ford Mercantile. We have previously held that calculating value based on the highest possible price which a seller wishes to obtain skews the result and that the calculation must be tempered by what the buyer would pay. Buse v. Commissioner, 71 T.C. 1129">71 T.C. 1129, 1137 n.1 (1979); see also Estate of Jephson v. Commissioner, 87 T.C. at 303. In estimating value under the willing buyer-willing seller test, "the highest price a willing buyer would pay is also the price that a willing seller wants." Estate of Newhouse v. Commissioner, 94 T.C. at 233 n.23.651 We cannot conclude on the instant record that a willing buyer would pay petitioner the undiscounted value of its Ford Mercantile stock simply because a prudent seller would seek that price. Our refusal to accept the block sale assumption as applied to Ford Mercantile made by respondent's expert does not seriously impair the usefulness of its estimate of the fair market value of the stock at issue in each of the Ford companies. Where an expert's opinion rests on faulty assumptions, we may still be able to construct reliable estimates of value by adjusting for such assumptions. See Anselmo v. Commissioner, 80 T.C. 872">80 T.C. 872, 884-885 (1983), affd. 757 F.2d 1208">757 F.2d 1208 (11th Cir. 1985).652 Mr. Strachota testified that, were petitioner's direct stock ownership in Ford Mercantile to be sold separately, a 20 percent discount for a minority interest and a 10 percent discount for lack of marketability should be allowed in valuing that interest. 19 We thus will allow a reduction in the value on the valuation date of petitioner's stock interest in Ford Mercantile so as to take account of a 20 percent discount for a minority interest and a 10 percent discount for lack of marketability. We note that, aside from urging us to accept the discounts for minority interest and lack of marketability offered by Dr. Sherman, which we have declined to do, petitioner does not seek any further adjustments in the discounts allowed by respondent's expert with respect653 to petitioner's stockholdings in the Ford holding companies. Accordingly, we will make no adjustments in those discounts other than as stated above. Valuation of Ford MovingHaving valued the stock of each of the holding companies, respondent's expert proceeded to value the stock of the last remaining Ford company, Ford Moving. Respondent's expert valued the stock of Ford Moving based on a consideration of the factors enumerated in Rev. Rul. 59-60. After examining its assets and manner of operation, respondent's expert concluded that a significant portion of Ford Moving's assets were not required for its transfer and storage business and that the company should be valued as a blend of an operating company and a holding company. According to respondent's expert, analysis of Ford Moving's financial position using various ratios and industry norms indicated that the company had excessive levels of nonoperating assets. Petitioner argues that those assets were being held for future use in obtaining modern warehouse facilities and therefore were required for Ford Moving's business. However, whatever Ford Moving's future plans might have654 been for such assets, 20 we conclude that respondent's expert was justified in determining that they were not being used in the operating business on the valuation date. Pursuant to its conclusion that Ford Moving was a blend of an operating company and a holding company, respondent's expert divided Ford Moving into two components for valuation purposes. It thus separated the nonoperating assets from the operating assets and determined the fair market value on the valuation date of those nonoperating assets. We have in the past accepted such a division of a company into operating and investment components for valuation purposes. Gallun v. Commissioner, T.C. Memo 1974-284">T.C. Memo. 1974-284. The nonoperating assets of Ford Moving consisted of marketable securities, its 36.19 percent stock interest in Ford Mercantile, amounts due from stockholders (stockholder account), and cash655 in excess of industry norms as determined by respondent's expert. The marketable securities were valued using values provided by petitioner, and there is no dispute as to these values. The stock of Ford Mercantile was valued by taking a pro rata share of respondent's expert valuation of the assets of that corporation, without allowance of any discounts. The figure for stockholder account was taken from Ford Moving's balance sheet. Respondent's expert thus valued the nonoperating assets at $ 965,000, as follows: AssetFair Market ValueCash$ 170,000Marketable Securities295,213Stock in Ford Mercantile462,978Stockholder Account37,610Rounded Total Per$ 965,000Respondent's ExpertFor the reasons set forth above in our discussion of the valuation of the four holding companies, we find appropriate, and accept, respondent's expert's asset-based valuation of the investment or holding component of Ford Moving. Respondent's expert then proceeded to value the portion of Ford Moving which operated the transfer and storage business. In valuing that component, respondent's expert considered the state of the national and local economies, the nature of the transfer656 and storage industry, and the history of Ford Moving's business. The report of respondent's expert indicated that the national and local economic outlook at the valuation date was generally good. Respondent's expert also noted various trends in the transfer and storage industry, such as the increase in price competition due to deregulation, the rise in palletization of commercial goods, and the beginning of a decrease in demand for household moving services due to reductions in military personnel and white collar corporate employees. Nevertheless, based on an analysis of Ford Moving's financial statements using commonly accepted ratio tests, respondent's expert concluded that the company's overall financial position on the valuation date was excellent. With respect to the commercial division of Ford Moving's transfer and storage business, respondent's expert indicated that the trend to store and transport commercial goods on pallets, which can be stacked high and moved by forklifts, rendered obsolete old, multistory warehouses and required the industry to invest in single story, high-ceilinged warehouses. Respondent's expert observed that Ford Moving, having relocated before 657 the valuation date its commercial division to the large, single story warehouse at 7402 L Street, which it leased from Ford Mercantile, was acting to remain competitive in the industry. With respect to the household goods division of Ford Moving, respondent's expert indicated that, through its performance of the Allied Van Lines agency agreement held by Ford Van, Ford Moving was able to offer nationwide moving services. Respondent's expert found that, in 1988, most of the household goods division's revenue came from long-distance moving services and only a relatively small percentage was attributable to storage of goods. Respondent's expert also noted that, due to the longer period of time household goods were stored, efficiency was not as important as in commercial warehousing and that consequently multistory warehouses were still adequate for storage of household goods. In valuing the operating portion of Ford Moving, respondent's expert developed values under three major valuation approaches: the asset value method, the discounted cash flow method, and the market comparable method. The asset value method arrives at a value for a business by adding the tangible net worth of 658 a company, based on the market value of the tangible assets, to the goodwill value resulting from capitalizing excess earnings. Excess earnings are calculated by subtracting economic depreciation on tangible assets and return on invested capital from estimated before-tax earnings. Earnings estimates are developed from historical information and an assessment of a company's future. A capitalization rate is then applied to excess earnings to yield a value for goodwill. 21 The capitalization rates selected take into account the illiquidity of Ford Moving's stock. Thus, a discount for lack of marketability is built into the valuation produced under the asset value method. Long-term debt is deducted from total asset value to yield net asset value on the valuation date. Under this method, respondent's expert estimated the value of the operating portion of Ford Moving to be $ 240,000. 659 Under the discounted cash flow method -- the second method under which respondent's expert developed a value for the operating component of Ford Moving -- future years' earnings over a certain period are estimated using historical data and an assessment of future prospects, with the cost of replacements being deducted to yield actual projected cash flow in each such year. A selected discount rate is then applied to each year's projected cash flow. The discount rate selected takes into account the illiquidity of Ford Moving's stock. Thus, a discount for lack of marketability is built into the valuation produced under the discounted cash flow method. The discounted cash flow projected for each year is totaled to produce the present value of future earnings for the projected period. The present value of estimated residual value of the business at the end of the projected period is added to yield the total present value of the business. Long-term debt outstanding on the valuation date is subtracted from the total present value of future cash flow to yield the net present value of that flow. Using the discounted cash flow method, respondent's expert estimated the value of the operating660 portion of Ford Moving at $ 210,000. The third method -- the market comparable method -- used by respondent's expert arrives at an estimate of value based on the market price of actively traded stocks of companies comparable to the one being valued. Respondent's expert developed a list of publicly traded companies comparable to Ford Moving based on characteristics such as size, profitability, financial condition, growth rate, and quality of earnings. Respondent's expert also examined information on sales of comparable companies from a confidential small business data exchange. From this market data, the factors to be used in various ratios used to calculate stock value, such as the price earnings ratio, were developed. Applying those ratios to financial information for Ford Moving, and allowing for a 35 percent control premium and 25 percent lack of marketability discount, respondent's expert estimated the value of the operating portion of Ford Moving at $ 230,000. Having developed different values under different approaches for the operating portion of Ford Moving, respondent's expert added to each such value the value it determined for Ford Moving's nonoperating assets, namely, 661 $ 965,000, in order to produce a fair market value for all of its stock under each method. The various estimates of value reached under the foregoing methods are summarized in the following table: Value of OperatingTotal Value of OutstandingMethodPortion of Ford MovingFord Moving StockAsset Value$ 240,000$ 1,205,000DiscountedCash Flow210,0001,175,000Market Comparable230,0001,195,000Respondent's expert then compared the estimates of value and determined the weight to be given each. Respondent's expert concluded that the asset value method and discounted cash flow method produced the most reliable indications of value, and therefore it placed considerable weight on those approaches. Respondent's expert accorded the least weight to the market comparable approach because the similarities between Ford Moving and the comparables found were limited. After considering all indicators of value, respondent's expert concluded that on the valuation date the value of all the stock in Ford Moving was $ 1,200,000. Respondent's expert then valued decedent's 74.56 percent interest in Ford Moving at $ 894,720, representing a pro rata share of the company's662 total value. Since petitioner held a majority of the stock in Ford Moving, respondent's expert did not allow any discount for a minority interest. Respondent's expert also concluded that no further discount needed to be taken into account in valuing petitioner's Ford Moving stock because any applicable discount for lack of marketability had been factored into the process of estimating the value of the operating portion of Ford Moving under the asset value, discounted cash flow, and market comparable approaches. Respondent's expert did not expressly state whether this lack of marketability discount was intended to apply to both the operating and nonoperating portions of Ford Moving. The discount allowed by respondent's expert with respect to Ford Moving was applied only to the value of the operating portion of the company. Respondent's expert did not discuss whether a lack of marketability discount was allowable with respect to the nonoperating portion of Ford Moving. We note that, in valuing petitioner's majority interest in Ford Van, respondent's expert stated that no such discount should be taken into account in valuing a controlling interest in a holding company. It appears663 to us that respondent's expert has applied that assumption here and has allowed no lack of marketability discount with respect to the value of the nonoperating portion of Ford Moving, which respondent's expert valued as if it were a holding company. As noted in our discussion of the valuation of petitioner's Ford Van stock, a lack of marketability discount may be allowed even where a controlling interest is being valued. The discount allowed in valuing the operating portion of Ford Moving is inadequate to reflect the reduction in value of the combined operating and nonoperating portions of Ford Moving due to the lack of marketability of that company's stock. Respondent's expert has concluded that a 10 percent discount is required to reflect the diminution in the value of petitioner's stock in certain of the Ford holding companies due to the lack of a ready market for their stock. We will accordingly allow a 10 percent discount from the value of the nonoperating assets of Ford Moving in order to take into account fully the effect of lack of marketability on the value of petitioner's stock in that company. Petitioner objects that respondent's expert overvalued the operating portion664 of Ford Moving by failing to consider adequately the effect of the loss of the Honda account on the company's prospects. Petitioner notes that this account represented a substantial portion of Ford Moving's business and that income generated from it made the difference between profit and loss in the years preceding decedent's death. Contrary to petitioner's assertion, in valuing Ford Moving, respondent's expert did note the adverse impact on Ford Moving's value resulting from its dependence on large customers such as Honda and Kellogg. Respondent's expert therefore projected that revenue would fall somewhat in 1989, the year following the termination of the Honda account. Respondent's expert, however, concluded that the business would be slowly replaced. We agree with respondent's expert's conclusion that the Honda business would be replaced. We note that Honda's letter to Ford Moving concerning the termination of the account makes clear that Honda expected Ford Moving to find replacement customers who would offset Honda's obligation to make lease payments on the space formerly used to store Honda products. Furthermore, Ford Moving's commercial division enjoyed the benefit 665 of experienced management, being headed by decedent's son, Jack Ford, who had over 40 years' experience with the company. 22 In addition, respondent's expert pointed out, and we find it significant, that revenues actually increased in 1989 and 1990, showing that Ford Moving had already recovered from the loss of the Honda account. We note that, while property is to be valued on the basis of the situation existing on the valuation date, subsequent events may be considered in assessing the reasonableness of expectations for the future as of that date. Estate of Gilford v. Commissioner, 88 T.C. at 52-53. We believe that the loss of the Honda account did not adversely affect the value of Ford Moving's stock on the valuation date to the extent contended by petitioner. We therefore find respondent's expert valuation of the stock of Ford Moving to be reliable and persuasive. Accordingly, we accept that value here, except as modified above. 666 We have considered petitioner's other objections to the report of respondent's expert and find that they lack merit. ConclusionBased on our consideration of the entire record in the instant case, we conclude that, with the exceptions noted above, the opinion of respondent's expert of the fair market value of the stock at issue in each of the five Ford companies is probative and persuasive. In contrast, we find the opinion of petitioner's expert to be of no probative value in this case. Accordingly, except as modified by the foregoing discussion, we hold that the opinion of respondent's expert accurately reflects the fair market value of decedent's stock in each of the Ford companies as of the date of his death. To reflect the foregoing, Decision will be entered under Rule 155. Footnotes1. The report prepared by respondent's expert arrived at a somewhat higher aggregate value for the stock at issue than used by respondent in preparing the notice of deficiency (the notice). Although respondent has modified her determination to reflect the evidence of value received at trial, she has not sought to increase the amount of the deficiency. Accordingly, the Court will not enter a decision in excess of the deficiency determined in the notice. Sec. 6214(a); Pallottini v. Commissioner, 90 T.C. 498">90 T.C. 498, 500 (1988); Estate of Petschek v. Commissioner, 81 T.C. 260">81 T.C. 260, 271-272 (1983), affd. 738 F.2d 67">738 F.2d 67 (2d Cir. 1984); see Guaranty Trust Co. of New York, Executor v. Commissioner, 31 B.T.A. 19">31 B.T.A. 19, 23 (1934), affd. per curiam 76 F.2d 1010">76 F.2d 1010↩ (2d Cir. 1935).2. Respondent made certain other adjustments in the statutory notice of deficiency, increasing the assets of the estate by $ 5,117 and increasing expenses allowed by $ 9,000 for administrative expenses and by $ 1,187 for Federal income taxes due from decedent. These adjustments had been reported by petitioner on an amended estate tax return. Petitioner conceded the increase in assets and the amount of additional Federal income tax expense. Petitioner also conceded the amount of the administrative expense increase determined by respondent, reserving the right to claim certain additional items of expense and interest.↩3. The building at 7402 L Street had been purchased for $ 1,800,000 and financed by $ 300,000 in loans from related companies and a mortgage of $ 1,350,000 which was guaranteed by Ford Dodge and R.A. Ford-Douglas Real Estate Co. (Ford Douglas).↩4. Although sec. 2032 permits taxpayers to elect an alternate valuation date, petitioner did not make such an election.↩5. All section references are to the Internal Revenue Code in effect at the date of decedent's death. All Rule references are to the Tax Court Rules of Practice and Procedure.↩6. Although the stock that was the subject of the gifts was valued for Federal gift tax purposes, we are not inclined to attach any weight to those valuations. In the case of gifts made within three years of decedent's death, the value assigned the stock resulted in a value of each gift of under $ 10,000, the annual exclusion amount. Sec. 2503(b). Consequently, we regard those values as at best a floor.↩7. In some situations, however, the peculiar nature of a corporation may preclude reference to listed securities. Estate of Lee v. Commissioner, 69 T.C. 860">69 T.C. 860, 869↩ (1978).8. We note that revenue rulings are not generally regarded as precedent in this Court, but we will take into account the principles set forth in Rev. Rul. 59-60, 1 C.B. 237">1959-1 C.B. 237, to the extent they represent a correct approach to the valuation of property. See Stark v. Commissioner, 86 T.C. 243">86 T.C. 243, 250-251↩ (1986).9. We note that the valuation of decedent's stock in Ford Moving in the notice of deficiency was less than that found by respondent's expert. As discussed below, respondent's expert provided cogent evidence of the value of the stock of that company, and we have accepted that expert's opinion of value, with only minor modifications.↩10. In his explanation of the formula used for Ford Moving and Ford Van, petitioner's expert erroneously stated in his report that the applicable factor was 10, but he testified at trial that he used the factor of 12 in his actual calculations.↩11. Petitioner's expert acknowledged at trial that he was aware that the appraisals of real estate, trucks, and trailers had been obtained by petitioner. Although he was unaware that the securities issued by unrelated entities that were owned by the Ford companies had been appraised, he did not attempt to ascertain their fair market values.↩12. We are, however, not bound by any hard-and-fast rule in any given situation. Rather, we will consider all factors, giving weight to those which we find affect value.↩13. Cases cited by petitioner are Estate of Cotchett v. Commissioner, T.C. Memo. 1974-31; Estate of Smith v. Commissioner, a Memorandum Opinion of this Court dated Oct. 17, 1950; Goss v. Fitzpatrick, 97 F. Supp. 765 (D. Conn. 1951); Blackard v. Jones, 62 F. Supp. 234↩ (W.D. Okla. 1944).14. The record shows that a substantial portion of the assets of the holding companies was of a type which would appeal to an investor interested in a long-term, rather than current, return. For instance, Mr. Yager's appraisals of the warehouse properties noted that there was no market for the older buildings as income-producing investments, while the newer buildings were not of the type generally held by investors seeking returns from rentals. Furthermore, three of the holding companies held stock in Ford Mercantile, which, like the other Ford companies, paid no dividends. Moreover, even if certain assets of the holding companies might not be expected to appreciate, an asset-based valuation approach is still valid due to the absence of active business operations by the holding companies. Under such circumstances, their assets are the only things of value which the holding companies possess.↩15. Respondent's expert did not base its decision not to allow a lack of marketability discount on the liquidity of Ford Van's assets. Accordingly, we conclude that Ford Van's ownership of certain liquid assets does not preclude allowance of a non-marketability discount in the instant case.↩16. Respondent's expert concluded that petitioner had indirect control over Ford Mercantile based on petitioner's control over Ford Van and Ford Moving. Ford Van owned 14.70 percent of Ford Mercantile, and Ford Moving owned 36.19 percent of Ford Mercantile, giving petitioner indirect control of 50.89 percent of Ford Mercantile's stock. When such interests are combined with petitioner's 6.86 percent direct interest in Ford Mercantile, respondent's expert concluded that petitioner controlled 57.75 percent of Ford Mercantile's shares.↩17. In addition, in valuing the stock of the Ford companies that held Ford Mercantile stock, respondent's expert did not allow any discount for minority interest or lack of marketability with respect to each such company's holdings of Ford Mercantile stock, even though each company's holdings of Ford Mercantile stock was a minority interest. Respondent's expert reasoned that such discounts were unnecessary due to petitioner's indirect control over Ford Mercantile. As we note below, we do not find that a seller would necessarily be able to sell petitioner's stockholdings in such a way as to realize the undiscounted value of the Ford Mercantile stock. Petitioner, however, has not requested that such discounts be allowed in valuing the stock of the companies holding Ford Mercantile stock, and we have generally been unwilling to allow "second stage" discounts, reasoning that any discount in value attributable to such factors is adequately reflected in the discounts allowed in valuing the stock of related companies at issue. Martin v. Commissioner, T.C. Memo. 1985-424; Estate of O'Connell v. Commissioner, T.C. Memo. 1978-191, affd. in part and revd. in part without discussion of this issue 640 F.2d 249">640 F.2d 249↩ (9th Cir. 1981). We will accordingly not allow any discounts for purposes of valuing the Ford Mercantile stock held by the other Ford companies.18. Although the mortgagee of this warehouse had demanded financial statements (Ford Moving, Ford Dodge, Ford Douglas) and guarantees (Ford Dodge, Ford Douglas) of companies other than Ford Mercantile before making the mortgage loan, it was not a condition of that loan that the companies remain under common control.↩19. Although Mr. Strachota's testimony with respect to the appropriate amount of each discount is somewhat ambiguous, we interpret it to be consistent with the discounts allowed by respondent's expert with respect to the stock of Ford Dodge and Ford Real Estate.↩20. We note that the record is devoid of any evidence showing what future plans might have existed on the valuation date.↩21. In valuing the assets of Ford Moving, respondent's expert used the excess earnings approach to value goodwill. Under this approach, the component of income attributable to tangible assets is deducted from net income, and the remaining income is attributed to goodwill, which is then discounted to present value. See Rev. Rul. 68-609, 2 C.B. 327">1968-2 C.B. 327↩, which describes the technique used. Although the excess earnings method has been criticized, most notably by respondent herself, see Pratt, Valuing a Business, 101-106 (2d ed. 1989), because of the often arbitrary selection of the discount rates used, we find here that the discount rates used were sound. They were based on a study conducted by the Institute of Business Appraisers. Thus, we find the resulting valuation of excess earnings reliable.22. Respondent's expert noted that decedent had limited involvement with the business during the five years preceding his death. Thus, decedent's death did not adversely affect the company's prospects.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619825/	Edna Schulman v. Commissioner.Schulman v. CommissionerDocket No. 38940.United States Tax Court1953 Tax Ct. Memo LEXIS 280; 12 T.C.M. (CCH) 448; T.C.M. (RIA) 53143; April 24, 1953280 Marvin K. Collie, Esq., 11th Floor, Esperson Building, Houston, Tex., and R. P. Bushman, Esq., for the petitioner. George H. Seefeld, Esq., for the respondent. JOHNSON Memorandum Findings of Fact and Opinion JOHNSON, Judge: The respondent has determined deficiencies in income tax as follows: YearDeficiency1946$12,246.10194710,151.53The first issue to be decided is whether petitioner, her son, Alfred Schulman, and the Billy Schulman trust were bona fide partners in the partnership known as the Bryan Amusement Company during 1946 and 1947. The second issue is whether a tax deficiency paid by petitioner in 1947 as a transferee of the Bryan Amusement Company, Inc., which was dissolved in 1944, constituted a long-term capital loss or an ordinary loss. Findings of Fact Some of the facts are stipulated and are so found. The petitioner, Edna Schulman, is an individual residing in Bryan, Texas. The returns for the years before us were filed with the collector of internal revenue for the first district of Texas. Petitioner's husband and his father were in the theater business in Bryan since 1926. They were first partners and later incorporated281 the business under the name of the Bryan Amusement Company, Inc. Petitioner, after the decease of her husband in 1935 and his father in 1936, acquired 250 shares, half of the outstanding shares, in the company, and her sister-in-law, Mrs. Leah Lazarus, acquired the other 250 shares. From 1936 until January 1, 1944, petitioner and Mrs. Lazarus constituted the principal officers and the managers of the company. Prior to 1944 petitioner was the only stockholder living in Bryan, and consequently a large part of the managerial duties of the business fell upon her. Alfreed Schulman, one of petitioner's sons, was 15 years old, and Billy, another son, was 9 years old at the time of their father's death. Alfred had worked around the theaters from the time that he was 12. He served as relief cashier, relief doorman, and relief usher. After his father's death Alfred continued in this work and began assuming greater responsibility in the business. Later, while Alfred was at college and at law school in Austin, Texas, 100 miles away from Bryan, he actively participated in the management and the operation of the business. Regularly he returned to Bryan on weekends. He wrote business letters, 282 participated in business conferences, helped establish policy and assisted his mother in booking films. Alfred was admitted to the practice of law in Texas in 1942. Shortly thereafter he entered the Army. While in the Army he participated in the business as much as possible. He corresponded with his mother and had frequent long distance telephone conversations with her concerning business matters. When petitioner had any major business problems she always discussed them with Alfred prior to taking any action upon them. She relied on Alfred's judgment in business matters. In 1943 petitioner informed Alfred that she planned to give him and his brother 62 1/2 shares each of the 250 shares she held in the Bryan Amusement Company, Inc. Alfred had suggested to his mother that the business form be changed from a corporation to a partnership. In the latter part of December, 1943, a proposed partnership agreement was discussed in a conference at Houston, Texas. Petitioner, Mrs. Lazarus, their attorneys, and Alfred attended this conference. On January 3, 1944, petitioner gave, unconditionally, 62 1/2 shares of her stock in the company to Alfred individually, and also 62 1/2 shares of stock283 to the Billy Schulman trust. The trust agreement was executed by petitioner, as settlor, and Alfred, as trustee, on January 3, 1944. Billy was then 18 years old. In the trust agreement petitioner waived and relinquished any and all rights to the ownership, enjoyment or use of the income and principal of the trust. The gift was irrevocable. The trust was to terminate in 1956, or sooner within the discretion of the trustee, but not before the beneficiary reached majority. The trustee was authorized to invest the trust funds or property in a partnership, and the trustee could become a partner in the partnership. The trustee's compensation was 2 per cent of the net income of the trust. Petitioner reserved the right to make additional contributions to the trust. Provision was also made for the appointment of successor trustees if they were needed. Petitioner wanted to make the gift outright to Billy but it was made in trust because Billy was then a minor. Petitioner's gift was made in this form upon the advice of counsel. On January 3, 1944, a written partnership agreement was executed by petitioner, Alfred and Mrs. Lazarus. Alfred signed for himself and also as trustee for the Billy284 Schulman trust, Mrs. Lazarus for herself and also as trustee for two trusts. 1 The agreement, in part, is as follows: "ARTICLE I." "The parties hereto agree to become and remain partners in the business or businesses of carrying on and conducting * * a motion picture * * * business * * " "ARTICLE II." "The name of the partnership shall be 'BRYAN AMUSEMENT COMPANY'" * "ARTICLE IV." "The partnership capital shall be and is contributed by the partners in cash and property in the following amounts and percentages: "PartnersAmountPercentagesLeah25Edna25Alfred12 1/2Linda Trustee12 1/2Henry Trustee12 1/2Billy Trustee12 1/2100%"The agreement also provided that the profits and losses would be distributed in the same ratio as the capital contributions. In general, the provisions in the agreement gave the ultimate control of the partnership to the petitioner and Mrs. Lazarus. The Bryan Amusement Company, Inc., was dissolved on January 6, 1944. The liquidating trustees of the corporation transferred the real estate and285 personal property owned by the corporation to the partnership. Alfred went overseas with the armed forces shortly after January 3, 1944, and was discharged in October 1945. After his discharge he resumed his studies and received a Master of Laws Degree in June 1946. Alfred divided his time between Bryan and Houston, where he was starting the practice of law. Bryan was within easy driving distance from Houston. During this time he actively participated in the management of the partnership business and it had first call on his time. Attendance to the business was important because the business was his primary source of income. At times he managed the theaters, signed checks, employed and dismissed personnel, made reports and deposits, and handled correspondence on behalf of the partnership. He also booked movies for the partnership. Alfred was recognized as a partner and owner of the business by the fire insurance underwriters who insured the partnership property. The Unemployment Insurance Account was carried in the name of "Al Schulman, et al., d/b/a Bryan Amusement Company." Pursuant to Texas statutes his name was included with the partners and the partnership name in the county286 records. The Social Security Account registration of the partnership was in the name of petitioner, Mrs. Lazarus, and Alfred Schulman. During the years before us the partnership had approximately 21 employees. There were cashiers, doormen, ushers, motion picture projector operators, porters and a secretary. During this period Billy was assistant manager and at times had charge of the supervision of the employees in the theaters. He was also in charge of the popcorn and candy concessions and the poster advertising. In 1947 Billy attended the University of Texas at Austin where he studied business administration. During the summer and on weekends he returned to Bryan to work in the theaters. Alfred as trustee kept a record of trust receipts and disbursements, and a separate bank account for the trust. In working for the business, Alfred acted not only for himself as an individual but also as a trustee for the Billy Schulman trust. The profits of the partnership for the years 1946 and 1947 were distributed currently to petitioner, Alfred and the trust in the ratio of their capital contributions to the partnership. The books of the company reflected the fact that Alfred was a partner, 287 individually and as trustee. Petitioner, Alfred and the trust reported and paid income tax on their partnership income for 1946 and 1947. There was a real intention on the part of petitioner, Alfred and the trust to join together in the agreement of January 3, 1944, to carry on the business as partners; the parties acted in good faith and with a valid business purpose. Opinion The primary question in this case is whether the petitioner, her son Alfred, and the Billy Schulman trust were bona fide partners in the conduct of the Bryan Amusement Company. The evidence clearly shows that they were partners. The question that arises because one of the named partners was a trust is not new or novel. We have held in past decisions that trusts may be partners, and our decision here is in harmonious accord with such decisions as ; ; , and (decided March 19, 1953). The parties executed a written partnership agreement. Each of them made a capital contribution to the partnership. In the theater business capital288 is an important income-producing item. The fact that the capital of Alfred and the trust originated as a gift from the petitioner does not vitiate the partnership where the gifts were complete and the petitioner never thereafter exercised dominion or control over the gifts. . The partners agreed to participate in the profits and losses from the business. The profits and losses were to be distributed in the ratio of their capital contributions. The profits for the years 1946 and 1947 were actually distributed in accordance with their written agreement. The testimony of the parties was that they intended to be partners and that they were partners. The general public and other businesses which served and supplied the Bryan Amusement Company considered the parties to be partners. The petitioner and her sons participated in the day to day operation of the theaters. Alfred's ability as a business man contributed to the success of the enterprise. There is no evidence of mala fides but on the contrary all of the testimony and the evidence indicates tha the parties acted in good faith with a business purpose in the conduct of their business. 289 We have here a situation where a wife took over her husband's prosperous business after his death, and later, for the benefit of their sons and their combined financial security and to give them an interest in that business, formed a real business partnership with them. Petitioner and Alfred, as an individual and as a trustee, intended the business to be a partnership. They owned and operated it as a partnership; they shared in the profits as partners. We can only conclude that petitioner, Alfred and the Billy Schulman trust were partners in the Bryan Amusement Company. The shares of partnership income distributable to Alfred and the trust in 1946 and 1947 were not includible in petitioner's income. The petitioner created a second issue when she alleged error in respondent's holding that a tax deficiency paid by her as transferee of the Bryan Amusement Company, Inc., constituted a long-term capital loss rather than an ordinary loss. She has not supported this allegation of error, either with evidence at the hearing or with argument on brief. We can only conclude that she has abandoned her position and therefore the respondent must be sustained on this issue. Decision will be entered*290 under Rule 50. Footnotes1. The present proceding does not involve the Lazarus side of the partnership.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619828/	ANNA VONDERMUHLL, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Vondermuhll v. CommissionerDocket Nos. 43379, 45076.United States Board of Tax Appeals29 B.T.A. 895; 1934 BTA LEXIS 1462; January 24, 1934, Promulgated 1462 Trust funds held by trustees in New York and deposited by them with bankers there produced interest which the bankers paid to the trustees, who paid it to the sole beneficiary, a nonresident alien. Held, the beneficiary is not exempt from income tax thereon under section 217(a)(1)(A) of the Revenue Acts of 1924 and 1926. Oliver C. Reynolds, Esq., and Robert B. Cumming, Esq., for the petitioner. Frank A. Surine, Esq., for the respondent. SEAWELL895 OPINION. SEAWELL: These proceedings, consolidated for hearing, involve redetermination of deficiencies for the respective years 1924, 1925, and 1926 of $3,324.94, $2,868.48, and $4,389.73. Petitioner received certain income as a beneficiary of two trusts during the years 1924, 1925, and 1926, which the respondent determined to be taxable, but which the petitioner claims to be exempt from tax (under section 217, Revenue Act of 1924) on the ground that the income was interest on deposits with persons carrying on the banking business paid to her, a nonresident alien not engaged in business within the United States and not having an office or place of business therein. This is the sole1463 issue involved in these proceedings, which were consolidated for hearing, and it is common to each of the years. The correct answer to the issue depends on the interpretation and application of the statute mentioned. The pertinent parts of the statutes (section 217(a)(1)(A), Revenue Acts of 1924 and 1926) are as follows: In the case of a nonresident alien individual * * the following items of gross income shall be treated as income from sources within the United States: (1) Interest on bonds, notes, or other interest-bearing obligations of residents, corporate or otherwise, not including (A) interest on deposits with persons carrying on the banking business paid to persons not engaged in business within the United States and not having an office or place of business therein. * * * The petitioner, at all times herein material, was a citizen of Switzerland and a resident of the city of Basel in that country; she was not engaged in business within the United States and had no office or place of business therein. Her husband, who had been a member of the partnership of William Iselin & Co. of New York City, died in May 1920, leaving a large estate in this country, some of1464 which was at the time deposited with that firm. Petitioner received about 60 percent of all of said property and about July 17, 1920, transferred it to her two sons, George A. Vondermuhll and 896 Alfred E. Vondermuhll - a portion to each. On that date George A. Vondermuhll made a conveyance to his brother and himself as trustees of the portion of the property transferred to him by his mother, which portion is described as follows: (a) The sum of Three Hundred Nine Thousand Seven Hundred Twenty and 51/100 Dollars ($309,720.51) on deposit with the firm of Wm. Iselin & Company of New York, in the name of Alfred Vondermuhll, which was the property of the Grantor's father, Alfred Vondermuhll, until the time of his death and thereafter the property of said Anna Vondermuhll-Hoffman; (b) The further sum of One Hundred Twenty-one Thousand Eight Hundred Sixty-two and 32/100 Dollars ($121,862.32) being a portion of the sum owed by the Grantor to his father, said Alfred Vondermuhll, during his life time, and after his death to his mother, said Anna Vondermuhll-Hoffman. The conveyance recited that the property above described had been transferred to the grantor by his mother "upon1465 the condition and understanding that there shall be paid to said Anna Vondermuhll-Hoffman during her life the net income derived from said monies and that all of said monies be on deposit with said Wm. Iselin & Company of New York at six per cent per annum interest, with power, however, to make changes in the investment of said monies." It was recited further therein that the conveyance to the trustees was made in pursuance of said understanding. In the habendum clause of the conveyance it was contracted that the trustees (himself and his brother) were to hold and manage the monies and all proceeds and reinvestments thereof in trust during the life of Anna Vondermuhll and "apply the net income thereof to her use during her life, and at her death to pay over the same to the Grantor, or if the Grantor be not then living, to such person or persons" as the grantor by will should appoint, or, if there was no will, then to the persons entitled to the property under the laws of New York. The trustees were given power "to allow the Trust Fund to be on deposit with Wm. Iselin & Co. at six per cent per annum interest or to invest the same from time to time, and as often as they see fit, resell1466 and reinvest the proceeds either in securities * * * or in any stocks, bonds * * * or property"; and the trustees were not to be held responsible for any depreciation in investments or errors of judgment, or for any cause except willful fraud. In case of a vacancy of a trustee, the survivor should appoint; or if a vacancy of both, then the persons presumptively entitled to the next eventual estate should appoint; And on the same date, July 17, 1920, Alfred E. Vondermuhll made a conveyance to his brother and himself as trustees of the portion of the property transferred to him by his mother, which consisted of an itemized list of United States bonds, and domestic municipal and industrial bonds, and bonds of France, Cuba, Great 897 Britain, and Sweden, all aggregating $527,000. The conveyance was in all material respects like that of George A. Vondermuhll mentioned above. During the years 1924, 1925, and 1926 petitioner received from the trustees the following amounts paid to them by the parties indicated: 192419251926William Iselin & Co$26,875.62$26,700.65$26,840.88A. Iselin & Co68.6845.0655.14Arthur J. Rosenthal & Co10,143.33Total26,944.3026,745.7137,039.351467 These receipts were not derived in any way from any of the foreign bonds included in the trust funds, but the whole thereof was derived by the trustees from the parties indicated as payments made by them as interest at 6 percent per annum on funds deposited by the trustees during the years indicated with the payors named. No part of these receipts was included in the income tax returns of petitioner or of the trustees for the several years named, and the whole thereof is involved in these proceedings. The trustees, George A. Vondermuhll and Alfred E. Vondermuhll, are citizens and residents of the United States, as are also the partners composing the firms of William Iselin & Co., A. Iselin & Co., and Arthur J. Rosenthal & Co. The firm of William Iselin & Co., of which the husband of petitioner was a member prior to 1920, when he died, was during the years here involved composed of seven partners; its business was that of factors and comprised many activities, such as discounting sales of current obligation accounts and guaranteeing credits, receiving assignments of accounts and consignments of merchandise and making advances against these and other collaterals, carrying1468 deposit accounts of manufacturers, merchants and others, upon which it paid interest at the rate of 6 percent per annum to the depositors and used the funds in financing its regular business; there were about 20 of such accounts, aggregating about $1,400,000, including that of the trustees. The firm was sometimes termed financial agents or taxtile bankers by merchants and manufacturers. The firm of A. Iselin & Co. during the years involved was also a partnership engaged in various activities, including buying and selling stocks, bonds and securities for its own account and for the account of others, acting as members of a syndicate underwriting such securities, dealing in foreign exchange, acting as fiscal and transfer agents, custodian of securities, receiving money for transmission, issuing letters of credit, and receiving deposits, in some cases subject to check or 898 draft or instructions from clients. The trustees deposited some of their funds with this firm and received from it interest thereon at the prevailing rate, under contract, as shown above. The firm of Arthur J. Rosenthal & Co. was also a partnership during the year 1926, and was known as investment1469 bankers, and engaged in the brokerage business, buying and selling foreign exchange and securities on its own account and for others on commission, lending and borrowing money, receiving securities for safe-keeping and collecting and remitting, or crediting the income therefrom to clients; when income was credited, it was subject to draft. Deposits were attracted and received and used with the firm's capital in its general business. Such deposits, some of which were received on time basis - 30 days to a year - were subject to draft. During the year the trustees had on deposit with the firm $200,000, and the firm paid to the trustees as interest thereon the sum of $10,143.33, which was remitted by the trustees to the petitioner as stated above. The petitioner contends that the money paid to her was "interest on deposits with persons carrying on the banking business paid" to her "a person not engaged in business within the United States and not having an office or place of business therein" as provided in the exception (A) of section 217(a)(1) of the Revenue Acts of 1924 and 1926, mentioned above. The respondent, on the other hand, contends that what was paid to petitioner was1470 not "interest", but income from a trust; that petitioner had no deposit, but if the deposits were hers they were not "with persons carrying on the banking business," and even if the persons were carrying on the banking business, they never "paid" the money to petitioner, but to certain trustees, and that petitioner's situation is exactly as that described in I.T. 1405, where the ruling is contrary to her contention. To this petitioner replies that the trustees, under all the circumstances here, were her agents and constituted merely a "conduit" through which interest due her was paid by the bankers; that the payments were made by bankers, a bank being defined as a "* * * firm, or company having a place of business where credits are opened by * * * deposit * * * subject * * * to check * * ," citing section 3407 of the Revised Statutes (Revision of 1878). Richmond v. Blake,132 U.S. 592">132 U.S. 592. I.T. 1405, C.B. I-2, p. 149, was made with reference to section 217(a) of the Revenue Act of 1921, which is identical with the same section of the Revenue Acts of 1924 and 1926, and is to the effect that interest on deposits credited to the account of trustees and remitted by1471 them to a nonresident alien is not "interest on deposits with persons carrying on the banking business paid to persons not engaged in business within the United States and not having an office or place of business therein," but "the statute contemplates 899 that the deposit shall be made by and the interest paid to the person" who is an alien without business or office or place of business within the United States. With reference to the contention of petitioner that the trustees were her agents and therefore deposits made by them were her deposits and payments made to them were payments to her, it is pointed out that under the trust instruments petitioner had no ownership of or control over the trust funds or how they should be invested and no control over the deposits, where or how they should be made, how long continued or how or by whom withdrawn; she had no power herself to draw on either the trust funds or income from them; she did not have any voice in filling a vacancy in the trusteeship, in case of a vacancy, and no power to remove or control a trustee in any manner. It is elemental that an agent is subject to the control of his principal. There does not appear1472 to be any one of the requisites of agency present here. A trustee is not an agent. Taylor v. Davis,110 U.S. 330">110 U.S. 330. Petitioner claims an exemption from the general provision of the taxing statute, and the burden, in a peculiar way, rests upon her to show that she comes within the exact provisions of the exception allowed. In Hubbard-Ragsdale Co. v. Dean, 15 Fed.(2d) 410, it is said: * * * The plaintiff claims the benefit of an exception to the general method and extent of taxing corporations. The burden is upon the plaintiff to show that it clearly comes within the terms of such exception. "In such cases, a reasonable doubt is fatal to the claim. Prima facie every presumption is against it. It is only when the terms of the concession are too explicit to admit fairly of any other construction that the proposition can be supported." West Wisconsin R.R. Co. v. Supervisors,93 U.S. 595">93 U.S. 595, 598. See also Swann v. United States,190 U.S. 143">190 U.S. 143; 1473 Cornell v. Coyne,192 U.S. 418">192 U.S. 418. Considerable doubt exists as to whether Congress intended by the words of the statute, "persons carrying on the banking business," to include persons, as disclosed by the evidence in this proceeding, in whose businesses some banking features are present as incidents thereof. It is suggested that the statute does not require in terms that such persons should be carrying on the banking business exclusively or even chiefly, or that they should be organized either as a state or a national bank. But we need not decide the point, for, if we hold that the language of the statute is sufficient to include as bankers those who paid interest to the trustees herein, nevertheless our answer to other questions involved, about which we entertain no such doubt, must exclude the petitioner from the benefits of the exception to the statute upon which she relies. For, under the language of the statute, we hold that she was not a depositor with persons carrying 900 on the banking business; that what she received was not interest, but income from the trust; that it was not paid by the bankers, if they were such, to her; and that the trustees*1474 were not agents of petitioner in their conduct of the trust. Reviewed by the Board. Judgment will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619829/	MAURICE D. AND MAUREEN SHELTON, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent; BERNICE H. AND CAROL ANN FITE, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentShelton v. CommissionerDocket Nos. 15983-86; 16083-86.United States Tax CourtT.C. Memo 1988-351; 1988 Tax Ct. Memo LEXIS 372; 55 T.C.M. (CCH) 1475; T.C.M. (RIA) 88351; August 4, 1988. James Allen Brown, for the petitioners. Stephen C. Coen, for the respondent. WHITAKERMEMORANDUM FINDINGS OF FACT AND OPINION WHITAKER, Judge: These cases were assigned to Special Trial Judge Lee M. Galloway pursuant to the provisions of section 7456(d) (redesignated as section 7443A(b) by the Tax Reform Act of 1986, Pub. L. 99-514, section 1556, 100 Stat. 2755), and Rules 180, 181, and 183 of the Tax Court Rules of Practice and Procedure.1 The Court agrees with and adopts his opinion which is set forth below. OPINION OF THE SPECIAL TRIAL JUDGE GALLOWAY, Special Trial Judge: Respondent determined deficiencies and additions to tax in petitioners' Federal income taxes as follows: Maurice D. Shelton and Maureen SheltonDocket No. 15983-86Additions To Tax, SectionsYearDeficiency6653(a)(1) 26653(a)(2)66591979$ 546$ 27.30-0--0- 19802,334116.70-0-$ 700.2019811,16558.25 349.5019825,336266.80 1,600.0019832,819140.95** 845.70374 Bernice H. Fite and Carol Ann FiteDocket No. 16083-86Additions To Tax, SectionsYearDeficiency6653(a)(1)6653(a)(2)66591980$ 4,753$ 237.65-0-$ 1,425.9019814,999249.95* 1,499.7019825,822291.10 1,746.60198211,124556.20 3,337.00Respondent also determined that the petitioners were liable for additional interest for all taxable years under the provisions of section 6621(d). 3The issues for decision are: (1) whether petitioners are entitled to a loss375 deduction under section 165; and (2) whether petitioners are liable for additions to tax determined under the provisions of section 6653(a) and section 6659. Petitioners Maurice D. Shelton and Maureen Shelton were residents of Little Rock, Arkansas, and petitioners Bernice H. Fite and Carol Ann Fite were residents of Bryant, Arkansas at the time their respective petitions were filed with the Court. FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulations of fact and exhibits attached thereto are incorporated herein by this reference. Petitioners have conceded 4 by stipulation that they are liable for all deficiencies in tax and additional interest calculated pursuant to section 6621(c). The parties agree that petitioners invested in a master videotape recording program similar to that described in our opinion in Chester v. Commissioner,T.C. Memo. 1986-355. The following schedules list the deductions, credits, and losses taken by each petitioner in connection with their376 investment in a master video recording program known as I Peter 1:25 (First Peter): 5TOTALINVESTMENTYEARINCOMEDEPRECIATIONINTERESTDEDUCTIONSTAX CREDITLOSSESMaurice D. and Maureen Shelton -- docket No. 15983-86 1979--------$ 5476--1980--------2,334--1981--------1,165--1982$ 2,661$ 10,500$ 967$ 11,4672,955$ 8,80619838,79215,4005,78121,181--12,389Total$ 11,453$ 25,900$ 6,748$ 32,648$ 7,000$ 21,195Bernice H. and Carol Ann Fite -- docket No. 16083-861980--------$ 4,753--1981--------4,999--1982--------5,822--1983--$ 26,363--$ 26,363$ 2,926$ 26,363Total$ 26,363$ 26,363$ 18,500$ 26,363377 Petitioner Maurice D. Shelton (Shelton) is an aviation electronics technician employed by Falcon Jet Corporation (Falcon Jet) at a local airfield. Mrs. Shelton is a registered nurse. Petitioner Bernice H. Fite (Fite) is an agent for Farmers Insurance Group. His wife is a registered nurse. Fite has a bachelor's degree from Columbia College, Missouri. Shelton invested $ 70,000 in First Peter by paying $ 100 cash on November 2, 1982, $ 6,900 on May 21, 1983 and executing a $ 63,000 recourse 10-year note for the balance due. The $ 6,900 was invested after Shelton received a refund from carrying back the claimed excess 1982 investment tax credit to 1979, 1980 and 1981. Fite invested $ 100,000 in First Peter by payment of $ 200 cash in December 1983 and $ 18,300 in October 1984 plus a recourse promissory note for the balance due. Fite made the 1984 payment after receiving a refund of income taxes claimed as overpaid on his 1983 tax return and refunds of 1980, 1981 and 1982 income taxes resulting from carrying back the claimed excess 1983 investment tax credit to those years. Shelton and Fite became aware of the First Peter videotape investment program through acquaintances,378 some of whom were co-workers and investors in First Peter. The acquaintances introduced Shelton and Fite to promoters of the videotape recording program. Each petitioner was furnished a prospectus and a legal opinion of a local attorney dated July 15, 1982. The attorney's legal opinion was made "FOR THE EXCLUSIVE USE" of the sellers of several videotape recording investment programs, including First Peter and the DanKryst program described in the Chester case. The writer of the legal opinion represented that he had "researched" section 38 (Investment Tax Credit) regarding its relation to production of videotapes and had investigated and inspected the operations of the investment companies. However, the attorney gave no opinion as the allowability of investment tax credits on tapes purchased by investors. He merely cautioned "any prudent investor" to seek and obtain "independent advice from their accountant or legal consultant relative to the investment tax credit." Neither Shelton nor Fite were familiar with the tape recording industry, nor were they experienced in accounting or income tax matters. After reviewing the legal opinion, neither petitioner sought independent379 accounting or legal advice concerning the viability of the First Peter investment program. Prior to investing in the First Peter recording program, Shelton read financial newsletters and magazines and attended a two-week general investment seminar offered by a local night school. The subject matter in the seminar did not include investment in master recording videotapes. Shelton relied almost exclusively on investor/co-workers at Falcon Jet and promoters for information concerning First Peter. Some co-workers had consulted C.P.A.s or tax advisors and had been advised that the investment program "was perfectly legal," and that several investors had their returns audited with no changes resulting. Prior to investing in the videotape programs, Fite secured information about First Peter from acquaintances and promoters of the program. He talked to other investors who had visited the business premises at Cabot. Fite called the local Internal Revenue Service office, inquired about the investment program, mailed an investment brochure (but not the prospectus) to the Internal Revenue Service and was advised "they didn't know of any problem with it." The 1983 tax returns of both380 Shelton and Fite were prepared by a local C.P.A. who had been referred to the petitioners by the promoters as an accountant familiar with the First Peter investment program and preparer of other First Peter investors' returns. Fite talked with the C.P.A. about the investment program and was advised there was nothing wrong with it. Petitioners never viewed or took possession of their tapes, or purchased insurance for them. OPINION Section 165 Loss DeductionPetitioners have conceded by stipulation "all deficiencies in tax" based on our Chester decision, supra. The parties agree that the First Peter program, in which Shelton invested $ 7,000 and Fite invested $ 18,500, is similar to the videotape program described in Chester. Nevertheless, petitioners now claim losses of the above amounts invested, either as a loss incurred in a transaction entered into for profit 165(c)(2), or, in the alternative, as a theft loss under section 165(c)(3). In our recent case of Wicker v. Commissioner,T.C. Memo. 1988-225, 6 the taxpayer presented a similar argument. There, the taxpayer argued that the two videotapes he had purchased for $ 18,000 were worthless; 381 and that he was therefore entitled to a deduction of $ 17,900 under section 165, based on our decision in Chester v. Commissioner, supra. However, as pointed out in Wicker v. Commissioner, supra, the Chester case held that the tapes had some value. Chester v. Commissioner, supra at n.23. Petitioners have the burden of establishing that they actually sustained losses in transactions entered into for profit during the taxable years in issue. Welch v. Helvering,290 U.S. 111">290 U.S. 111, 115 (1933); Rule 142(a). They have failed to do so. This record discloses that petitioners still own the tapes. Petitioners' argument that they are entitled to a theft loss under section 165(c)(3) is even less persuasive. Petitioners now argue that "the entire record does show that misrepresentations had been made as to the clearance by the Internal Revenue service of the investment382 program." We do not agree. There is absolutely no documentary evidence or testimony by petitioners or others that petitioners were misled by promoters, accountants, or attorneys into believing that the deductions or credits in issue had been approved by the Commissioner. To sustain a theft loss deduction with respect to amounts paid in connection with a scheme to avoid taxation, a taxpayer must demonstrate that he entered into the transaction only after having been deceived as to its nature. West v. Commissioner,88 T.C. 152">88 T.C. 152, 163 (1987); Nichols v. Commissioner,43 T.C. 842">43 T.C. 842, 887 (1965). Petitioners have again failed to carry their burden of proof. Welch v. Helvering, supra.Section 6653(a) Addition To TaxPetitioners bear the burden of proving that additions to tax determined under section 6653(a) do not apply. Luman v. Commissioner,79 T.C. 846">79 T.C. 846, 860-861 (1982); Bixby v. Commissioner,58 T.C. 757">58 T.C. 757, 791 (1972); Rule 142(a). Petitioners first argue that the negligence additions to tax are not applicable since respondent did not specify in the notice of deficiency "the petitioner's acts of383 negligence upon which he is basing his determination." The case of Kilborn v. Commissioner,29 T.C. 102">29 T.C. 102, 111-112 (1957), heavily relied on by petitioners, does not support this contention. Kilborn v. Commissioner, supra, involved an addition to tax based on income adjustments to a special reserve account of an auto sales partnership. The Court held for petitioners because it had no clue in the record of the reason for the negligence determination. The only evidence and argument on the issue, at trial and on brief, was presented by the taxpayers. Petitioners' argument that they took "reasonable steps" to investigate the First Peter program must likewise be rejected. Petitioners were advised in a legal opinion to seek independent advice concerning the tax consequences of investing in the First Peter program. They failed to do so. We find on this record a "lack of due care or failure to do what a reasonable and ordinarily prudent person would do under the circumstances." Marcello v. Commissioner,380 F.2d 499">380 F.2d 499, 506 (5th Cir. 1967), affg. a Memorandum Opinion of this Court. See also Wicker v. Commissioner, supra;384 Bilyeu v. Commissioner,T.C. Memo. 1988-209. Respondent is sustained on this issue. 7Section 6659 Addition To TaxSection 6659 applies to returns filed after December 31, 1981. Section 722(a)(4), Economic Recovery Tax Act of 1981 (ERTA), Pub. L. 97-34, 95 Stat. 34l. 8 Section 6659(a) provides that where there is an underpayment of tax attributable to a valuation overstatement, there should be an addition to the tax in an amount equal to the applicable percentage of the underpayment so attributable. Where the valuation claimed is more than 250 percent of the correct valuation, the applicable percentage is 30 percent. Sec. 6659(b). Section 6659(c) states that there is a valuation overstatement if the value of any property, or the adjusted basis of any property, claimed on any return is 150 percent or more of the amount385 determined to be the correct amount of such valuation or adjusted basis. Here, too, respondent's determination is presumptively correct. Rule 142(a). Petitioners introduced no evidence to support any value of the tapes and have not contested the valuation determinations supporting their respective notices of deficiency. We cannot accept petitioners' contention that they are excused from furnishing evidence of the value of the tapes "because this point has been settled and stipulated to." Petitioners have failed to prove that respondent erred in determining additions to tax under this section for each of the years at issue. Decisions will be entered under Rule 155.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated. All Rule references are to the Tax Court Rules of Practice and Procedure unless otherwise provided. ↩2. Former sec. 66539(a), as amended, became sec. 6653(a)(1), effective for those taxes for which payment is due after December 31, 1981. Secs. 722(b)(1) and (2), Economic Recovery Tax Act of 1981, 95 Stat. 342. 50 percent of the interest due on the underpayment determined for the year in issue.↩ 50 percent of the interest due on the underpayment determined for the year in issue. 3. Subsec. (d) of sec. 6621 was redesignated subsec. (c) and amended by the Tax Reform Act of 1986, Pub. L. 99-514, sec. 1511(c) (1) (A)-(C), 100 Stat. 2744. Hereinafter, we use the reference as amended. ↩4. Respondent has conceded that petitioners are entitled to an additional sales tax deduction based on a Pulaski County local option sales tax. ↩5. First Peter was one of the videotape programs examined by Charles Schnebelen, an examining agent in the Internal Revenue Service Exempt Organization Branch, in connection with Chester v. Commissioner,T.C. Memo. 1986-355, 52 T.C.M. 78↩, 84, 55 P-H Memo T.C. par. 86,355. Agent Schnebelen, called as a witness in the cases before us, described the program production studio and the video recording equipment located in Cabot, Arkansas, 30 miles north of Little Rock. 6. As in the case before us, this Court in Wicker v. Cimmissioner, T.C. 1988-225, observed that the master videotape program in which the taxpayer invested was "the same * * as the program described in Chester v. Cimmissioner,T.C. Memo. 1986-355↩." 7. In this regard, there is simply no independent evidence supporting Fite's argument that the C.P.A. who reviewed the First Peter promotional material, "was aware of what was going on" and "being a C.P.A. * * * wouldn't let someone prepare something that as wrong." Neither petitioner called the C.P.A. as a witness at the trial. ↩8. In Nielsen v. Commissioner,87 T.C. 779">87 T.C. 779, 782-783↩ (1986), we held that section 6659 applies to underpayments of tax for years filed before the effective filing date which are attributable to valuation statements on returns filed after the effective date.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4537421/	05/28/2020 IN THE SUPREME COURT OF THE STATE OF MONTANA Case Number: DA 19-0113 No. DA 19-0113 STATE OF MONTANA, Plaintiff and Appellee, v. DARRELL DWAYNE SMITH, Defendant and Appellant. ORDER Upon consideration of Appellee’s motion for a 30-day extension of time, and good cause appearing therefor, IT IS HEREBY ORDERED that Appellee is granted an extension of time to and including July 2, 2020, within which to prepare, serve, and file its response brief. KFS Electronically signed by: Mike McGrath Chief Justice, Montana Supreme Court May 28 2020	01-04-2023	05-28-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619832/	LOUIS KALB, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Kalb v. CommissionerDocket No. 19421.United States Board of Tax Appeals15 B.T.A. 865; 1929 BTA LEXIS 2778; March 14, 1929, Promulgated 2778 1. DEPRECIATION - GAIN FROM SALE. - Held, that in computing gain from sale of real estate, due allowance must be made for the amount of depreciation sustained from March 1, 1913, to date of sale in 1920, even though no deductions were taken therefor in tax returns for prior years. Even Realty Co.,1 B.T.A. 355">1 B.T.A. 355. 2. ID. - The evidence establishes that the reasonable expected life of the houses involved in this action was 37 years after March 1, 1913. Held, that the March 1, 1913, value should be depreciated on the basis of one thirty-seventh of that value for each year. S. P. Huntington, Esq., for the petitioner. J. A. O'Callaghan, Esq., for the respondent. TRUSSELL 866 Respondent determined a deficiency in the amount of $129.82 in petitioner's income tax for the year 1920 as a result of his adding to net income the amount of depreciation computed at a rate of 4 per cent upon the March 1, 1913, value of buildings to the date of sale in 1920. Petitioner assigns as error respondent's action of (1) adding any of said amount to income and (2) in using a rate in excess of 2 per cent. FINDINGS OF FACT. Petitioner2779 resides at Green Bay, Wis.In 1900 petitioner acquired lots 4, 6, and 9 in block 62 in the City of Green Bay and the frame houses thereon. The said land had a value of $3,250 and the buildings thereon had a value of $10,333 on March 1, 1913. During the year 1920 petitioner sold the said property for the total sum of $14,750, and in his income-tax return for that year reported a profit of $1,500 from that sale. In his tax returns for prior years, petitioner took no deductions on account of depreciation sustained on the property in question, but in his return for the year 1920 he took a deduction in the amount of $50 as depreciation on the said buildings. The respondent determined that the buildings had a remaining useful life of 25 years from March 1, 1913, and computed depreciation at the rate of 4 per cent upon $10,333 from that date to the date of sale in 1920, or a total of $2,824.35 depreciation. Respondent determined that the gain realized upon the sale was the difference between the sale price of $14,750 and the March 1, 1913, value of $13,583, plus depreciation sustained in the amount of $2,824.35 or $3,991.35. OPINION. 2780 TRUSSELL: Under authority of the Board's decision in , we must sustain respondent's method of computing the gain realized upon the sale of petitioner's property in 1920. Petitioner contends that respondent erred in using a depreciation rate in excess of 2 per cent and in support thereof offered the testimony of one witness that it was his opinion that with ordinary repairs the buildings in question had a life of from 20 to 25 years from 1927. The testimony of witnesses produced at the trial is convincing that the expected life of the houses herein involved was from 20 to 25 years after the date of the testimony, which was in 1927. This would make the total life of the buildings from 47 to 52 years. We are, therefore, of the opinion that the expected life should be taken to be 50 years and, in view of the fact that substantially 13 years had 867 passed prior to March 1, 1913, the established March 1, 1913, value of $10,333 should be depreciated at the rate of one thirty-seventh of that value for each period of 12 months between 1913 and the date of sale. The deficiency should be recomputed in accordance with the findings2781 of fact and opinion. Judgment will be entered pursuant to Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619833/	Robert J. Harder and Marguerite Harder, Husband and Wife v. Commissioner. Robert J. Harder Inc. v. Commissioner.Harder v. CommissionerDocket Nos. 60586, 60587.United States Tax CourtT.C. Memo 1958-97; 1958 Tax Ct. Memo LEXIS 132; 17 T.C.M. (CCH) 494; T.C.M. (RIA) 58097; May 27, 1958132 Certain deductions claimed as business expenses, and disallowed by respondent as not having been substantiated, allowed in part. Respondent's disallowance of certain depreciation deductions claimed by the individual petitioners sustained for lack of proof. Petitioner Robert J. Harder purchased an old rundown house, remodeled it, rented one-half of it, and used the other half as a winter home. Held, the cost of painting and scraping the floors was a capital expenditure. On January 2, 1952, petitioner Robert J. Harder transferred all the assets and liabilities of his individual business to petitioner corporation in exchange for all the issued stock of the corporation. Simultaneously therewith Harder, the corporation, and three individuals entered into a five-party agreement under the terms of which the three individuals "from time to time on or after July 3, 1952 * * shall have the right to purchase" from Harder the stock he received in the transfer, but were not under any obligation to buy. Held, the transfer by Harder of his business to the corporation was a tax-free exchange under section 112(b)(5) and (h) of the Internal Revenue Code of 1939. Held, further, under section133 113(a)(8) of the 1939 Code, the basis to the corporation of the assets transferred to it was the same as it was in the hands of the transferor. Joseph J. Lyman, Esq., 1001 Connecticut Avenue, Northwest, Washington, D.C., for the petitioners. Charles B. Markham, Esq., for the respondent. ARUNDELLMemorandum Findings of Fact and Opinion ARUNDELL, Judge: Respondent determined deficiencies in income tax for the taxable years ended December 31, 1951, 1952, and 1953, as follows: 134 IndividualCorporateYearPetitionersPetitioner1951$ 205.8619521,489.14$4,383.1219532,007.86The individual petitioners now concede the deficiency for the year 1951. Several of the errors assigned relating to the years 1952 and 1953 have also been conceded by petitioners. The errors assigned which are still contested by petitioners are: (1) whether the respondent erred in disallowing certain deductions claimed by the individual petitioners for the years 1952 and 1953, which claimed deductions are set out more fully in our findings and opinion, and (2) whether the respondent erred in adding to the corporation's net income for 1952 an inventory adjustment of $14,466.16 and depreciation of $1,240. Our determination of the second assignment of error depends upon whether the transfer on January 2, 1952, of petitioner Robert J. Harder's sole proprietorship business to Robert J. Harder Inc., a newly formed corporation, in exchange for all of the latter's issued stock and the assumption by the corporation of all the liabilities of the sole propritorship was a taxable or tax-free exchange. In the petition filed in Docket No. 60587, the corporate petitioner135 alleged that the transfer was a "tax-free exchange," which allegation was admitted by respondent in his answer. The corporate petitioner, however, filed an amended petition and alleged that the transfer "was not a tax-free transfer." Because of this amended petition, the respondent, in Docket No. 60586, filed an amendment to the answer, in which he alleged and averred in part as follows: "If it should be judicially determined that the transfer of assets by Robert J. Harder to Robert J. Harder, Inc. on or about January 2, 1952 in return for 300 shares of Class A stock and 300 shares of Class B stock of Robert J. Harder, Inc., is not a tax-free transfer, then a taxable exchange occurred on said date and any gain to petitioner, Robert J. Harder, from the transaction, should be computed and recognized in accordance with the provisions of sections 111(a) and 112(a), respectively, of the Internal Revenue Code of 1939." The cases were consolidated for trial and opinion. Findings of Fact The stipulations of fact filed at the hearing are found as stipulated. The individual petitioners are husband and wife residing in Lynbrook, Long Island, New York. The petitioner in Docket No. 60587136 is a corporation organized under the laws of the State of New York on December 21, 1951. It commenced active business on January 2, 1952. The returns for the taxable years involved of all the petitioners were filed with the district director of internal revenue at Brooklyn, New York. Petitioner Robert J. Harder (hereinafter called Harder) has been engaged in the insulation and acoustical tile contracting business for 18 years in and around Lynbrook, New York. For a number of years, prior to December 31, 1951, Harder conducted the business as a sole proprietor. After January 1, 1952, Harder continued to perform his business functions in a similar way but as president of the petitioner corporation rather than as a sole proprietor. Among the deductions claimed by the individual petitioners in their joint returns for 1952 and 1953 are the following items: Item19521953Business entertainment(not reimbursed)$1,000.00$1,000.00Depreciation of automo-biles1,500.002,250.00Portion of residence usedfor business240.00240.00Repairs to Florida prop-erty1,666.50Depreciation of Florida property325.00The respondent disallowed all of137 the above items except that he allowed $750 depreciation of automobiles for each of the years 1952 and 1953 and that he also allowed $70.14 of the $325 depreciation of Florida property for 1953. At the hearing, counsel for petitioners conceded that the disallowance of depreciation of automobiles for 1953 in the remaining amount of $1,500 "was a correct disallowance." Harder, as an officer of the petitioner corporation, in conjunction with other salesmen, would solicit business firms and property owners for the purpose of obtaining contracts to insulate and renovate such properties with insulation materials and acoustical tile. The petitioner corporation would contract to do such work on various types of buildings, including homes, commercial buildings, schools, and some original construction. Harder kept no record of any business entertainment expenses incurred by him in 1952 and 1953 and could not testify with exactitude as to persons he entertained or the dates of such entertainment during such years. He arrived at the amounts of $1,000 deducted in the joint returns by estimating that he spent more than those amounts as senior officer of Robert J. Harder Inc., in entertaining138 people at dinner, taking them to ball games and occasionally out on a fishing trip. During those years Harder owned two boats, one in New York and one in Florida. The cost of the boats was $475 and $1,000, respectively. During the years 1952 and 1953, checks were issued for expenses of operating the New York boat in the total amounts of $462.86 and $633.42, respectively. In addition to these expenses, Harder paid in cash about $350 to $400 a year for gasoline and for painting the New York boat each spring. In 1952, the Florida boat cost Harder about $500 for gasoline, repairs, and painting. Harder estimated that about three-quarters of the use of the boats was for the purpose of entertaining prospective customers. Harder was not reimbursed for any of the expenses of the boats. Harder was not on a guaranteed salary. A part of his compensation represented commissions on sales made for the corporation. Most of the officers of the corporation were also salesmen and were paid a commission on the sales they made. The corporation had a rule that a prospective customer must be contacted at least once a month or oftener if a sale was imminent. During the years 1952 and 1953, Harder, in139 earning his commissions, took a prospective customer out to lunch or dinner about once or twice a week and he estimated that the average check would amount to between $10 and $15. In addition to meals, Harder estimated that he spent between $8 and $10 a week for other entertainment, including ball games. Harder has never been reimbursed by the corporation for any of these expenses. During 1952 and 1953, Harder actually expended at least $850 each year for entertainment of prospective customers of Robert J. Harder Inc. in securing sales for that company on a commission basis. During the year 1952, the individual petitioners owned two automobiles. One was used principally by the husband and the other car was used principally by the wife. The above-mentioned depreciation of $750 allowed by the respondent was allowed on the car used principally by the husband. Petitioners have failed to prove that any depreciation is allowable on the car used principally by the wife. During the years in question the individual petitioners were joint owners of several small rental income properties comprising in all 12 apartments. One of these apartments consisted of about one-half of the house in140 which petitioners lived. The other half of the house consisted of 5 rooms, including a room which was used primarily as an office in connection with the rental business. This room was furnished with office furniture, had a separate outside entrance, a separate lavatory, and a telephone. Petitioners paid at least $900 a year for insurance, fuel, utilities, and plumbing in maintaining the entire house. The house cost $13,500 and had a useful life of about 20 years. The cost, including depreciation, to petitioners of maintaining the room used as a business office was at least $155 for each of the years 1952 and 1953. In January 1953, the individual petitioners purchased a house in Hollywood, Florida, for $6,000. The deed was signed in March 1953. The purpose in buying the house was to repair it, rent one-half of it, and use the other one-half as a winter home. At the time the house was purchased it was in a run-down condition and was unrentable. Harder spent $10,133 in remodeling the house. Included in this latter amount was $2,526 for painting and scraping floors. One-half of the house was rented in November 1953. Petitioners, in their joint return for 1953, reported $175 as rent141 received and deducted therefrom $1,666.50 for repairs and $325 for depreciation. The respondent in his deficiency notice disallowed all of the $1,666.50 for repairs and $254.86 of the $325 claimed for depreciation. The cost of painting the house acquired by petitioners in 1953 and scraping the floors thereof was a capital expenditure. On January 2, 1952, Harder transferred his sole proprietorship business to the petitioner corporation herein and received in exchange 300 share of its Class A (voting) stock and 300 shares of its Class B (nonvoting) stock. This constituted all of the corporation's outstanding stock on January 2, 1952. An additional 300 shares of each class of stock were authorized but were not issued at that time. Simultaneously with the above-mentioned transfer, a five-party agreement dated January 2, 1952, was entered into between Harder as first party, Harder's nephew A. James Harder as second party, Harder's son Richard L. Harder as third party, Eileen Coulon as fourth party, and petitioner corporation, referred to in the agreement as the corporation. Under the terms of this agreement, Richard, James, and Coulon "from time to time on or after July 3, 1952 * 142 shall have the right to purchase" from Harder shares of stock in the corporation in certain designated portions set forth in the agreement. Richard and James were given the right to purchase from Harder after July 3, 1952, 100 shares each of Class B (nonvoting) stock and 150 shares each of Class A (voting) stock, and Coulon was given the right to purchase 100 shares of Class B stock. At such time as they each had purchased an aggregate of 100 shares of Class B stock, the corporation agreed it would exchange for the same an equal amount of its authorized but unissued Class A stock. It was further agreed that when Harder sold 450 of his 600 shares (300 Class A and 300 Class B), he had the option to sell his remaining shares to the corporation or to the other stockholders. No further stock was to be issued by the corporation. At any time prior to the sale of 75 per cent of the total outstanding stock, the younger Harders and Coulon had the right to withdraw from the agreement and to require Harder to repurchase at par value any stock purchased by the withdrawing party. Harder retained the right to repurchase the stock of any of the other parties who left the employment of the corporation; 143 to repurchase the stock of any party desiring to sell, assign, transfer, or pledge his stock to an outsider; and to repurchase all the stock if the corporation had a net profit in any year of less than $1,000. The charter of the petitioner corporation listed the par value of both Class A and B stock as $100 per share. The plan contemplated under the agreement of January 2, 1952, was to give Richard, James, and Coulon an opportunity to buy Harder's stock beginning July 2, 1952, and to accelerate their payments as they went along. There was no compulsion on the younger Harders and Coulon to buy the stock. Among the assets of Harder's sole proprietorship at the close of business on December 31, 1951, was a closing inventory of $34,914.70. This figure was a true and correct statement of Harder's proprietorship inventory on December 31, 1951. Included in the assets of the proprietorship which Harder transferred to the corporation on January 2, 1952, was a total inventory listed by Harder at $49,380.86. This figure was included in computing the $60,000 which Harder estimated as the value of the stock he received on January 2, 1952. The $49,380.86 was also included on the 1952 Federal144 income tax return of the corporation as its opening inventory. The $14,466.16 difference between the two inventory items is accounted for, as hereinafter stated. For several years, Harder's sole proprietorship had accumulated a quantity of materials which Harder considered to be unsalable, unusable, and obsolete, or "left over" odds and ends from a particular job. This material over the years had been marked off or charged off, i.e., it had been carried in the closing inventory of each year as being of no value. However, the material had not been thrown away as Harder hoped it could be sold. When the plan arose to set up the corporation, Harder, his son, and his nephew, with the help of Coulon, went through the warehouse and looked over the obsolete materials, item by item, placing an estimated value on each and reaching a total of $14,466.16. They listed some of the items at cost and some at less than cost. The items had been carried at no price before, and the corporation inventory represented the first time such items had been given a price. Harder included among the depreciable assets of his sole proprietorship, on his 1951 return, trucks acquired in 1951 with a cost basis145 of $10,000 on which he took depreciation for that year of $640. When Harder transferred his business to the corporation he transferred the trucks at a value of $9,000 and some other assets at a value of $7,200, or a total value of $16,200. These other assets consisted of insulation blowers, hose, machinery and tools and had a basis of zero in Harder's sole proprietorship business. The petitioner corporation claimed a deduction for depreciation on its 1952 return of $3,240 computed at 20 per cent of the above-mentioned total amount of $16,200. The respondent disallowed $1,240, representing 20 per cent of the net write-up of $6,200. The transfer by Harder of the assets of his sole proprietorship on January 2, 1952, to the petitioner corporation was a transaction on which no taxable gain or loss is recognizable. Opinion The respondent disallowed the $1,000 claimed by Harder on the joint returns for 1952 and 1953 for entertainment expenses on the ground that the claimed expenses were unsubstantiated. In his brief he raises the question whether Harder is entitled to deduct any amount in view of the fact that during those years Harder was the senior officer of the corporation. The146 respondent argues as follows: "Expenses of entertaining incurred by the president of a corporation, paid by the president from personal funds and not reimbursed to him by the company, may not be deducted by the president on his individual return. Such expenses are, if at all, ordinary and necessary expenses of the corporation and not such expenses of earning his salary as president. Andrew Jergens (1951) 17 T.C. 806">17 T.C. 806, citing Hal E. Roach (1930) 20 B.T.A. 919">20 B.T.A. 919. See also Jacob M. Kaplan et ux. (1953) 21 T.C. 134">21 T.C. 134, appeal to C.A. 2, dismissed November 26, 1954. "Harder can disengage himself from the rule set forth in the Jergens, Roach and Kaplan cases only by showing that the expenses incurred were incurred in earning sales commissions (as distinguished from his officer's salary) or by showing that he was obligated to incur such expenses without reimbursement. From the record it is clear that he has shown neither." The facts in the instant case are different from the facts in the Jergens, Roach, and Kaplan cases cited by the respondent. Here, Harder147 was not only the senior officer of the corporation but he was also a salesman for the corporation and was paid a commission on all sales made by him for the corporation. He was on an incentive basis and, in order to earn these commissions, it was necessary for Harder to entertain the prospective customers in order to get their business. The evidence introduced by Harder convinces us that he spent at least $850 in each of the years 1952 and 1953 in so doing. We hold that Harder is entitled to deduct that amount in each of the years in question. Cohan v. Commissioner, 39 Fed. (2d) 540; Lucien I. Yeomans, 5 T.C. 870">5 T.C. 870; Benjamin Abraham, 9 T.C. 222">9 T.C. 222, 228. Upon the basis of our findings, we sustain the respondent's determination for the year 1952 insofar as it relates to his disallowance of depreciation of the automobile used principally by petitioner Marguerite Harder. The respondent disallowed the $240 claimed by the individual petitioners on their joint returns for 1952 and 1953 for "portion of residence used for business" on the ground that the claimed deductions were unsubstantiated. We think the evidence offered by petitioners clearly shows148 that during the years in question petitioners used one room of the house in which they lived as an office in connection with their rental business and that the cost of maintaining that room was at least $155 for each of such years. We hold that petitioners are entitled to deduct that amount as an expense in each of the years 1952 and 1953. Cohan v. Commissioner, supra; V. T. H. Bien, 20 T.C. 49">20 T.C. 49, 56. In their 1953 return, the individual petitioners deducted $1,666.50 for repairs to Florida property and $325 for depreciation of such property. Petitioners purchased the property for the purpose of renting one-half of it and using the other half as a winter home. We agree with the respondent that the expenditures necessary to put the house in a livable condition, including the entire amounts expended for painting and scraping the floors, should be capitalized. I. M. Cowell, 18 B.T.A. 997">18 B.T.A. 997, 1002; Ethyl M. Cox, 17 T.C. 1287">17 T.C. 1287; Ehrlich v. Commissioner, 198 Fed. (2d) 158 (C.A. 1, 1952), affirming our memorandum findings of fact and opinion [10 TCM 744]. As to depreciation of the Florida property, we do149 not think petitioners have shown that they are entitled to deduct depreciation for a longer period than the 2-month period allowed by the respondent. This property was not rentable at the time it was acquired and the evidence does not show when the remodeling was completed. We sustain the respondent's determination on this issue for lack of proof. We think the transfer of Harder's sole proprietorship business to the corporation was a tax-free exchange under section 112(b)(5) and (h) of the Internal Revenue Code of 1939. 1 The facts are clear that on January 2, 1952, Harder transferred his sole proprietorship business to the petitioner corporation solely in exchange for all of the issued capital stock of such corporation. Since immediately after the exchange Harder owned all the outstanding stock of the corporation, he was in "control" of the corporation as that term is defined under section 112(h) of the 1939 Code. It follows, therefore, that no gain or loss should be recognized on the exchange. 150 Petitioners contend that because of the five-party agreement dated January 2, 1952, mentioned in our findings, the transfer to the corporation was not a tax-free exchange under section 112(b)(5) and (h) of the 1939 Code. In so contending, they rely principally upon May Broadcasting Co. v. United States, 200 Fed. (2d) 852 (C.A. 8, 1953). We do not think this case is in point. There, the buyer of stock in the transferee corporation was clearly obligated to purchase such stock simultaneously with or immediately after the transfer, and its agreement to do so was an integral part of the transfer of assets by the transferor. In the instant case, Harder's nephew and son and Coulon were under no obligation whatever to buy any of the corporation's stock from Harder. All they had was a right to purchase "from time to time on or after July 3, 1952." What happened on or after July 3, 1952, has no bearing upon the question at issue. Samuel Insull, Jr., 32 B.T.A. 47">32 B.T.A. 47, 55 reversed on another issue by C.A. 7 at 87 Fed. (2d) 648. We hold that the transfer by Harder of his business to the corporation on January 2, 1952, was a taxfree exchange. American Bantam Car Co., 11 T.C. 397">11 T.C. 397,151 affirmed per curiam by C.A. 3, 177 Fed. (2d) 513, certiorari denied 339 U.S. 920">339 U.S. 920. In regard to the "basis" of property, section 113(a)(8) of the Internal Revenue Code of 1939 provides in part that: "If the property was acquired after December 31, 1920, by a corporation - "(A) by the issuance of its stock or securities in connection with a transaction described in section 112(b)(5) * * then the basis shall be the same as it would be in the hands of the transferor * * ." In our findings we have found that at the time of the transfer of Harder's business to the corporation on January 2, 1952, the basis in the hands of Harder (the transferor) of the inventory was $34,914.70; that the basis of the trucks was $10,000; and that the basis of the insulation blowers, hose, machinery and tools were zero. Under section 113(a)(8), supra, we hold that the basis of such property in the hands of petitioner corporation "shall be the same as it would be in the hands of the transferor." It follows that the corporation's use of $49,380.86 as its opening inventory was contrary152 to law. This distortion on its part resulted in a higher cost of goods sold, and a corresponding reduction in its gross profits for the year 1952. Likewise, the basis to the corporation of its depreciable assets is the same as it was in the hands of the transferor. We hold that the respondent did not err in adding to the corporation's net income for 1952 an inventory adjustment of $14,466.16 and depreciation of $1,240. Decisions will be entered under Rule 50. Footnotes1. SEC. 112. RECOGNITION OF GAIN OR LOSS. * * (b) Exchanges Solely in Kind. - * (5) Transfer to corporation controlled by transferor. - No gain or loss shall be recognized if property is transferred to a corporation by one or more persons solely in exchange for stock or securities in such corporation, and immediately after the exchange such person or persons are in control of the corporation; * *(h) Definition of Control. - As used in this section the term "control" means the ownership of stock possessing at least 80 per centum of the total combined voting power of all classes of stock entitled to vote and at least 80 per centum of the total number of shares of all other classes of stock of the corporation.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619834/	ESTATE OF JOHN JOSEPH GARVAN, THE FIRST NATIONAL BANK OF BOSTON, ADMINISTRATOR, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Garvan v. CommissionerDocket No. 44746.United States Board of Tax Appeals25 B.T.A. 612; 1932 BTA LEXIS 1495; February 25, 1932, Promulgated 1495 1. Where paper evidences of shares of stock of a foreign corporation and bonds of foreign governments belonging to a nonresident alien were held within the United States for certain restricted purposes, such stock and bonds may not be included for purposes of taxation in the estate of such nonresident alien, because they were not property situated within the United States within the meaning of the statute. Ernest Brooks et al.,22 B.T.A. 71">22 B.T.A. 71, followed. 2. Shares of stock of domestic corporations, similarly owned and held, may be included in decedent's estate by authority of section 303(d) of the Revenue Act of 1926, which is not unconstitutional. 3. Where the Commissioner has included in decedent's estate the total value of properties transferred by gift within two years prior to death, the conclusive presumption raised by section 302(c), Revenue Act of 1926, is not in issue until petitioner, upon whom falls the burden of proof, has proved that such transfers in fact were not made in contemplation of death. Petitioner having failed of such proof, it is held that shares of stocks of domestic corporations embraced in said transfers may be included in decedent's1496 estate for purposes of taxation. 4. Shares of stock of a foreign corporation and bonds of foreign governments embraced by such transfers should be excluded from decedent's estate, although the paper evidences of the same were held within the United States for certain restricted purposes, because they were not property within the United States at the time of transfer or of decedent's death within the meaning of section 303(d), Revenue Act of 1926, under Ernest Brooks et al., supra.George H. B. Green, Jr., Esq., for the petitioner. R. F. Staubley, Esq., for the respondent. GOODRICH 613 OPINION. GOODRICH: This proceeding is for the redetermination of a deficiency in estate tax of $9,661.04. Petitioner also challenges the validity of the original assessment of estate tax in the amount of $71,914.58, which it has heretofore paid under protest. The following stipulation was filed: (1) It is hereby stipulated by and between the parties in the above-entitled action that the following facts are admitted and need not be proved. (2) The petitioner is the First National Bank of Boston as Administrator of the Estate of Sir1497 John Joseph Garvan. The legal residence of the decedent, Sir John Joseph Garvan, at the time of his death and at the time he made the transfers set forth in paragraph 4 infra was Sydney, New South Wales, Australia. The decedent at the time of his death and at the time he made these transfers was not engaged in any business in the United States. His death occurred on July 18, 1927, and on May 24, 1928, the First National Bank of Boston, a corporation duly organized under the laws of the United States and having a usual place of business in Boston, Massachusetts, was appointed administrator of said Estate with the will annexed by the Probate Court of Suffolk County, Massachusetts. (3) The gross estate of the decedent within the United States if as a matter of law said property may be included in determining gross estate situated within the United States (not including certain property which he transferred prior to his death, a list of which is set forth in Schedule B infra, and the value of which the Commissioner of Internal Revenue included in the gross estate of the decedent within the United States) consisted of the following securities at the values shown in the last column. 1498 SCHEDULE AItemFair Market Value at Date of Death1. 2,300 shs. Swift International$51,750.002. 4,102 shs. Swift & Company480,959.503. 798 shs. Libby, McNeil & Libby6,783.004. 933 shs. National Leather Co2,915.635. $57,000 - Dominion of Canada 5s 195259,850.00Interest on above609.586. $38,000 - Dominion of Canada 5 1/2s 193439,282.50Interest on above447.037. $50,000 - Province of Ontario 6s 194355,625.00Interest on above1,025.008. $33,000 - Province of Ontario 5s 194833,825.00Interest on above426.25Total733,498.49At the time of the decedent's death the securities set out in said Schedule A were held by the said bank; they were not at that time and never had been hypothecated or pledged as security for any debt or obligation nor were they employed in whole or in part in any business carried on in the United States; they were held by said bank solely for the purpose of collection of the income therefrom for the account of the decedent. 614 (4) On or about October 26, 1926, the decedent transferred by gift outright to his brothers and sisters four identical lots of personal property, the value1499 of all of which the Commissioner of Internal Revenue included in the gross estate of the decedent within the United States under the provisions of the Revenue Act of 1926 for purposes of the Federal Estate Tax. The detailed items contained in each of the four lots are as follows: SCHEDULE B. ItemFair Market Value at Date of Death1. 970 shs. Swift & Company$113,732.502. 600 shs. Swift International13,500.003. 190 shs. Libby, McNeil & Libby1,615.004. 230 shs. National Leather Co718.755. $15,000 - Dominion of Canada 5s 195215,750.00Interest on above160.426. $2,500 - Dominion of Canada 5 1/2s 19342,584.38Interest on above29.417. $12,000 - Province of Ontario 6s 194313,350.00Interest on above244.008. $8,000 - Province of Ontario 5s 19488,200.00Interest on above102.22Total$169,986.68At the time of said transfer on or about October 26, 1926, the securities set out in Schedule B were held by said bank; from the time of said transfer to the date of death of the decedent they were held by the National City Bank of New York; they were not at any time either before or after said transfer hypothecated or pledged1500 as security for any debt or obligation nor were they employed in whole or in part in any business carried on in the United States; they were held by said banks solely for the purpose of collection of the income therefrom for the account of the decedent prior to said transfer and thereafter for the account of the transferees. (5) The Commissioner of Internal Revenue has determined the value of the gross estate within the United States to be $1,413.445.21, the details being as follows: 4 times $169,986.68 (total of Schedule B) equals$679,946.72Total of Schedule A. above733,498.49Grand total$1,413,445.21(6) These four transfers were gifts and were made without an adequate and full consideration in money or money's worth. The petitioner does not admit that these transfers were made in contemplation of death. (7) All of the bonds included in Schedule A supra were physically present in the United States at the time of the decedent's death. All of the bonds included in Schedule B supra were physically present in the United States at the time the transfers were made. All the certificates of the shares of stock in Schedule A were physically present in the1501 United States at the time of the decendent's death. All the certificates of the shares of stock included in Schedule B were physically present in the United States at the time the transfers were made. 615 (8) Compania Swift Internacional (Swift International) is a corporation organized under the laws of the Argentine Republic. (9) There was no property of the decedent in the United States at the time of his death, other than as listed in Schedules A and B herein. (10) None of the bonds included in Schedule A or in Schedule B was secured by any interest in real estate situate within the United States. (11) The value of the decedent's gross estate situated outside of the United States was $765,314.49. The amount of the gross deductions from the decedent's estate (Item 4, Schedule M, Federal Estate Tax Return) was $29,999.53. (12) Either party may introduce further evidence on any of the matters in issue in this case which is not inconsistent with the facts herein stipulated. Later an additional stipulation was filed presenting a table of the mortality statistics contained in the 29th annual report of the Bureau of the Census, the relevancy and materiality1502 of which is denied by respondent, and showing that a tax of $71,914.58 disclosed by petitioner's estate-tax return filed on May 17, 1928, was paid under protest on the same date. It is further agreed upon the record that Swift International owned no property within the United States; that Swift & Company, Libby, McNeil & Libby, and National Leather Company are domestic corporations; and that Dominion of Canada bonds and bonds of the Province of Ontario are bonds of a foreign government, not secured by property within the United States. Petitioner's allegations of error amount to a contention that, because decedent was a nonresident alien, his estate can not be subjected to an estate tax by the United States. Specifically, it alleges that respondent erred in including in the estate for purposes of taxation: (1) shares of stock of a foreign corporation, and bonds of foreign governments; (2) shares of stocks of domestic corporations; (3) property transferred by decedent by gift, after the effective date of the Revenue Act of 1926 and within two years prior to his death. Petitioner also alleges that respondent failed to allow as deductions in determining the net estate1503 subject to tax, miscellaneous administration expenses. Such expenses should be allowed on the basis of gross deductions of $29,999.53 in determining the net estate subject to tax in accordance with the stipulation entered into between the petitioner and the respondent. The provisions of the Revenue Act of 1926 pertinent to the issues here read in part as follows: SEC. 301. (a) * * * a tax * * * is hereby imposed upon the transfer of the net estate of every decedent dying after the enactment of this Act, whether a resident or nonresident of the United States. * * * 616 SEC. 302. The value of the gross estate of the decedent shall be determined by including the value at the time of his death of all property, real or personal, tangible or intangible, wherever situated - (a) To the extent of the interest therein of the decedent at the time of his death; * * (c) To the extent of any interest therein of which the decedent has at any time made a transfer, by trust or otherwise, in contemplation of or intended to take effect in possession or enjoyment at or after his death, except in case of a bona fide sale for an adequate and full consideration in money or money's1504 worth. Where within two years prior to his death but after the enactment of this Act and without such a consideration the decedent has made a transfer or transfers, by trust or otherwise, of any of his property, or an interest therein, not admitted or shown to have been made in contemplation of or intended to take effect in possession or enjoyment at or after his death, and the value or aggregate value, at the time of such death, of the property or interest so transferred to any one person is in excess of $5,000, then, to the extent of such excess, such transfer or transfers shall be deemed and held to have been made in contemplation of death within the meaning of this title. Any transfer of a material part of his property in the nature of a final disposition or distribution thereof, made by the decedent within two years prior to his death but prior to the enactment of this Act, without such consideration, shall, unless shown to the contrary, be deemed to have been made in contemplation of death within the meaning of this title; * * SEC. 303. (d) For the purposes of this title, stock in a domestic corporation owned and held by a nonresident decedent shall be deemed property1505 within the United States, and any property of which the decedent has made a transfer, by trust or otherwise, within the meaning of subdivision (c) or (d) of section 302, shall be deemed to be situated in the United States, if so situated either at the time of the transfer, or at the time of the decedent's death. We have previously held that bonds of a foreign government and shares of stock of a foreign corporation owned by the estate of a nonresident decedent, the paper evidences of which were held in this country for certain restricted purposes, as in the case now at bar, may not be included in determining the value of decedent's estate situated in the United States. Ernest Brooks et al.,22 B.T.A. 71">22 B.T.A. 71. That case arose under the Revenue Act of 1924, the pertinent provisions of which are not materially different from those of the 1926 Act above quoted. Following that decision, we reverse respondent's action in including in decedent's estate the bonds of foreign governments and the shares of stock of a foreign corporation. See also 1506 Shenton v. United States, 53 Fed.(2d) 249. But, as pointed out in the Brooks case, in determining the net estate of a nonresident decedent, section 303(d) provides that stock of a domestic corporation shall be deemed property within the United States. There is no ambiguity in this statutory provision and it is conceded that the taxability of the shares of stocks of domestic corporations here involved depends squarely upon it. 617 Petitioner urges that such stock was situated outside the United States and, under the rule mobilia sequentur personam, had a situs at the domicile of the owner and contends that so much of section 303(d) of the Revenue Act of 1926 as operates to tax stock in domestic corporations owned by a nonresident decedent is in conflict with the due process clause of the Fifth Amendment and unconstitutional. In support of this contention our attention is called to certain recent cases in which the Supreme Court has applied the rule mobilia sequuntur personam in fixing the situs of intangible property at the domicile of the owner for the purpose of taxation. 1507 Farmers' Loan & Trust Co. v. Minnesota,280 U.S., 204; Baldwin v. Missouri,281 U.S. 586">281 U.S. 586; Beidler v. South Carolina,282 U.S. 1">282 U.S. 1; Rhode Island Hospital Trust Co. v. Doughton,270 U.S. 69">270 U.S. 69; First National Bank of Boston v. State of Maine,284 U.S. 312">284 U.S. 312. All of these cases arose under the Fourteenth Amendment and, we believe, are not controlling where the power of Congress to tax is considered. These decisions indicate that the underlying reason for the application of the rule to intangibles, as between the States, is to prevent the injustice of double taxation, but this does not apply necessarily, nor has it been held to apply, where the Federal Government imposes a tax. Generally, both the Federal and State Government may tax the same object or the same transfer at the same time, and the taxation by the one is not a limitation upon the taxation by the other. See Frick v. Pennsylvania,268 U.S. 473">268 U.S. 473. The Fourteenth Amendment is a limitation on the power of the States to tax, but the Fifth Amendment under which the issue here arises is not a limitation upon the1508 taxing power of the Federal Government: McCray v. United States,195 U.S. 27">195 U.S. 27; Billings v. United States,232 U.S. 261">232 U.S. 261; Flint v. Stone Tracy Co.,220 U.S. 107">220 U.S. 107; Brushaber v. Union Pacific Railroad Co.,240 U.S. 1">240 U.S. 1, unless the exercise of the taxing power is so unreasonable and arbitrary as to amount to a confiscation rather than a tax. Brushaber v. Union Pacific Railroad Co., supra;Nichols v. Coolidge,274 U.S. 531">274 U.S. 531; Blodgett v. Holden,275 U.S. 142">275 U.S. 142; 276 U.S. 594">276 U.S. 594; Untermyer v. Anderson,276 U.S. 440">276 U.S. 440. For this Board, the clear and definite statutory instruction is stronger authority than the urged analogy and possible application to this case, arising under the Fifth Amendment, of the recent decisions of the Supreme Court invoking and applying the mobilia doctrine to cases arising under the Fourteenth Amendment. Here, Congress has expressed a clear intention to tax and if that intention is not consistent with the rule mobilia sequuntur personam, we must assume that Congress intended to repeal the1509 rule in so far as it is in conflict. Cf. In re Whiting's Estate,44 N.E. 715">44 N.E. 715. Petitioner has failed to indubitably demonstrate to us that this statute infringes the constitutional guarantees which he invokes; 618 that the tax here imposed is so arbitrary or unreasonable as to cause us to disregard or reject the explicit provision of the statute under which it is laid. As said by Judge L. Hand in Cohan v. Commissioner, 39 Fed.(2d) 540, at page 545: * * limitations like the Fifth Amendment are not like sailing rules or traffic ordinances; they do not circumscribe the actions of Congress by metes and bounds. * * * So it does not seem to us that the situation here calls for so heroic a remedy as to declare the statute unconstitutional, nor indeed, for the lesser one of wringing the words out of their natural meaning. * * * while colloquial language is a fumbling means of expression, there are limits to its elasticity; to deny the application of these words to the case at bar seems to us to pass the point of rupture. Respondent is sustained in including in decedent's estate, for purposes of taxation, the shares of stock in domestic1510 corporations. We come now to consider petitioner's third issue, in support of which it is urged that section 302(c) is unconstitutional in so far as it raises a conclusive presumption that gifts made within two years prior to decedent's death were made in contemplation of death. We have so held in American Security & Trust Co. et al.,24 B.T.A. 334">24 B.T.A. 334. But, as pointed out in that case, section 302(c) contains two provisions, the first being set out in the first sentence of that section and demanding proof to overcome the presumption of its applicability in any case wherein the Commissioner has made a determination thereunder. It requires that the value of decedent's interest in property which he has at any time transferred, except by a bona fide sale, in contemplation of death, or intended to take effect in possession or enjoyment at or after his death, shall be included in the estate for purposes of taxation. Where, acting under authority of that provision, the Commissioner determines that decedent has made such a transfer of an interest in property and includes the value of such interest in decedent's estate, that determination is prima facie correct and the1511 burden of proving it incorrect rests upon the challenger. Wickwire v. Reinecke,275 U.S. 101">275 U.S. 101. In this case respondent has included in decedent's estate the total value of the properties, consisting of shares of stock of domestic and foreign corporations and bonds of foreign governments, which were included in the four transfers made by decedent in October, 1926. Petitioner "does not admit that the transfers were made in contemplation of death." Such a denial, if it be a denial, is not the proof required to rebut respondent's determination, which we must take to be prima facie correct, nor does it serve to shift from petitioner to respondent the burden of proof of the facts relative to the transfers. Nowhere in this record is it indicated that respondent, in so including the property transferred, is relying solely upon the conclusive presumption raised by section 302(c). On the contrary, 619 the fact that respondent has included in this estate the total value of the properties transferred without deducting therefrom the exemption of $5,000 on each transfer allowed by the second provision of this section, indicates that he has determined as a fact that1512 these transfers were made in contemplation of death. Nor does it appear upon this record that petitioner was in possession of evidence proving that the transfers in fact were not made in contemplation of death. Petitioner having failed in the proof of facts essential to his contention, we sustain respondent's action in including in decedent's estate the shares of stocks of the domestic corporations embraced by the four transfers. We except, however, the transferred shares of stocks of foreign corporations and the bonds of foreign governments for the reason that, under our decision in the Brooks case, supra, such stocks and bonds were not situated in the United States, either at the time of the transfer or at the time of decedent's death, as provided in section 303(d). Consequently, they should not be included in decedent's estate. Reviewed by the Board. Judgment will be entered under Rule 50.LANSDON did not participate in the consideration of or decision in this report. MARQUETTE concurs in the result. TRAMMELL TRAMMELL, dissenting: In so far as the prevailing opinion holds that stocks in domestic corporations, both those held by the decedent1513 at the time of his death and those transferred by him, are subject to the estate tax, I am unable to agree. In so far as stocks in domestic corporations are concerned, the real controversy is over the effect of section 303(d), which is set out in the prevailing opinion. Clearly, if the statute had not provided that stock of a domestic corporation owned and held by a nonresident decedent shall be deemed property within the United States, such stock would be governed by the rule that mobilia sequentur personam, unless it had become a part of or used in a localized business. See Rhode Island Hospital Trust Co. v. Doughton,270 U.S. 69">270 U.S. 69; Farmers Loan & Trust Co. v. Minnesota,280 U.S. 204">280 U.S. 204; Baldwin v. Missouri,281 U.S. 586">281 U.S. 586; First National Bank of Boston v. Maine,284 U.S. 312">284 U.S. 312. It seems clear from the above opinions that the place where the paper evidences of the securities and stocks were located is unimportant and does not indicate where the stocks and securities are situated, unless they are used in a local business, or unless they are placed beyond the control 620 of the beneficial1514 owner and beyond his power of removal. See Safe Deposit & Trust Co. v. Virginia,280 U.S. 83">280 U.S. 83. Section 303(d) of the statute, quoted in the majority opinion, does not undertake to change the general rule applicable to intangibles, including stock in domestic corporations, unless the stock is held by the decedent at the time of his death. In so far as any transferred property is concerned, it is deemed to be situated in the United States if so situated at the time of decedent's death or at the time of transfer. There is every indication that the situs of transferred stock is intended by the statute to be governed by the general rule. No distinction between domestic stock and any other kind of stock or any other property is drawn. If it is not to be governed by the mobilia rule or the business situs rule, how can stock in a domestic corporation be situated at one place at the time of death and at another place at the time of transfer? So long as a corporation remains a domestic corporation, if the situs of its stock is changed its situs must depend upon something else than the fact that it is stock in a domestic corporation. Domicile of the owner may1515 change or it may be placed or used in a localized business. Clearly, then, the statute contemplated that its situs was governed by the general rule. There is then no statutory provision to be considered which undertakes to change the situs of transferred stocks. Since, in so far as the transferred stocks in domestic corporations are concerned, the statute does not undertake to change the recognized rule as to where they were situated and it being shown that they were not a part of a localized business in the United States, I think that they were situated at the domicile of the owner and not in the United States, and have no taxable situs here. In so far as these stocks are concerned no question of constitutionality is involved. The statute specifically provides that certain stocks in domestic corporations shall be deemed to be situated in the United States. As to all transferred property, including stocks, the statute is silent as to any situs by virtue of its being in domestic corporations. The specific provision as to stocks held might be interpreted as an intention that other stocks in such corporations should not be so treated, or deemed, and in the absence of legislation1516 on the subject, it seems that the general rule prescribed by the Supreme Court as to the situs of stock should govern such stock as was transferred. In so far as the prevailing opinion treats transferred stock in domestic corporations in the same manner as stocks held, I think the opinion is clearly wrong. The important question presented is whether Congress may by legislative fiat constitute stock in domestic corporations owned and held by a decedent at the time of his death to be situated within the 621 United States, if otherwise it is not so situated. Conceding that Congress has unlimited and unrestricted power of taxation with regard to persons, property, business or transactions within its jurisdiction, it clearly has no power to levy a tax unless either the person, the property, business or transaction with respect to which the tax is levied is or occurs within or is subject to the jurisdiction of the United States, and if property or the transfer thereof is not within the jurisdiction of the United States, clearly Congress could not make it so by legislative declaration. With respect to limitation on power to tax, the Supreme Court, in the case of 1517 State Tax on Foreign Held Bonds,15 Wall. 300">15 Wall. 300, said: The power of taxation, however vast in its character and searching in its extent, is necessarily limited to subjects within the jurisdiction of the State. These subjects are persons, property and business. whatever form taxation may assume, whether as duties, imposts, excises or licenses, it must relate to one of these subjects. While the above decision related to the power of a State to tax, the rule applies with equal force to the Federal Government. It seems to be fundamental that one government can not tax the citizens of another government residing abroad except with respect to business transacted or income derived, property situated or a transaction which occurs within its own jurisdiction. In our system of dual government, when the power to tax within a sphere is given to the Federal Government or reserved to the States, the States are no more limited in their sphere than the Federal Government in its sphere. The Federal Government has no more power to tax objects or subjects or the transfer thereof outside of its jurisdiction than the States. See 1518 Michigan Central Ry. Co. v. Slack, 17 Fed. Cases 263; Rose v. Himely,4 Cranch. 240; The Appollon,9 Wheat. 362">9 Wheat. 362; Hilton v. Guyot,159 U.S. 113">159 U.S. 113; United Statesv. Erie R.R., 25 Fed. Cases 1019. In the latter case, decided by the Circuit Court, Chief Justice Waite said: The Congress of the United States can have no greater power to tax persons or property not within the jurisdiction of the United States than a state has to tax persons and property not within its jurisdiction * * . The power of the United States is limited to persons, property and business within the jurisdiction as much as that of a state is limited to the same subjects within its jurisdiction. State Tax on Foreign-Held Bonds,82 U.S. 300">82 U.S. 300. The courts have never rejected this principle. The Supreme Court having laid down the rule that intangible property such as stocks of domestic corporations is situated at the domicile of the owner, or may have a taxable situs at the place where it is engaged or used in business, is it situated at some other place because of a legislative enactment? I do not1519 think so. The statute involved here did not undertake to measure the tax by the value of 622 property in the gross estate of a nonresident decedent unless that property was situated in the United States, but added the provision that stock in domestic corporations owned and held by a decedent would be deemed to be situated in the United States. Thus the only taxable situs imposed by the statute is upon property situated in the United States in so far as nonresidents are concerned. Clearly the decedent was not doing business in the United States and the property involved could in no sense be said to be a part of a localized business in this country. If the rule laid down by the Supreme Court is to be accepted that intangibles follow the domicile of the owners, this property was situated in Australia and not in the United States, and the United States would have no power to subject intangible property situated in Australia to Federal estate tax than it would to tax real property situated in Australia or the transfer thereof, unless in any event this Government had jurisdiction of the person of the owner or the transfer by death occurred in the United States under its own1520 laws or jurisdiction. Of course if the decedent had been a citizen of the United States, the power of the Federal Government over a citizen with respect to taxation would involve a different principle. As the Supreme Court said in the case of United States v. Bennett,232 U.S. 299">232 U.S. 299, Congress had the constitutional right to tax its citizens on account of the use of foreignbuilt yachts even if the property during the taxable period had its situs beyond the territorial limits of the United States. But that case, as we said in the case of Ernest Brooks et al.,22 B.T.A. 71">22 B.T.A. 71, was based upon the relationship of the United States to its citizens and their relations to it and did not involve citizens and residents of foreign countries. If a person is a resident of this country, regardless of his citizenship, a different principle would be involved. This country might then be said to have jurisdiction of the person. Clearly it could not be said, however, that Congress has the power to tax a citizen of a foreign country residing in such country in connection with the use of property situated in a foreign country. Nor do I think that Congress has the1521 power to say that property situated in a foreign country is situated in this country. This principle need not rest upon the constitutional power of Congress alone, but involves also a broader principle of sovereign power in its relation to international law. The powers of one sovereign do not extend beyond the limits of its jurisdiction. The principle involved here is somewhat related to that involved in the case of First National Bank of Boston, Executor, supra, where the court held that Maine could not tax a transfer by death of stock in a Maine corporation; that the property was not situated in that State, nor did the transfer by death occur there. The court said 623 that the stock had a situs at the domicile of the owner and not in the State where the corporation was organized and that the transfer occurred in the State of domicile of the owner. In my opinion the situation would have been the same even if the Maine statute had provided that stock under the above circumstances would be deemed to be situated in that State. The Supreme Court laid down the rule that intangibles, including stocks in corporation, are situated at the domicile of the1522 owner, and that the fact that the corporation was organized in Maine gave the stock no situs there. The same rule was definitely applied to corporate stock as had been applied to other intangibles. In my opinion, the State of Maine could not have drawn to itself the power to tax the transfer by death of the stock there involved by declaring in the statute that the stock of corporations organized therein should be deemed to be situated in that State. The courts have interpreted the word "deemed" to mean "regarded" "considered" or "adjudged." See Leonard v. Grant,5 Fed. 11; United States v. Doherty,27 Fed. 730; Michel v. Nunn,101 U.S. 423">101 U.S. 423; Douglas v. Edwards,298 Fed. 229. With this meaning the statutory provision under consideration might be read that stocks in domestic corporations should be regarded, considered or adjudged to be situated in the United States. In the case of Schlesinger v. Wisconsin,270 U.S. 230">270 U.S. 230, the Supreme Court held that a statute of Wisconsin which provided that gifts of a material part of the donor's estate within six years prior to the donor's death1523 "shall be construed to have been made in contemplation of death" was unconstitutional, as being a violation of the Fourteenth Amendment, and that the classification for taxation must rest on some reasonable basis. Congress has made a classification between stock held and that transferred. The Fifth Amendment requires a reasonable classification. Can Congress under that amendment consider property situated in the United States if it is not, and subject a transfer thereof by death to tax when it was not transferred under its laws or the laws of any State or Territory subject to its jurisdiction, or can Congress say that a share of stock in a domestic corporation shall be deemed situated in the United States, dependent solely upon whether or not it was transferred by decedent or held by him at a certain time. To say that stock in a domestic corporation held by the decedent shall be deemed to be property in the United States, but stock in the same corporation transferred before decedent's death to take effect at or after death or made in contemplation of death shall be governed by the law otherwise applicable seems to be unreasonable, arbitrary and capricious and thus contrary to1524 the Fifth Amendment. It seems 624 arbitrary and capricious to say that a share of domestic stock owned by decedent shall be situated in the United States, due to the fact alone that it is stock in a domestic corporation, but another share of the corporation's stock may be situated at another place, depending solely on whether the owner had transferred it; that the fact that it is in a domestic corporation is not material if decedent had transferred it. If the fact that stock is in a domestic corporation determines its situs, the only question would be the power of Congress to so enact, but the situs of such stock does not rest on this basis. It must also be owned by the decedent at the particular time of death, to give it a situs here. It would seem that Congress would have no more power under the Fifth Amendment to provide that such stocks would be considered to be situated in the United States than a State under the Fourteenth Amendment to provide that transfers made within a certain period should be considered to have been made in contemplation of death, if contrary to the fact, or than a State would have to provide that money or securities in banks in that State should1525 be deemed to be situated in that State. It would seem that Congress has no more power to change the situs of property than the States would have. But it would hardly be contended that a State by mere verbiage of the statute could subject property to tax when it is beyond its jurisdiction. If it be construed that Congress created a conclusive presumption as to the place where stocks in domestic corporations are situated then we must apply the principle of Railroad Co. v. Turnipseed,219 U.S. 35">219 U.S. 35; Morley v. Georgia,279 U.S. 1">279 U.S. 1; Bailey v. Alabama,219 U.S. 219">219 U.S. 219, in which the court held that a statute which creates a presumption that is arbitrary or that operates to deny fair opportunity to repel it violates the due process clause of the Fourteenth Amendment and under other decisions herein cited the same rule is applied to the Fifth Amendment. Where the statute provides that stocks in domestic corporations held by the decedent shall be deemed to be property in the United States it may fairly be interpreted as a presumption created by statute which is governed by the above principles. If it be regarded entirely as a question1526 of law as to where intangibles are situated, then the Supreme Court has settled the question that the property in this case is not situated in the United States, and our problem is, Can Congress "regard" the property or "consider" or "adjudge" it to be situated within the United States? This is entirely different from the question as to the power of Congress to create another taxable situs. Congress has not undertaken to levy the tax except as to property situated in the United States. 625 On the other hand, if the place where property is situated be considered as a question of fact, can Congress by legislation change the fact? Can the place where property is situated be either created or changed by legislation? I think not. A legislative body can create the law, to which the facts are applicable, but it can not create or change facts. If neither the person or property is situated in nor its transfer occurs within the jurisdiction of the United States, it seems clear that Congress could not be legislation give itself jurisdiction thereof. It may be contended that even if Congress did not have the power to prescribe conditions as to the organization of the corporations1527 or to control or regulate the transfer of their shares by death, this being an estate tax, an excise imposed upon the transfer by death, it still had the power under the principle of Knowlton v. Moore,178 U.S. 41">178 U.S. 41, to impose the tax upon the transfer regardless of the fact that no rights or privileges with respect to the transfer were controlled or regulated by the Federal Government. That case, however, did not involve a tax upon the transfer by death in the case of a nonresident alien whose property was not situated in the United States and where the transfer took place and was regulated by the laws of a foreign country. In the Knowlton case, supra, the transfer by death occurred and was regulated in accordance with the laws of a State of the Union and the transfer occurred within the United States. But it does not follow that Congress can impose an excise on the transfer of property where that transfer occurs in a foreign country and was governed by laws of a foreign country and where the jurisdiction of the United States did not extend to any rights or privileges with respect to such transfer. The Supreme Court in the case of 1528 Frick v. Pennsylvania, supra, said: It is a fundamental principle that real estate descends pursuant to the law of its situs without reference to the law of the owner's domicile and that personal property whether tangible or intangible and wheresoever situated descends pursuant to the law of the owner's domicile * * Where the situs of the property transferred is outside the taxing state and the decedent was a nonresident of the taxing state the transfer is not taxable. * * * Where the property is intangible the transfer is taxable since the property passes according to the law of the domiciliary state. Bullen v. Wisconsin,240 U.S. 625">240 U.S. 625. [Italics ours.] The case of Eidman v. Martinez,184 U.S. 578">184 U.S. 578, involved the Federal inheritance-tax law of 1898, which applied to property "passing by will or by intestate laws of any State or Territory." The decedent was domiciled in Spain. Some of his property consisted of intangibles such as stocks and bonds, in domestic corporations the 626 paper evidences of which were in New York. The court said: "As the property in this case did not pass under any law of any State1529 or Territory of the United States or by the intestate laws of any such State or Territory," such property was not subject to the Federal inheritance tax, the court further saying, "the whole scheme of the Act evidently contemplates the application of the tax only to the property of a person domiciled in the United States or territory of the United States whose property is transmitted under our laws." The court reaffirmed the doctrine previously established that such intangible property as was there involved, in so far as its transfer by death was concerned, was governed by the law of the domicile of the owner and under the laws of that jurisdiction it passed. Could the property in that case have passed under our laws by Congress enacting a provision that it would be deemed to have done so or to the same effect by "deeming" the property to be situated here? In connection with the Federal Estate Tax Act of 1916, which in so far as is material is no different from the act before us, the Attorney General of the United States rendered an opinion, 31 Ops.Atty.Gen. 287, in which he stated that real estate situated in a foreign country, although owned by a resident of the United States, 1530 was not subject to the provisions of that act. He expressed the opinion that Congress did not intend to tax real estate situated outside of the United States which passed by the testate or intestate laws of a foreign country; that the transfer of real estate, not only in form but in substance, that is, who shall take it, to what extent and under what conditions, is governed by the lex rei sitae. On the other hand, as to personal property, he stated that the rule was that mobilia sequuntur personam, which had the effect of drawing intangible personal property to the jurisdiction of the domicile. He used the following language: The plain sense of the matter is that real estate in a foreign country, unlike personal estate there, cannot be enjoyed as such in any true sense without the protection and supervison of the laws of the foreign country in which it is situated, while as to personal property the fact may very well, for obvious reasons, be different. Hence all governments agree to recognize the domicile of the decedent as the situs of the primary administration upon his personal estate while not recognizing his domicile as to his realty. In the above situation, upon1531 which the Attorney General rendered this opinion, the decedent was a resident of the United States domiciled here. The act of Congress involved was admittedly broad enough to include real estate situated in a foreign country when owned by a resident of the United States. It seems clear that if the right to transmit intangibles by death or the ownership thereof is regulated and controlled by the law of 627 the domicile, see First National Bank of Boston v. Maine, supra, that right in this case is controlled, protected and enforced by the law of the foreign country. This country has no power or control over property situated in a foreign country or its transmission by death. In so far as domestic stocks are concerned, their ownership can be changed regardless of any transfer on the books of the corporation. It is generally accepted that it is not necessary that certificates of stock be actually issued to the owners thereof. In the case of Pacific National Bank v. Eaton,141 U.S. 227">141 U.S. 227, the court said: "Millions of dollars of capital stock are held without any certificate; or if certificates are made out, without their ever having1532 been delivered. A certificate is authentic evidence of title to stock; but it is not the stock itself nor is it necessary to the existence of the stock. It certfies to a fact which exists independently of itself." In so far as the right of the property in stock or the transfer of the ownership thereof is concerned, no law of the United States need be resorted to. The fact that it might be necessary to resort to the courts of this country to enforce the right of transfer on the books or to enforce the right to dividends, is not important. In the case of bonds or other debts, resort must be had to the laws and courts of the jurisdiction of the debtor, but the Supreme Court has completely settled the question, to the effect that, notwithstanding this fact, the bonds are situated at the domicile of the owner in the cases herein cited, and in the case of First National Bank of Boston, supra, this rule was specifically applied to stocks. If the state of the debtor whose laws have to be resorted to for protection and collection of the debt does not have jurisdiction to tax the transfer of the debt belonging to a nonresident, and if a state in which a corporation1533 is organized does not have the right to tax the transfer of the shares because they are not situated in that state, under the Fourteenth Amendment for lack of due process of law, it would seem that Congress would be similarly limited by the Fifth Amendment under the identical language. If a state has not jurisdiction it would seem that it could not give itself jurisdiction by declaring that debts owing in the state or stock of corporations organized therein would be deemed to be situated there. The rule that a state is limited to objects within the sphere of its jurisdiction of the limits of its sovereignty is also applicable to the Federal Government. In this case the transfer of the stock of domestic corporations occurred outside of the jurisdiction of the United States. The transfer not being regulated or controlled or authorized by any right 628 granted by the United States, and the occurrence upon which the excise is levied not being within the United States, the principles of the Knowlton v. Moore case, supra, have no application. I do not think that Congress has the power to levy an excise upon the happening of an event in a foreign country regulated1534 and controlled entirely by laws of the foreign country unless this Government has jurisdiction of the person of the owner of the property transferred or unless the property transferred was the part of a localized business in the United States. The language of the court in the Baldwin v.Missouri case, supra, is pertinent on this issue. The court said: We find nothing to exempt the efforts to tax the transfer of the deposits in Missouri banks from the principle applied in Farmers' Loan & Trust Co. v. Minnesota, supra. So far as disclosed by the record, the situs of the credit was in Illinois where the depositor had her domicile. There the property interest in the credit passed under her will; and there the transfer was actually taxed. This passing was properly taxable at that place, and not otherwhere. The bonds and notes, although physically within Missouri, under our former opinions were choses in action with situs at the domicile of the creditor. At that point they, too, passed from the dead to the living, and there this transfer was actually taxed. As they were not within Missouri for taxation purposes, the transfer was not subject to1535 her power. Rhode Island Trust Co. v. Doughton,270 U.S. 69">270 U.S. 69, 46 S. Ct. 256">46 S.Ct. 256, 70 L. Ed. 475">70 L.Ed. 475, 43 A.L.R. 1374">43 A.L.R. 1374. While it may readily be concededthat everything over which sovereign power extends is an object of taxation (see Van Brocklin v. Anderson,117 U.S. 151">117 U.S. 151; McCulloch v. Maryland,4 Wheat. 316">4 Wheat. 316), our question here is, Does the sovereign power of one sovereign extend to property which is situated in another country and where the transfer thereof occurs in another country and the first country had nothing to do with any privilege or right in connection with the transfer? It may be contended that a different rule should govern the Federal Government in its taxation of intangibles or the transfer thereof by death from that which is applicable to States. It is manifest that the States and the Federal Government have different powers and that the Federal Government of course is not limited by the Fourteenth Amendment as the States are. The Federal Government, however, is limited by the Fifth Amendment. The due process clause of that Amendment is a restriction on the Federal Government as the due process clause of the Fourteenth1536 Amendment on the States. See United States v. Armstrong,265 Fed. 683; Davidson v. New Orleans,96 U.S. 97">96 U.S. 97; Bartlett Trust Co. v. Elliott, 30 Fed.(2d) 700; Hurtado v. California,110 U.S. 516">110 U.S. 516; and extends to and includes aliens. Russian Volunteer Fleet v. United States,282 U.S. 481">282 U.S. 481. By the due process clause of the Fourteenth Amendment, it was clearly not intended to impose on the states when exercising their 629 power of taxation any more rigid or strict curb than that imposed on the Federal Government by the Fifth Amendment. French v. Barber,181 U.S. 324">181 U.S. 324; Tonawanda v. Lyon,181 U.S. 389">181 U.S. 389; Cass Farm Co. v. Detroit,181 U.S. 396">181 U.S. 396. The principle in Saltonstall v. Saltonstall,276 U.S. 260">276 U.S. 260, a case arising under State law where the Fourteenth Amendment was applicable, was applied in the case of Chase National Bank v. United States,278 U.S. 327">278 U.S. 327, a case arising under the Federal statute to which the Fifth Amendment was applicable. The same principle was held applicable1537 to both the States and the Federal Government in the cases of Nichols v. Coolidge,274 U.S. 531">274 U.S. 531, and Coolidge v. Long,282 U.S. 582">282 U.S. 582. In so far as the transferred domestic stock, as to which the statute does not by express provision "deem" to be situated in the United States, it seems plain that the rule applicable to States as to where it is situated is applicable to the Federal Government. Surely it would not be situated at one place for the States and at another place or its situs based on a different rule as to the Federal Government. In the case of DeGanay v. Lederer,250 U.S. 376">250 U.S. 376, the Supreme Court applied to the Federal Government the same tests and the same rule which it applied in the Fourteenth Amendment cases as to States in so far as the determination of the situs of property and the sources of income therefrom were concerned for the purposes of Federal taxation. The court made no attempt to distinguish its decisions involving the power to tax such property. On the other hand, it adopted the same reasoning, and applied the same doctrine and the same principles. In any event the rule for the determination1538 of the place where property is situated would seem to be the same whether the Fourteenth Amendment or the power of Congress is involved. If intangibles are situated at the domicile of the owner in so far as States are concerned, it would seem that it would not be situated at a different place so far as the Federal Government is concerned. In the case of Compania de Tabaros v. Collector,275 U.S. 87">275 U.S. 87 (1927), the court had before it a law of the Philippine Islands. The Philippine Organic Act contained a "due process clause" similar to that in the Fifth and Fourteenth Amendments. The Court said: It (the tax) is an imposition upon a contract not made in the Philippines and having no situs there and to be measured by money paid as premium in Paris, with the place of payment of loss, if any, in Paris. We are very clear that the contract and the premiums paid under it are not within the jurisdiction of the Government of the Philippine Islands. It is of significance that even in the Deganay case, supra, the court, while it placed stocks and bonds on the same basis, did not 630 rest its decision upon the ground that the stock was in domestic corporations, 1539 but was to some extent at least based upon the doctrine of Blackstone v. Miller,188 U.S. 189">188 U.S. 189, and the principle announced in People ex rel. Jefferson v. Smith,88 N.Y. 576">88 N.Y. 576, from which the court quoted to the effect that the certificates themselves constituted property and were taxable where found. On this theory of course the securities involved here would be situated in the United States. This doctrine, however, was later repudiated in the Missouri and Minnesota cases, but the Deganay decision was also based upon the principle that the securities involved were held for business purposes in the United States, a principle later reaffirmed in the Missouri and Minnesota cases, and in the case of Hill v. Carter, 47 Fed.(2d) 869. So localized, the income therefrom was held to be from sources within the United States. This principle is not applicable here on the facts. The court did not intimate that the fact that the corporations were organized in the United States in and of itself was any basis for upholding the tax. In the Hill case, supra, stocks, bonds and other securities were owned by1540 a resident of Hawaii. They were in possession of a New York agent empowered to collect the income therefrom, to invest and reinvest the same and to sell any of the securities and to invest in others. The court held that the property had acquired a business situs in New York, and relied on the case of DeGanay v. Lederer, supra.That property may be held to be situated where it has a business situs is in accord with the language of the Supreme Court in the Minnesota, the Rhode Island Trust Co. and other cases. The stipulated facts in the case at bar remove it from the principle of the above case. Under the facts in this case the property had no business situs nor was it situated here under the maxim, mobilia seguuntur personam.It is not necessary for us to decide, as the court did in the Hill case, that intangibles, having acquired a business situs, lost their otherwise recognized situs at the place of the domicile of the owner. Nor is it necessary for us to discuss the principle of double taxation. Such principle does not affect this case. Nor do I see any principle or language in the case of 1541 Safe Deposit & Trust Co. v. Virginia,280 U.S. 83">280 U.S. 83, which is inconsistent with the views here expressed. In my opinion, in view of the foregoing, the provisions in the statute that stocks in domestic corporations shall be deemed property situated in the United States is ineffective unless such stock is situated in the United States because its owner resides here or unless it has a business situs in this country.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619837/	Occidental Petroleum Corporation, Successor to Island Creek Coal Company, Petitioner v. Commissioner of Internal Revenue, RespondentOccidental Petroleum Corp. v. CommissionerDocket Nos. 5147-68, 2013-69United States Tax Court55 T.C. 115; 1970 U.S. Tax Ct. LEXIS 43; October 26, 1970, Filed 43 Decisions will be entered under Rule 50. In the allocation of certain expenses among separate mining properties in order to determine the amount of taxable income for the purposes of the 50-percent limitation contained in sec. 613(a), I.R.C. 1954:(1) Petitioner's payments of 40 cents per ton to the United Mine Workers of America Welfare and Retirement Fund constitute direct expenses and should be allocated among the separate mining properties in proportion to tonnage sold.(2) Petitioner's selling expenses constitute direct expenses and should be allocated, in proportion to direct expenses among the groups of mines in accordance with the quality of coal produced and, in proportion to tonnage sold, to each separate mining property within a given group.(3) Indirect expenses (general and administrative and mine overhead) should be allocated to separate mining properties in proportion to direct expenses. 44 David B. Buerger and William Y. Rodewald, for the petitioner.Louis A. Boxleitner, for the respondent. Tannewald, Judge. TANNEWALD 116 Respondent determined deficiencies of $ 50,890 and $ 55,969 in income taxes of petitioner's predecessor for the years 1961 and 1962, respectively. Petitioner disputes these deficiencies and claims that overpayments were made for the years in question. 1 The only issue before us concerns the proper method for allocating certain expenses among various coal mining properties for the purpose of computing the proper amount of percentage45 depletion allowable for each of those properties. At trial, petitioner acquiesced in respondent's method of allocating certain association dues; hence, that issue is no longer before us.FINDINGS OF FACTSome of the facts are stipulated and are found accordingly.During the calendar years 1961 and 1962, Island Creek Coal Co. had its principal place of business in Huntington, W. Va. Its returns were timely filed with the district director of internal revenue, Parkersburg, W. Va. The term "petitioner" as used herein refers to Occidental and the presently existing Island Creek Coal Co. and any of their predecessors in interest. See fn. 1 supra46 .During the years in question, petitioner's activities consisted of the operation of an agreed number of separate coal mining properties and certain nonmining operations. There is no dispute between the parties as to the allocation of expenses between these two types of activities.Petitioner's primary management goal was to have all mining properties meet a set production schedule. This included operating 230 days per year. In 1961, seven of petitioner's coal mining properties were either closed or idle during part of the year. These mines were Island Creek #7, Island Creek #22, Red Jacket #17, Marianna, 117 Algoma, Elk Creek, and Coal Mountain. Island Creek Mine #7 was closed in 1961, after 43 days of production. The Marianna mine was again closed in February 1962, after 31 days of production. None of petitioner's mining properties was idle for an entire month in 1962 with the exception of the Marianna mine. All of petitioner's mines operated for at least 230 days in 1962 except Kentucky #3 (227 days), Island Creek #28 (213 days), and Island Creek #25 (219 days). The assets of these latter two mines were sold to National Coal Mining Co. on December 1, 1962. Island47 Creek #25 was only one part of a unit consisting of three mines. The other two mines in this unit, Island Creek #24 and Island Creek #27, operated 243 days and 238 days, respectively, for an average of 233 1/3 days for the unit.The petitioner was a party to the National Bituminous Coal Wage Agreement of 1950, as amended. By the terms of this agreement, petitioner was required to pay to the "United Mine Workers of America Welfare and Retirement Fund of 1950" 40 cents per ton of coal produced for use or for sale. The purpose of the fund was to provide benefits to members of the union and their families, including medical and hospital care, pensions, accident and disability payments, and wage supplements. Petitioner's payments to the fund were based solely on the number of tons produced at a mine. No payments were made on behalf of a given mine unless that mine produced coal. Payments were also payable irrespective of the means of production (mechanized or otherwise), the type of coal produced, or the quality of the producing seam.The following are the number of tons sold and the aggregate amount of petitioner's payments to the Fund in the years in question:UMWYearTons soldpayment196111,348,915$ 4,466,630196212,189,1664,896,34848 Of all the union members employed by petitioner, approximately 45 percent worked at the face of the mine. The remaining 55 percent included those who worked outside the mine but whose activities were nevertheless identified with a particular mine and those who worked at idle mines, in central machine shops, and in other activities.Petitioner's coal mining properties did not all produce the same type or quality of coal. Mines designated as Island Creek #25 and #27, Bartley #1, Algoma, Marianna, Wyoming, and Elk Creek 249 produced only high-quality (metallurgical or domestic) coal. Mines designated as Red Jacket #17, Island Creek #22, #24, and #28, 118 Bartley #6, Kentucky #3, and Keen Mountain produced high-quality and low-quality (steam) coal but predominantly the former. Mines designated as Guyan #1, #4, #5, and Coal Mountain produced both types but predominantly low-quality coal. 3Petitioner's high-quality coal is more expensive to produce than low-quality coal, either because of the natural conditions existing in the mine or because of inherent problems in producing a given type of coal. Petitioner's high-quality coal is more expensive to sell than others because more highly trained salesmen and/or more selling effort is required and the quantities sold are smaller. Petitioner's sales personnel were compensated on a salary plus reimbursed expenses and not on a commission basis. Petitioner's selling expenses for the years in question were as follows: 1961, $ 1,986,083; 1962, $ 1,983,216.Aside from the above UMW payments, selling expenses, and association dues (which are no longer in issue), petitioner had direct expenses during the years in question allocated as follows:19611962Island Creek ##24-25-27$ 10,866,638$ 10,946,565Island Creek #7508,03877,599Island Creek #22871,8661,690,670Island Creek #282,662,6753,151,482Idle operating interests161,188193,192Red Jacket #172,191,7643,136,339Bartley ##1 and 67,252,0566,694,672Marianna446,662210,870Coal Mountain998,1881,931,123Wyoming3,250,0542,141,648Algoma1,284,1162,397,219Guyan #14,339,4704,767,962Guyan #41,824,8332,513,303Guyan #53,911,0444,538,132Elk Creek867,082447,717Kentucky #32,554,2212,693,927Keen Mountain1,629,0731,703,784Total 45,618,96849,236,20450 The tonnage attributable to each mine is revealed by the following table:19611962Island Creek ##24-25-272,817,3892,555,989Island Creek #7145,482Island Creek #22194,218472,724Island Creek #28591,339751,809Red Jacket #17544,497841,442Bartley ##1 and 61,516,3551,343,683Marianna52,55513,004Coal Mountain287,949712,831Wyoming513,248289,490Algoma249,172499,835Guyan #11,475,0181,554,482Guyan #4627,447850,507Guyan #51,327,3461,365,041Elk Creek152,51636,511Kentucky #3468,842478,241Keen Mountain385,542423,577Total 11,348,91512,189,166119 During the years in question, petitioner incurred other expenses classified as mine overhead as follows:Item19611962Cost of goods sold$ 2,717,166 $ 2,705,015 Compensation of officers46,250 50,700 Repairs172,722 194,221 Bad debts1,980 5,975 Depreciation4,867 271,014 General and administrative11,065 45,418 Clerical expense charged others(253,662)(363,000)Total 2,700,388 2,909,343 The cost of goods sold contained in the above schedule breaks down as follows:Cost of goods sold19611962Salaries$ 1,391,654 $ 1,462,486 Supplies70,596 76,372 Communications75,719 71,821 Automobile(28,516)(23,912)Traveling19,213 24,149 Other expense101,355 35,397 Workmen's compensation592,008 730,902 IBM expense60,000 60,000 Bungalow, Holden Inn, and guesthouse8,665 8,269 Water plants and utilities1,358 1,310 Freight12,265 10,962 Insurance174,905 155,970 Legal19,160 16,003 Inventory shortage198,333 177,523 LIFO adjustment(40,358)(211,921)Slack storage expense101,078 137,128 Abandonments12,056 Less: Agreed adjustments1 (40,319)Adjustment (39,500)Total 2,717,166 2,705,015 51 120 During the years in question, petitioner incurred general and administrative expense apportionable to its mining activities in the net amounts shown in the following table:Item19611962Compensation of officers$ 373,675 $ 392,226 Salaries and wages452,318 463,113 Rents150,182 192,327 Repairs676 6,222 Taxes45,812 49,884 Interest99,912 0 Pension, group insurance411,978 362,504 Depreciation99,633 72,551 General and administrative261,293 290,763 Other deductions16,113 14,498 Total 1,911,592 1,844,088 Less amounts apportionable to (nonmining activities):Other departments: West Virginia (205,567)(198,168)Kentucky (13,538)(9,388)Virginia (6,121)(6,408)Oil and gas: Old lease (1,065)(900)New lease (598)(540)Total (226,889)(215,404)Amount apportionable to mining activities1,684,703 1,628,684 Efficient mines tended to receive less total attention52 from petitioner's management and/or require fewer indirect expenses than inefficient mines or mines with reduced production.To a large degree, the time of petitioner's supervisory personnel, who were not identified with a particular mine, was spent dealing with problem mines, i.e., those which, for example, were not meeting production schedules or which otherwise suffered from curtailed production due to strikes, accidents, etc.Petitioner's high-quality coal mines had higher direct expense per ton than low-quality coal mines.The allocation controversy of the instant case has a history dating back at least to petitioner's return for the taxable year 1956, but this is the first time the question has been litigated. Respondent issued statutory notices of deficiencies to petitioner in every year from 1956 through 1962. The notice for the taxable year 1956 was issued on January 13, 1960. In this notice, respondent determined that petitioner's tenement expenses (excess cost of executive housing) and certain of petitioner's general and administrative expenses (but not mine overhead) should be allocated among certain mines in proportion to 121 the expenses incurred at those mines. 53 Petitioner's timely return had allocated these items on a tonnage basis. Petitioner did not contest respondent's method of allocation when petitioner sought review of the deficiencies in this Court in a petition filed on March 15, 1960. In a stipulation filed on February 2, 1961, the petitioner conceded the correctness of the noncontested adjustments in the statutory notice. (See docket No. 85616.)The statutory notices of deficiencies for the taxable years 1957 and 1958 were issued on December 16, 1960. These notices were consistent with the 1956 notice in their determination that tenement expenses and certain general and administrative expenses (but not mine overhead) should be allocated among certain mines on an expense basis. Again, petitioner's timely returns had allocated on a tonnage basis. As in the earlier case, petitioner did not contest respondent's determinations on these issues in the petition to this Court which was filed on March 10, 1961, and the stipulation of facts did not refer to these uncontested adjustments. 4 (See docket No. 91431.)54 In the statutory notice for the taxable years 1959 and 1960, respondent changed his position and determined that the general and administrative expenses should be apportioned among the mines on a tonnage basis. The notice was dated December 17, 1964. 5 Petitioner's 1959 return had followed this procedure, but the 1960 return had apportioned these expenses in accordance with the method used by respondent for the earlier years. Petitioner contested this change in its petition to this Court, but, in a stipulation filed on May 3, 1966, it was conceded that "general and administrative expenses and mine overhead expense should be allocated to each mineral interest in proportion to the direct expense at each interest." (See docket No. 1286-65.)ULTIMATE FINDINGS OF FACT(a) 55 The UMW payments constitute direct expenses, and allocation among the separate mining properties in proportion to tonnage sold constitutes a fair apportionment.(b) Selling expenses constitute direct expenses, and allocation, in proportion to direct expenses among the three groups of mines in accordance with the quality of coal produced, and allocation to each separate mining property within a given group, in proportion to tonnage sold, constitutes a fair apportionment.122 (c) Allocation of indirect expenses (general and administrative and mine overhead) among the separate mining properties in proportion to direct expenses constitutes a fair apportionment.OPINIONThe petitioner is engaged in both coal mining and nonmining activities and the parties are in agreement as to the allocation of expenses between these activities. They are also in agreement that the 50 percent of taxable income limitation contained in section 613(a)6 must be computed with respect to each of the several distinct coal mining properties operated by petitioner. See sec. 1.613-4(a), Income Tax Regs. Where they part company is in the application of the requirements of respondent's regulation that expenses56 which are directly attributable to each property shall be charged to that property and that those "not directly attributable to a specific mineral property shall be fairly apportioned among the several properties."The particular issues which require decision are: (1) Whether payments of 40 cents per ton mined to the United Mine Workers of America Welfare and Retirement Fund (hereinafter referred to as the UMW payments) should be considered a direct expense and charged57 to each mine on a tonnage basis; 7 (2) whether selling expenses should similarly be considered a direct expense and charged to each mine on a tonnage basis; and (3) whether various other overhead expenses conceded to be indirect expenses (and the UMW payments and the selling expenses to the extent that they are not considered direct expenses) should be allocated among the mining properties on a tonnage basis or in proportion to direct expenses. 858 Before turning to a consideration of these specific issues, we deem it appropriate to articulate certain broad guidelines which we have used in reaching our decisions:(1) Section 611(a) provides for a "reasonable allowance for depletion * ; such reasonable allowance * * to be made under 123 regulations prescribed by the Secretary or his delegate." Concededly, this confers broad discretion on respondent in the exercise of his rule-making power. Douglas v. Commissioner, 322 U.S. 275">322 U.S. 275 (1944); Helvering v. Wilshire Oil Co., 308 U.S. 90 (1939). At the same time, it is not without significance that, in the areas with which we are concerned herein, the statute, unlike section 446(b), 9 does not itself prescribe a standard of apportionment nor does it confer discretion upon respondent beyond the authority to promulgate regulations.59 In this context, the cases involving respondent's power regarding "accounting methods" are not in point. Commissioner v. Schlude, 367 U.S. 911 (1961); American Automobile Assn. v. United States, 367 U.S. 687">367 U.S. 687 (1961); Commissioner v. Hansen, 360 U.S. 446">360 U.S. 446 (1959); Lincoln Electric Co., 54 T.C. 926 (1970); Fort Howard Paper Co., 49 T.C. 275">49 T.C. 275 (1967); Photo-Sonics, Inc., 42 T.C. 926">42 T.C. 926 (1964), affd. 357 F. 2d 656 (C.A. 9, 1966). Indeed, respondent has advanced no argument that the allocation involved is an "accounting method" within the meaning of section 446. See North Carolina Granite Corp., 43 T.C. 149">43 T.C. 149, 167-168 (1964).(2) We note that respondent has chosen to exercise his rule-making power in a very limited fashion. He has merely included in his regulations conclusory provisions that expenditures which are "attributable" to a particular property must be deducted and that those which are not "directly attributable * * * shall be fairly60 apportioned." Sec. 1.613-4(a), Income Tax Regs. He has not undertaken to establish specific criteria of apportionment which would have enlarged the taxpayer's burden to the point of requiring a showing that the regulations were arbitrary. E.g., Helvering v. Wilshire Oil Co., supra.(3) While we recognize that the allocation methods here in question fall within the accounting arena, they are not analogous to the usual interperiod accounting problems with which the courts are usually concerned. Thus, changing allocation methods from year to year will not, of itself, result in confusion or improper omissions of items of income. What is done in one year will not necessarily affect what is done in the following year. 10 Indeed, within the requirement that expenses be "fairly apportioned," it may well be that periodical changing of allocation methods may be mandated because of altered conditions. 124 Consistency of treatment over the years thus does not weigh heavily in the balance. In this frame of reference, we see no need to belabor, as the parties have done, the respective treatment of the various disputed items by both petitioner and61 respondent in past years. 11 Similarly, while the practice of other companies may be helpful in determining what constitutes a fair apportionment method, it is not determinative of the standard as applied to a particular taxpayer.(4) The areas of accounting involved herein, particularly insofar as they apply to allocation of overhead, are replete with uncertainties and ambiguities. This conclusion is confirmed both by the qualifications and reservations which infused the expert testimony which we heard and by our own 62 examination of the writings of various accounting authorities. See, e.g., Klein, "Percentage Depletion -- The Role of Proportionate Profits," 41 Taxes 144">41 Taxes 144, 156 (1963); Schiff, "Distribution Cost Analysis: A Service to Management," 105 J. Acct. 37, 38 (Feb. 1958); Miller, "Who Should Pay the President's Salary?," 109 J. Acct. 61-62 (Mar. 1960). See generally, Hills, "The Law of Accounting: II," 54 Col. L. Rev. 1091 (1954); Catlett, "Factors That Influence Accounting Principles," 110 J. Acct. 44, 48 (Oct. 1960).In light of the foregoing, we have concluded that respondent cannot, by proposing a given method in a given year, force the petitioner either to prove that the determination of the deficiency is arbitrary or fail. Respondent's reliance on Lucas v. Structural Steel Co., 281 U.S. 264">281 U.S. 264, 266 (1930), and Montreal Mining Co., 2 T.C. 688">2 T.C. 688, 694 (1943), modified on other issues ( C.A. 6, 1944, 33 A.F.T.R. (P-H) 1660">33 A.F.T.R. 1660, 44-2U.S.T.C. par. 9490), is misplaced. Both those cases involved valuation of inventories under the predecessor to section 446, which, as we 63 have already pointed out (see pp. 123, supra), is not an apt analogy. A showing that the allocation method which it advocates produces a fairer apportionment for its circumstances than the allocation method advocated by respondent is the most which can be required of petitioner in order to satisfy its burden of proof. Cf. United Salt Corporation, 40 T.C. 359">40 T.C. 359, 370-373 (1963), affirmed per curiam 339 F. 2d 215 (C.A. 5, 1964).We now address ourselves to the particular issues in dispute.UMW PaymentsPetitioner argues that the UMW payments should be apportioned on the basis of either total direct expenses or alternatively on the basis of direct union labor costs. 12 It contends that these payments go into 125 a fund which benefits all members of the union and that, since 55 percent of its union labor is not engaged in work at the face of the mine, these payments are part of the "cost of union labor" rather than a cost of producing coal. Petitioner also points out that the historical background of the genesis of the obligation to make such payments indicates that the 40 cents per ton was selected from alternative64 computation procedures. Based upon the foregoing, petitioner concludes that the tonnage relationship of the charge is merely a method of computing benefits and should therefore not be considered a cost of producing coal. We disagree.We have already indicated that the allocation of expenses may not technically involve a "method of accounting." But, it does not follow that acceptable accounting concepts are inapplicable. On the contrary, we believe that the allocation procedures employed in the computations necessary under section 613 must at least be defensible within certain broadly defined cost accounting parameters. See Neuner & Frumer, Cost Accounting, Principles and Practice, 3-4, 7-9, 702-703 (7th ed. 1967); Horngren, Cost Accounting, A Managerial Emphasis 3-5, 565 (2d ed. 65 1967). Respondent's experts (whose qualifications were conceded by petitioner) stated unqualifiedly both on direct examination and cross-examination that, since the UMW payments could be directly identified with a particular segment or "cost center," i.e., a mine, they were direct costs. Their "cost center" view of identifying direct costs is also clearly supported by the accounting authorities. See Accountants' Handbook 6.50 (4th ed., Wixon, 1956); compare Accounting Research Study No. 11, "Financial Reporting in the Extractive Industries," 29-31 (1969). Beyond this, their testimony is consistent with the undisputed facts that the 40-cents-per-ton charge was directly keyed to tons produced, that petitioner accounted for such payments separately for each mine, that no payment was required for any mine which did not produce coal, and that the payment applied uniformly regardless of whether the coal was produced mechanically or by hand or by a combination thereof and regardless of the kind of coal produced, i.e., steam, metallurgical, or other.Against these weighty indicators, petitioner argues that the raison d'etre for the payments was not the production of the coal but the fact66 that it employed union labor. It contends that if it had not employed such labor, it would not have had to obligate itself to make the payments. Such an analysis simply will not stand scrutiny. Logically, it would require us to conclude that a per-ton royalty on leased coal land was not a direct cost because the land was the generating force for the payment and if the lease had not been executed, the royalty would not have to be paid. Nor do we think that petitioner's claim that nonproducers (i.e., union labor not employed at the face 126 of the mine) benefited from the payments and that therefore the payments were in the nature of fringe compensation for all union members has any relevance. Many union members who did not work at the face of the mine were nevertheless engaged in activities identified with particular mines, e.g., loading and tipple production.The considerations advanced by petitioner do not counteract the hard fact that it is the production of the coal from the particular mine which generated the 40-cents-per-ton payment. The role of the labor element in producing coal is at best imprecise in view of the fact that the payments were not geared to the means67 of production, the type of coal produced, or the quality of the producing seam, all of which elements would appear to have a direct bearing on the cost of labor. Thus, an allocation on the basis of the cost of direct union labor would be inappropriate. The same is true, only more so, with respect to petitioner's claim that the UMW payments should be allocated on the basis of total direct expenses, which included such items as repairs, interest, taxes, and depreciation. Variations in the amounts of these items in any given year would obviously not be correlated with the amounts of the UMW payments.Petitioner seeks to take a clearly identifiable element of cost that varies exactly in direct proportion to tonnage and treat it as an indirect cost to be allocated among the mining properties by an admittedly imprecise method of allocation. This it may not do. We hold that the UMW payments constitute direct costs chargeable to each separate mining property on a tonnage basis.Selling ExpensesThat the cost of selling coal can be directly identified with the process of producing and disposing of the output of each mine cannot be denied. The same reasoning which caused us to conclude68 that the UMW payments should be treated as a direct, rather than an indirect, expense supports the conclusion that selling expenses should be similarly treated. The testimony of the expert witnesses buttresses that conclusion. In point of fact, petitioner does not seriously argue that selling expenses should not be so treated. Rather, petitioner correctly argues that the real issue is how those expenses should be allocated to each mining property.Petitioner's sales personnel were compensated on a salary plus reimbursed expenses and not on a commission basis. Their duties extended beyond mere selling and involved technical advice and assistance to customers which were important in connection with purchases of high-quality coal. Consequently, more time and effort 127 were devoted to selling high-quality (metallurgical and domestic) coal than low-quality (steam) coal. The evidence also indicates that if a mine was closed or production reduced total selling expenses were not decreased and that the dollar amount of such expenses remained approximately the same during a period when the number of tons sold approximately doubled. Finally, it appears that the high-quality coal69 is more costly to produce than low-quality coal. Based upon the foregoing, petitioner argues that allocation of selling expenses on a tonnage basis (in accordance with respondent's contention), would produce a distortion of the taxable income from each mining property and that an allocation in proportion to the direct expenses of each property constitutes a fair method of apportionment. We agree with petitioner in part.The evidence shows that petitioner's mines can be conveniently grouped into three categories based upon the type of coal produced: (1) Mines which produced only the more expensive type of coal, 13 (2) mines which produced both the more expensive and less expensive types but predominantly the former type, 14 (3) mines which produced both types but predominantly the less expensive type. 1571 However, no persuasive evidence was presented to show that, within a given group, there were significant variations in selling expenses. Nor is there any persuasive evidence which would permit us to make a judgment as to the extent of variations of selling time and effort among mines within a given group. Therefore, while we cannot accept respondent's implicit contention that70 all tons of coal cost the same to sell, neither do we feel that petitioner has produced sufficient evidence to show a correlation between the direct expenses incurred at a given mine within one of the three groups delineated above and the selling expenses attributable to that mine. In the absence of any such correlation and in light of the fact that direct expenses include such items as taxes, depreciation, and repairs, which obviously do not vary with selling expenses, an allocation in proportion to direct expenses within a group is unacceptable. Accordingly, on the basis of the record herein, we conclude that, as among the foregoing three groups, the total selling expenses should be first allocated on an aggregate direct expense basis for that group and, within each group, the allocation should be on a tonnage basis. 16128 Indirect ExpensesThe most difficult issue herein involves the allocation of indirect expenses, 17 which, as our findings of fact show, encompass a myriad of items. Respondent adopts a simplistic approach and argues that allocation on a tonnage basis constitutes a fair apportionment. Petitioner counters with the assertion that such an allocation is arbitrary and, in any event, unfair and, adopting an equally simplistic approach, argues that allocation in proportion to direct expenses satisfies the requirement of respondent's regulation. The source of our difficulty stems from the fact that, as our subsequent discussion will show, there are defects in adopting a uniform allocation formula for all indirect expenses.72 At the outset, we will dispose of petitioner's contention that respondent's method of allocation on a tonnage basis is so erroneous as to warrant a holding that it is arbitrary and capricious, with the result that the burden of proof shifts to the respondent under the doctrine of Helvering v. Taylor, 293 U.S. 507">293 U.S. 507 (1935). Concededly, respondent's method is less than mathematically accurate and, indeed, we have concluded that, on the basis of the facts of this case, it is not the measure of fair apportionment. But based upon the record herein (particularly the testimony of the experts) and the uncertainties revealed by the accounting authorities, we cannot say that it is overwhelmingly clear that respondent's method should be rejected. See citations at p. 124 supra; compare Anderson, Arthur & Co., Oil and Gas Federal Income Tax Manual 183-186 (1966); Howell, "Allocating Overhead When Computing Percentage Depletion," P-H. Oil & Gas Taxes, par. 2013 et seq.; Miller, Oil and Gas Federal Income Taxation 130-134 (1970); Miller, "Allocation of Overhead for Percentage Depletion Computation," 3 Oil & Gas Tax Quarterly 127 et seq. (1954). We 73 hold that, although respondent's method has "quick and dirty" aspects (the description is petitioner's), it is not arbitrary and capricious. 18Preliminarily, we also note that the content of the items constituting direct expenses has a bearing on the impact of an allocation based on direct expenses and therefore on whether the fair apportionment standard has been met. As our opinion already indicates, 129 the parties have had substantial differences as to what should be included in direct expenses. In presenting its position that indirect expenses should be allocated74 on the basis of direct expenses, petitioner did not include the UMW payments or selling expenses in the latter category, presumably because the use of a direct expense formula for these two items and for indirect expenses produced the same result. Petitioner has made no separate argument that these two items should not be considered as direct expenses for purposes of an allocation in proportion to such expenses. Since we have determined that the UMW payments and selling expenses should be treated as direct expenses, we conclude that they should be so treated in determining the allocation of indirect expenses.We have already pointed out that both parties have presented their argument on the allocation of indirect expenses in absolute terms. Testimony of the experts indicates making an across-the-board choice of an allocation method is less than satisfactory. Nevertheless, we have decided to accept the frame of reference established by the parties. After careful evaluation of the entire record herein, we have concluded that, under the circumstances of this particular case, petitioner has carried its burden of proof that indirect expenses should be allocated among the separate 75 mining properties in proportion to the direct expenses attributable to each of those properties and we so hold. In arriving at this conclusion, we delineate the principal considerations which we have taken into account. We list them without any indication of their order of importance.(1) It generally appears that, in the mining industry, efficient mines tend to receive less total attention from management and/or require fewer indirect expenditures than inefficient mines or mines with reduced production. Cf. Miller, "Who Should Pay the President's Salary?," 109 J. Acct. 61, 61-62 (Mar. 1960).(2) We are satisfied that to a large degree the time of petitioner's supervisory personnel, who were not directly identified with a particular mine, was spent in dealing with problem mines, i.e., those which, for example, were not meeting production schedules or which otherwise suffered from curtailed production due to strikes, accidents, etc. This is a significant consideration, since the compensation of such personnel represents a substantial part of indirect expenses. While the record herein is not as precise as we would have liked, we are satisfied that these problem mines incurred proportionately76 higher direct expenses. This conclusion finds support in our analysis of the underlying figures for 1961 and 1962, which indicates that, although tonnage and direct expense usually varied in the same direction, the proportional differences were, in many instances, significant. Direct expenses usually 130 dropped more slowly than tonnage and increased less slowly than tonnage. 19(3) Allocation on the basis of tonnage has definite shortcomings. Such an allocation, in light of the elements described in (1) above, would mean that (a) efficient mines with high production would receive a disproportionately large share of expenses; (b) problem mines with declining production would not receive a fair share of expenses; and (c) inefficient77 mines with rising production would not receive a sufficient allocation of expenses.(4) The existence and applicability of an industry practice is far from clear. Respondent presented the testimony of officials of four other companies to the effect that the practice of those companies was to allocate indirect expenses on the basis of tonnage. The testimony indicated that two operated only captive mines (Jones & Laughlin and Duquesne Light), two operated only a few mines (Duquesne Light and Carbon Fuel Co.), and two had no idle mines (Jones & Laughlin and Carbon Fuel Co.). No testimony was given as to the operating conditions of one of the companies (Consolidated Coal). We did not find this testimony particularly helpful in view of the obvious disparity between the situations of each of those companies as compared with that of petitioner. Certainly the testimony of these officials fell far short of indicating any industry practice.We have, however, taken into account the fact that what little accounting lore exists indicates that allocation of indirect expenses in proportion to direct expenses is the preferred overall method. See Howell, "Allocating Overhead When Computing Percentage78 Depletion," P-H. Oil & Gas Taxes, par. 2013 et seq.; Miller, "Allocation of Overhead for Percentage Depletion Computation," 3 Oil & Gas Tax Quarterly 132 (1954). In so stating, we are not unmindful that these accounting articulations deal principally with allocation of indirect expenses in the oil and gas area. Since there may well be some differences between oil and gas and coal mining, we have accorded limited weight to these authorities. Moreover, we are not unmindful of the fact that the concept of fair apportionment should be determined in relation to the individual taxpayer rather than to the general practice of the industry. See p. 124 supra.(6) The testimony of respondent's experts clearly established that allocation of indirect expenses under any across-the-board formula was not wholly satisfactory. Both experts indicated that they preferred an allocation method which would segregate such expenses into 131 homogeneous pools, i.e., grouping of items which could be keyed to separate, rational bases for allocation. Thus, for example, they suggested that compensation of indirect supervisory personnel should be determined on the basis of an analysis of time79 actually spent with respect to each separate mining property, 20 that depreciation and interest on indebtedness should be allocated on the basis of the investment in each property, and that workmen's compensation and mine safety expenses should be allocated on the basis of accident records and time actually spent in connection therewith. In so doing, they cast doubt on both of the methods urged upon us herein. To be sure, both testified that, absent any facts, respondent's tonnage formula was the preferred "quick and dirty" method. But both also testified that, to the extent that the efforts of indirect supervisory personnel were spent in proportion to direct expenses, petitioner's formula was fair. In light of our findings and previous discussion, we do not think that the testimony of these experts requires us to conclude that petitioner's position should be rejected.(7) Petitioner has cited 80 a few judicial authorities which purportedly bear on the subject of allocation of indirect expenses. Whitehall Cement Manufacturing Co. v. United States, 369 F. 2d 468 (C.A. 3, 1966); Standard Lime & Cement Co. v. United States, 329 F. 2d 939 (Ct. Cl. 1964); Southwestern Portland Cement Co.v.United States, an unreported case ( C.D. Cal. 1968, 1969-1 U.S.T.C. par. 9110, 22 A.F.T.R.2d (RIA) 5874">22 A.F.T.R. 2d 5874); G.C.M. 22956, 2 C.B. 103">1941-2 C.B. 103. 21 Compare also United Salt Corporation, supra;Tennessee Consolidated Coal Co., 15 T.C. (1950). But the issues in the foregoing dealt with the allocation of indirect expenses between mining and nonmining activities, 22 where obviously the use of a tonnage measurement was mathematically impossible. 23 In Standard Lime, the reported opinion simply notes that the issue of allocation among separate mining properties on the basis of direct expenses, which had been disputed before the Court of Claims commissioner, was conceded by the Government before the court. We consider81 this concession, made in the context of a litigated case involving other issues and in light of a proposed decision on these issues, of no significance.132 (8) Petitioner also points to the prior history of the dispute between it and respondent with respect to the allocation of indirect expenses as set forth in our 82 Findings of Fact. While it appears that petitioner did not adopt with alacrity or to the full extent respondent's position on such allocation in prior years, the fact is that petitioner's position herein does correspond with what respondent had previously thought constituted a fair apportionment and sought to impose (successfully, in the sense of acceptance by petitioner) as a change from the tonnage allocation method previously used. Clearly, this pattern does not amount to estoppel as against respondent, 24 but in a complicated area such as this where there is merit to petitioner's position, we think the fact that respondent seeks to switch horses has some bearing on our analysis, albeit small since, in situations such as this, each year may have its own circumstances. Compare Geometric Stamping Co., 26 T.C. 301">26 T.C. 301, 305 (1956); Gus Blass Co., 9 T.C. 15">9 T.C. 15, 35 (1947). The same can be said of the fact that respondent, in the instant case, has accepted petitioner's allocation of the excess cost of executive housing (tenements) on the basis of direct expenses. The difference between this cost and other indirect expenses involving83 executives' salaries is hard to perceive. Just as we have accorded minor consideration to respondent's prior position, we consider the fact that petitioner utilized the tonnage method of allocation for many years has limited significance.(9) In opting for petitioner's position, we do not mean to imply that it is not without its own inherent difficulties. As the expert testimony indicates (see pp. 130-131 supra), there are several items of indirect expense which do not fit the direct expense allocation mold. To the examples revealed by that testimony, we can add corporate transfer agent expenses and bad debts. In this connection, we note that the imperfections of using the direct expense method of allocation herein are counterbalanced to a substantial extent by our holdings that the UMW payments and selling expenses are direct expenses and that all of the former and portions of the latter should first be allocated on a tonnage basis.The temptation has been great to lay down general84 rules in the area of dispute involved herein, especially since there are no existing judicial guides. But we have resisted this temptation and have concluded that our function was confined to finding the proper method of allocation of indirect expenses for this petitioner in these years on the facts revealed by this record and within the frame of reference established by the parties. It has been said that, "It is not the province of the court to weigh and determine the relative merits of systems of accounting." See Brown v. Helvering, 291 U.S. 193">291 U.S. 193, 204-205 (1934). 133 Perhaps this admonition is less applicable to this Court, which is often called upon to apply its special expertise, but it cannot be gainsaid that even we are severely handicapped in pursuing our path to decision where, as is the case herein, the experts in the private sector give guarded opinions and the respondent has failed to spell out any useful guidance in accordance with the broad, discretionary authority conferred upon him by Congress. In many ways, it is more difficult for the courts to make the Solomon-like judgment required herein than in the area of valuation of85 property. See Morris M. Messing, 48 T.C. 502">48 T.C. 502, 512 (1967). It appears to us that it would not be too burdensome a task for respondent to develop, preferably in cooperation with the industry, general guidelines which could be applied unless the taxpayer showed circumstances justifying an exception. 25 We recognize, of course, that the degree of complication will vary inversely with the number of homogeneous pools involved in any breakdown. 26 But the magnitude of the task is not an excuse for not undertaking it.86 Decisions will be entered under Rule 50. Footnotes1. The deficiencies and claimed overpayments technically arise out of the tax liabilities of Island Creek Coal Co. Through a series of transactions, that company was, subsequent to the years involved herein, merged into petitioner. The parties agree that petitioner is liable for any deficiencies and is entitled to the benefit of any overpayments found by the Court herein.↩2. It appears that, during the years at issue, Elk Creek sold only purchased coal and coal produced in prior years. Nevertheless, for purposes of categorization, we have treated Elk Creek as a producing mine.↩3. We have been unable to categorize the mine designated as Island Creek #7, from which 145,482 tons were sold in 1961. The mine was closed throughout 1962.↩1. It appears that there is a mathematical discrepancy in the above table which would be eliminated if this figure were (40,269), and there are indications in the record that this correction is proper.↩4. It should be noted that all of the notices and petitions for the years 1956 through 1958 were filed prior to the date on which petitioner would have filed its return for 1961 and 1962.↩5. This would be subsequent to the timely filing of returns for 1961 and 1962. It should be noted that neither in this notice nor on the previous statutory notices did respondent disturb petitioner's allocation of mine overhead on a tonnage basis.↩6. SEC. 613. PERCENTAGE DEPLETION.(a) General Rule. -- In the case of the mines, wells, and other natural deposits listed in subsection (b), the allowance for depletion under section 611↩ shall be the percentage, specified in subsection (b), of the gross income from the property excluding from such gross income an amount equal to any rents or royalties paid or incurred by the taxpayer in respect of the property. Such allowance shall not exceed 50 percent of the taxpayer's taxable income from the property (computed without allowance for depletion). * *7. Respondent's allocations are on the basis of tonnage sold rather than tonnage produced although the contract with the United Mine Workers provides for such payment on each ton "produced for use or for sale." However, petitioner has made no argument based on this distinction and we will therefore deal with the allocation problem in terms of tonnage sold.↩8. We note at this point that the determination as to whether the UMW payments and the selling expenses are direct or indirect charges becomes material if these items are allocated on a different basis than overhead expenses.↩9. SEC. 446. GENERAL RULE FOR METHODS OF ACCOUNTING.(b) Exceptions. -- If no method of accounting has been regularly used by the taxpayer, or if the method used does not clearly reflect income, the computation of taxable income shall be made under such method as, in the opinion of the Secretary or his delegate, does clearly reflect income↩. [Emphasis added.]10. The allocations involved herein are of significance, in respect of the depletion allowance, only to the extent that a larger portion of the expenses in dispute can be charged so as to increase the losses of a particular mine or to vary the amounts of taxable income at various interests in order to take full advantage of the 10 percent of gross income limitation.↩11. In passing, we note that neither party contends that such past treatment should be accorded the mantle of collateral estoppel.↩12. Respondent complains that this alternative argument was first raised by petitioner on brief and therefore should not be considered. Our examination of the record indicates that respondent had ample notice of this theory of allocation.↩13. This group includes: Island Creek #25 and #27, Bartley #1, Algoma, Marianna, Wyoming, and Elk Creek.↩14. This group includes: Red Jacket #17, Island Creek #22, #24, and #28, Bartley #6, Kentucky #3, and Keen Mountain.↩15. This group includes: Guyan #1, #4, and #5 and Coal Mountain.↩16. Since we have been unable to identify Island Creek #7 (see fn. 3, supra↩), a portion of total selling expenses should first be allocated to that mine on a tonnage basis.17. This description is used for convenience to describe the general and administrative and mine overhead expenses set forth in our Findings of Fact.↩18. In view of this conclusion, we need not decide the extent to which the doctrine of Helvering v. Taylor, 293 U.S. 507">293 U.S. 507↩ (1935), applies to the situation, such as involved herein, where the petitioner seeks to change its method of allocation from the tonnage basis which was used in its tax returns and which was accepted by respondent, i.e., with respect to all indirect expenses for 1961 and mine overhead for 1962.19. We recognize that a decline in production accompanied by a smaller decline in expenses or a rise in production accompanied by a larger rise in expenses does not necessarily indicate that a production problem exists, as such variations could be due to foreseeable natural conditions.↩20. They also suggested a similar analysis as the underpinning for an allocation of selling expenses as a direct cost.↩21. This ruling was declared obsolete after the taxable years involved herein. See Rev. Rul. 68-661, 2 C.B. 607">1968-2 C.B. 607↩, 608.22. G.C.M. 22956 dealt in passing with the issues involved herein simply in the language of the statute specifying that the part of overhead "allocable to depletable properties must then be fairly apportioned to the several specific properties." See 2 C.B. 105">1941-2 C.B. 105↩.23. The mathematical difficulties involved deprive respondent's agreement herein to allocate indirect expenses between operating and idle mines on the basis of direct expenses of any significance.↩24. See fn. 11 supra↩.25. Respondent's proposed new regulations, which merely change the phrase "fairly apportioned" to "properly apportioned" can hardly be said to represent progress in this direction. 33 Fed. Reg. 10707↩ (1968).26. In addition to such a breakdown, different allocation measurements would have to be developed. Some of these potential measurements were suggested by the experts who testified herein and are also revealed in the various accounting authorities. To a degree, such development might also extend to direct expenses -- for example, allocating selling expenses on a dollar-value tonnage basis.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619838/	PLEASANT SUMMIT LAND CORPORATION, ET AL., 1 Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent Pleasant Summit Land Corp. v. CommissionerDocket Nos. 30159-82; 23782-85; 28283-85.United States Tax CourtT.C. Memo 1987-469; 1987 Tax Ct. Memo LEXIS 465; 54 T.C.M. (CCH) 566; T.C.M. (RIA) 87469; September 17, 1987; As amended September 24, 1987; Affirmed In Part; Reversed In Part and Remanded November 28, 1988 Richard S. Kestenbaum and Bernard S. Mark, for the petitioners. C. Ellen Pilsecker and Leslie J. Speigel, for the respondent. COHENMEMORANDUM FINDINGS OF FACT AND OPINION COHEN: Judge: In these consolidated cases, respondent determined the following deficiencies in and additions to petitioners' Federal income tax: Additions to TaxDocket No.TaxpayersYearDeficiencySec. 6651(a) 2Sec. 6621(d)30159-82Pleasant, Summit5/31/79$ 236,840.00----23782-85Estate of19818,708.00$ 278.00120% ofMelvin A.interest onIsaacson$ 8,708.0028283-85George Prussin1978264,571.20----and Sharon1979141,496.00----PrussinIn his Answer in docket No. 28283-85, respondent asserted additional interest pursuant to section 6621(d). After concessions, the issues for decision are: (1) Whether469 petitioner Pleasant Summit Land Corporation is liable for the personal holding company tax imposed by section 541. (2) Whether petitioners Isaacson and Prussin are entitled to deduct their distributive shares of a certain limited partnership's reported losses. (3) Whether petitioners Prussin are entitled to an investment tax credit attributable to a certain limited partnership. (4) Whether petitioners Isaacson and Prussin are liable for additional interest imposed by section 6621(c), formerly section 6621(d). FINDINGS OF FACT Many of the facts have been stipulated, and the facts set forth in the stipulation are incorporated in our findings by this reference. Pleasant Summit Land Corporation (PSLC) is a corporation whose principal place of business was in West Orange, New Jersey, when its petition was filed. Melvin Isaacson (Isaacson) and Miriam Isaacson resided in Torrington, Connecticut, when their petition was filed. George Prussin (Prussin) and Sharon Prussin resided in Alpine, New Jersey, when their petition was filed. Prior to May 3, 1978, Lester Robbins (Robbins) and a number of other individuals owned Summit House, an apartment complex in West Orange, New470 Jersey. On May 3, 1978, PSLC agreed to purchase Summit House from Robbins, who held the property in trust for its other owners. Documentation reflecting the agreement states that PSLC agreed to pay $ 4,200,000 for the property. On or about June 1, 1978, PSLC purchased Summit House. The closing statement reflecting the sale and the deed from Robbins to PSLC each state that the real property was sold for $ 3,650,000; the closing statement allocates the remainder of the total purchase price to personal property. PSLC made a $ 250,000 cash down payment, gave Robbins a mortgage in the amount of $ 1,350,000, and took the property subject to a $ 2,600,000 first mortgage. The closing statement reflecting PSLC's purchase was dated June 1, 1978, as was the mortgage note payable to Robbins. The deed from Robbins to PSLC and the mortgage indenture in favor of Robbins were dated "as of" June 1, 1978, but were executed on June 14, 1978. PSLC then sold the apartment buildings and the personal property, but not the underlying land, to Mount Orange Realty Corporation (MORC), its wholly owned subsidiary. The purchase and sale agreement between PSLC and MORC was executed on behalf of each471 entity by Bentley J. Blum, the president, secretary, treasurer, and director of MORC and the president and sole shareholder of PSLC. The agreement states that MORC agreed to pay $ 5,200,000 for the property. The deed from PSLC to MORC states that the buildings were sold for $ 3,681,600; the agreement allocates the remainder of the total purchase price to personal property. MORC agreed to make a $ 500,000 cash down payment and to give PSLC a nonrecourse wraparound mortgage in the amount of $ 4,700,000. The purchase and sale agreement between PSLC and MORC was dated June 1, 1978. The deed from PSLC to MORC was dated "as of" June 1, 1978, but was executed on June 14, 1978. The mortgage note payable to PSLC and the mortgage indenture in its favor were each dated "as of" June 1, 1978. PSLC subsequently sold MORC to Pleasant & Summit Associates (PSA), a New Jersey limited partnership. Petitioners Isaacson and Prussin were PSA limited partners. The purchase and sale agreement between PSLC and PSA states that PSA agreed to pay $ 2,559,200 for all issued and outstanding MORC stock. PSA gave PSLC a nonrecourse mortgage secured by MORC stock for the full amount of the purchase price.472 MORC then transferred all of its assets to PSA and dissolved. The purchase and sale agreement between PSLC and PSA was dated June 14, 1978. Although a stock escrow agreement between PSLC, MORC, PSA, and an escrow agent was dated June 15, 1978, the stock transfer document executed by PSLC was dated June 1, 1978. The mortgage note payable to PSLC was dated "as of" June 1, 1978. The mortgage indenture in favor of PSLC was also dated "as of" June 1, 1978, but was executed on June 15, 1978. PSA and PSLC entered into a 90-year ground lease covering the land underlying Summit House. The lease, dated June 1, 19778, provided for annual rental payments of $ 10,000. PSA could accrue all rental payments due during the first 10 years of the lease. Accrued but unpaid rental amounts were to bear interest at a rate of 9 percent per annum. Most of the documents reflecting these and related transactions were dated without regard to the sequence in which key events allegedly took place. A partial "chronology" of the transactions in issue, as reflected in the pertinent documents, may be set forth as follows: May 3, 1978PSLC agrees to purchaseSummit House from Robbins.June 1, 1978PSLC purchases Summit House.MORC issues stock to PSLC.PSLC sells property to MORC.PSLC transfers MORC stock to PSA.MORC assigns assets to PSA.PSA and PSLC execute ground lease.June 2, 1978PSLC and MORC are incorporated.June 6, 1978PSA is formed.June 14, 1978PSA agrees to purchase all MORC stockfrom PSLC.MORC dissolves.June 15, 1978PSA, PSLC, and MORC enter into stocktransfer escrow agreement.473 On November 17, 1978, PSLC and PSA refinanced the first mortgage on the property by obtaining a $ 2,600,000 loan from Equitable Life Assurance Society of the United States (Equitable). The loan had been approved by Equitable on June 2, 1978. Neither PSLC nor PSA was personally liable for the Equitable mortgage. Equitable required fire and extended coverage insurance in the amount of $ 2,745,000, with a 90 percent coinsurance clause. Prior to acquiring the property, PSA had issued and distributed a Confidential Offering Memorandum (memorandum). Potential investors were advised that operation of the property was expected to produce no cash flow for at least 15 years. The memorandum stated that: [I]ncome in the form of cash distributions must not be considered as an investment objective. The investment objective of an investor in the Partnership should be appreciation in value of the Property and the current tax benefits achieved primarily through the use of accelerated depreciation methods allowed by the [Internal Revenue] Code and the accrual of expenses. * Potential investors were advised that the financial benefits to be derived from an investment in the474 partnership would generally depend upon the investor's tax bracket. The memorandum focused primarily, if not exclusively, on expected tax benefits. In conjunction with the memorandum, PSA provided prospective investors with a Projected Schedule of Income and Expenses as well as a Projected Schedule of Cash Flow. The schedules, which depict the first 10 years of the partnership's operations, projected substantial annual losses and no distributions of cash to investors. Potential limited partners also received the following projection of expected tax benefits: PLEASANT & SUMMIT ASSOCIATESPROJECTED SCHEDULE OF TAXABLE (LOSS), TAX BENEFIT (COST) ANDEXCESS OF TAX BENEFIT (COST) OVER CAPITAL CONTRIBUTIONSFOR A LIMITED PARTNER ACQUIRING ONE UNITYears Ending December 31, 1978-1987CapitalTaxableRatioTax Benefit (Cost)YearContributions(Loss)to 150%60%70%1978$ 21,000$ ( 57,400)2.73$ 28,700$ 34,400$ 40,200197917,500( 46,000)2.6323,00027,60032,200198015,000( 40,000)2.6720,00024,00028,000198112,500( 36,300)2.9018,20021,80025,40019829,500( 35,600)3.7517,80021,30024,90019837,500( 33,800)4.5116,90020,30023,70019847,500( 34,000)4.5317,00020,40023,80019857,500( 29,300)3.9114,60017,60020,50019867,000( 29,800)4.2614,90017,90020,90019877,000( 30,600)4.3715,30018,40021,400$ 112,000$ (372,800)3.33$ 186,400$ 223,700$ 261,000475 Excess of Tax Benefit (Cost)Over Capital ContributionsYear50%60%70%1978$ 7,700$ 13,400$ 19,20019795,50010,10014,70019805,0009,00013,00019815,7009,30012,90019828,30011,80015,40019839,40012,80016,20019849,50012,90016,30019857,10010,10013,00019867,90010,90013,90019878,30011,40014,400$ 74,400$ 111,700$ 149,000Although the schedules projected depreciation deductions derived from a "cost" basis of $ 7,759,200, the partnership's memorandum implied that the fair market value of the property was substantially lower than its reported cost. The memorandum stated that assessed values in West Orange, New Jersey, ranged between 72 to 100 percent of fair market value. During the years in issue, the assessed value of the property was reflected on the records of the West Orange tax assessor as follows: Assessment DateLandBuildingOctober 1977$ 155,000$ 879,500October 1978155,0001,096,200October 1979257,5001,718,700October 1983864,0004,613,000After acquiring the property, PSA operated Summit House as rental housing. During476 the years in issue, PSA expended the following amounts in connection with its operation of the property: 197819791981Salaries$ 13,890$ 33,615$ 38,271Taxes67,722144,535138,326Repairs6,83018,78921,456Rubbish Removal7801,4401,642Insurance20,17110,68921,137Management Fees13,54918,19321,044Miscellaneous3712,054196Professional Fees1,9803,0003,105Supplies3,3955,9086,860Telephone83590134Utilities16,36016,04495,550Water--6,34912,989Gas and Oil5,98040,751--Licenses290160100Office Supplies17169--Exterminator368629--Advertising--1,804141During the years in issue, PSA "accrued" the following amounts in connection with its operation of the property: 197819791981Ground Rent$ 10,000$ 10,000$ 10,000Management Fees9,36318,19321,190Interest702,400699,836644,933During the years in issue, PSA received rental income and other related income from the property as follows: Rental andTaxable YearRelated Income1978$ 309,3841979603,2621981700,969477 PSA and PSLC transferred the land and the property to Pleasant and Summit Partners, an unrelated third party, on December 19, 1985. The total consideration was $ 7,000,000, of which $ 280,000 represented the sellers' real estate brokerage commission obligations which were assumed and paid by Pleasant and Summit Partners. On an income tax return for its taxable year ended May 31, 1979, PSLC computed its gain from the sale of the property to MORC under the "cost recovery" method of accounting. The company reported gross receipts of $ 1,276,869 attributable to the sale of the property, of which $ 962,000 represented "Collections of Sales Price on Property Sold" and $ 314,869 represented "Collections of Interest on Property Sold." Applying the "cost recovery" method of accounting, PSLC reported total income of $ 236,192 from the sale. In a notice of deficiency, respondent determined that PSLC should have computed its gain under the installment method. Respondent determined that PSLC realized a gain of $ 3,742,704 from its sale of the property to MORC, of which $ 464,069 was recognizable in PSLC's taxable year ended May 31, 1979. Respondent also determined that because over 60478 percent of PSLC's "adjusted ordinary gross income" was from interest, PSLC qualified as a personal holding company and was subject to the personal holding company tax imposed by section 541. As a result, respondent determined PSLC's total deficiency as follows: Corporate Income Tax Deficiency$ 130,008Personal Holding Company Tax106,832Total Deficiency$ 236,840On its Federal income tax returns, PSA claimed a depreciable basis in the property of $ 7,759,200. Of this amount, $ 7,259,200 represents nonrecourse financing: Principal AmountInitial ObligorIntitial Obligee$ 4,700,000MORCPSLC2,559,200PSAPSLC$ 7,259,200The remaining $ 500,000 of claimed basis is attributable to MORC's alleged cash down payment. On partnership returns for 1978, 1979, and 1981, PSA reported losses of $ 1,805,246, $ 1,494,243, and $ 1,307,798, respectively. In each of these years, a substantial portion of PSA's reported expenses was attributable to deductions for depreciation and interest. All reported interest expense, as well as all reported ground rent expense, represented obligations that had accrued but remained unpaid. But479 for PSA's deductions for accelerated depreciation and interest, the partnership could not have reported a loss in any of the years in issue. On their 1978 and 1979 joint income tax returns, George and Sharon Prussin deducted George Prussin's distributive share of PSA's 1978 and 1979 losses. On their 1978 return, the Prussins also claimed an investment tax credit in the amount of $ 23,100 attributable to PSA. On their 1981 joint income tax return, Melvin and Miriam Isaacson deducted Melvin Isaacson's distributive share of PSA's 1981 loss. In notices of deficiency, respondent disallowed petitioners' deductions and the Prussin's credit. OPINION PSLCOn or about June 1, 1978, PSLC sold certain buildings and personalty to its wholly owned subsidiary, MORC. Pursuant to the terms of the purchase and sale agreement, MORC was to make a cash down payment of $ 500,000 and give PSLC a "wraparound" mortgage on the property in the amount of $ 4,700,000. At trial, PSLC admitted that respondent's use of the installment method in his computation of petitioner's corporate income tax deficiency was proper. 3 Respondent continues to maintain that because interest payments from MORC480 exceeded 60 percent of PSLC's "adjusted ordinary gross income," PSLC is subject to the personal holding company tax imposed by section 541. The Internal Revenue Code imposes a special tax on the undistributed income of certain "personal holding companies." Section 541. 4 In 1934, and again in 1937, Congress concluded that many closely held corporations were no more than "incorporated pocketbooks." See Bittker and Eustice, Federal Income Taxation of Corporations and Shareholders, par. 8.20, p 8-39 (4th ed. 1979). Individuals had avoided the steeply graduated individual income tax by organizing corporations to hold investment securities. The government's principal means481 of emptying such "incorporated pocketbooks," the accumulated earnings tax, was useless if a tax avoidance purpose could not be proven. The tax on personal holding companies was consequently designed to strike where the accumulated earnings tax could not. The tax is imposed on any corporation meeting certain mechanical standards of stock ownership and income. Section 542(a) sketches a profile of the "personal holding company": (a) General Rule. -- For purposes of this subtitle, the term "personal holding company" means any corporation * * if -- (1) Adjusted ordinary gross income482 requirement. -- At least 60 percent of its adjusted ordinary gross income (as defined in section 543(b)(2)) for the taxable year is personal holding company income (as defined in section 543(a)), and (2) Stock ownership requirement. -- At any time during the last half of the taxable year more than 50 percent in value of its outstanding stock is owned, directly or indirectly, by or for not more than 5 individuals. * The parties have stipulated that only one shareholder owned PSLC stock during the corporation's taxable year ended May 31, 1979. Accordingly, they agree that the stock ownership requirement of section 542(a)(2) has been met. They also agree that interest earned pursuant to a purchase money mortgage must be included in the numerator of the fraction set forth in section 542(a)(1). Section 543(a)(1); see Lake Gerar Development Co. v. Commissioner,71 T.C. 887">71 T.C. 887, 895 (1979). Where the parties differ is in the composition of that fraction's denominator. Section 543(b)(2) defines "adjusted ordinary gross income" as "ordinary gross income" subject to certain483 reductions not petinent here. Section 543(b)(1)(A) defines "ordinary gross income" as gross income less "all gains from the sale or other disposition of capital assets." Respondent contends that PSLC's "ordinary gross income" does not encompass gain on the corporation's sale of the property to MORC. Because interest payable by MORC was PSLC's sole remaining type of income, respondent maintains that 100 percent of PSLC's "adjusted ordinary gross income" was "personal holding company income." Petitioner argues that respondent "effectively determined" that PSLC realized "ordinary gross income" of $ 778,938, as follows: Income (Gain) from sale of real estateunder the Installment Method$ 464,069Collection of interest on propertysold314,869Ordinary Gross Income$ 778,938Because PSLC's $ 314,869 of interest income is only 40 percent of the "ordinary gross income" allegedly determined by respondent, petitioner maintains that it is not a personal holding company and that it therefore is not subject to the tax imposed by section 541. Petitioner's argument is entirely unpersuasive. The notice of deficiency nowhere states that PSLC realized "ordinary484 gross income," as that term is defined in section 543(b)(1), of $ 778,938. The notice of deficiency simply sets forth the following explanation for respondent's determination of PSLC's liability: Since over 60 percent of your adjusted ordinary gross income reported for the taxable year ending May 31, 1979 was from interest, you qualified as a personal holding company as defined by section 542 of the Internal Revenue Code. Therefore, you are subject to the personal holding company tax imposed by section 541 of the Code.For purposes of section 542, "ordinary gross income" consists of gross income exclusive of capital gain, but for purposes of section 541, section 545(a) defines "undistributed personal holding company income" as simply "the taxable income of a personal holding company." Section 545(b)(5) permits a deduction for net capital gain, but not for short-term capital gain taxed at ordinary rates. See section 1.545-2(e), Income Tax Regs. Short-term capital gain is thus excluded from income when determining whether a corporation485 is a personal holding company, but included in income when computing its "undistributed personal holding company income" subject to the tax. By including gain recognized on the sale of the property to MORC in PSLC's "undistributed personal holding company income," respondent did not "effectively determine" that PSLC realized "ordinary gross income" of $ 778,938. Petitioner also contends that respondent's characterization of Summit House as a capital asset is a new issue first raised in respondent's brief. This contention is without merit; respondent's determination of petitioner's personal holding company tax liability was predicated on a determination of petitioner's "ordinary gross income" pursuant to section 543(b)(1). It is thus petitioner, not respondent, who has raised the issue on brief. Had petitioner chosen to address the issue at trial, it might have submitted evidence demonstrating that the property was held or sold in the ordinary course of PSLC's trade or business. See section 1221(1). Absent such evidence, we cannot find that the property was not a capital asset. Rules 142(a) and 149(b). 5 Respondent's determination is sustained. 486 Prussin and IsaacsonPartnership LossesPetitioners claimed deductions for their distributive shares of PSA's losses. In each of the years in issue, a substantial portion of PSA's reported expenses was attributable to deductions for depreciation and interest. To be deductible under section 167, depreciation must be based on an actual or bona fide investment in property. Odend'hal v. Commissioner,80 T.C. 588">80 T.C. 588, 604 (1983), affd. 748 F.2d 908">748 F.2d 908 (4th Cir. 1984). To be deductible under section 163, amounts paid as interest must be paid on genuine indebtedness. Knetsch v. United States,364 U.S. 361">364 U.S. 361 (1960). If the purchase price and the principal amount of a nonrecourse note unreasonably exceed the value of the property, no "investment in the property" occurs and no "genuine indebtedness" exists. Estate of Franklin v. Commissioner,544 F.2d 1045">544 F.2d 1045 (9th Cir. 1976), affg. 64 T.C. 752">64 T.C. 752 (1975). We have on several487 occasions applied the principle set forth in Estate of Franklin to disallow deductions for interest and exclude nonrecourse debt from the basis of encumbered property. Odend'hal v. Commissioner, supra;Houchins v. Commissioner,79 T.C. 570">79 T.C. 570, 598 (1982); Siegel v. Commissioner,78 T.C. 659">78 T.C. 659, 685 (1982); Brannen v. Commissioner,78 T.C. 471">78 T.C. 471, 493 (1982), affd. 772 F.2d 695">772 F.2d 695, 701 (11th Cir. 1984); Narver v. Commissioner,75 T.C. 53">75 T.C. 53, 98 (1980), affd. 670 F.2d 855">670 F.2d 855 (9th Cir. 1982). On the basis of the entire record, we conclude that PSA's deductions for depreciation and interest must likewise be disallowed. Without these deductions, the partnership was not entitled to report a loss in any of the years in issue. In reaching our conclusion, we have attempted to determine the approximate fair market value of the property in early June 1978. Fair market value has been defined as the price at which property would change hands between a willing buyer and a willing seller, neither being488 under any compulsion to buy or sell and both having reasonable knowledge of all relevant facts. United States v. Cartwright,411 U.S. 546">411 U.S. 546, 511 (1973). This generally accepted definition of fair market value assumes that buyer and seller are separate and distinct entities having adverse economic interests. Narver v. Commissioner,75 T.C. at 96. Because fair market value is a question of fact, we have weighed all relevant evidence and have drawn appropriate inferences. Hamm v. Commissioner,325 F.2d 934">325 F.2d 934, 938 (8th Cir. 1963), affg. a Memorandum Opinion of this Court. The purchase and sale documents in the three pertinent transactions appear to reflect an extraordinary increase in the property's value. On May 3, 1978, PSLC agreed to purchase Summit House, its underlying land, and associated personalty for $ 4,200,000. Documents recording the sale state that the purchase price of the land and buildings was $ 3,650,000. The personal property was sold for $ 550,000. Approximately 1 month later, PSLC sold Summit House and the personal property to MORC for $ 5,200,000. The building alone was then purportedly worth $ 3,681,000; 489 the price of the personal property had apparently risen to $ 1,519,000. Within hours, or even minutes, of PSLC's sale to MORC, PSA purportedly purchased MORC for $ 7,759,200. Several days later, MORC was liquidated into PSA. In Odend'hal v. Commissioner,80 T.C. at 612, we commented that "the doubling of the purchase price in such a back-to-back sale makes us question whether the second sales price reflects the fair market value, because there is nothing in the record to indicate how such a dramatic change could have occurred within a few weeks." A similar concern is appropriate in this case. Nothing in the record suggests that PSLC acquired the property in anything other than an arm's-length transaction. Although petitioners allege that Robbins was willing to dispose of the property for less than its fair market value, the record does not support their allegation. Petitioners maintain that the individuals represented by Robbins were disappointed by the performance of their investment and they insist that Robbins, allegedly an old friend of Blum's father, consequently490 sold the property to PSLC at a bargain price. Petitioners' argument is based almost entirely upon the testimony of Edward H. Schwartz (Schwartz), a member of the group represented by Robbins. Schwartz did not address the fair market value of the property, and his testimony actually undermines petitioners' position. Although Schwartz described his group's investment in the property as a "bad experience," he admitted that the selling price of the apartment complex was based on the market value of its then-projected rent roll. Moreover, on cross examination, Schwartz admitted that he was satisfied with Robbins' representation of his interests. Although neither party submitted a competent appraisal, the record contains some evidence suggesting that Robbins sold the property to PSLC for no less than its fair market value. 6Inferences of fair market value may, for example, be drawn from amounts of insurance coverage. Estate of Franklin v. Commissioner,544 F.2d at 1048 n.4. On November 7, 1978, PSLC and PSA refinanced the first mortgage on the property and its underlying491 land by obtaining a loan from Equitable. Equitable required fire and extended coverage insurance in the amount of $ 2,745,000, with a 90 percent coinsurance clause. Because the required insurance protected the replacement value of the buildings, not the land, the dollar amount of insurance was not inconsistent with the price PSLC paid for the entire property. We consequently rest our decision on what has been described as the most reliable evidence of value, to wit, a sale of the same property shortly before the valuation date. See Chiu v. Commissioner,84 T.C. 722">84 T.C. 722, 734 (1985). As we observed in Narver v. Commissioner,75 T.C. at 97: When two parties dealing at arm's length assign a certain value to property being492 sold, and when that value has economic significance to each of the parties, the value assigned by the parties is very persuasive evidence of its fair market value. This evidence will be determinative of the actual fair market value in the absence of competent evidence to overcome it. [Emphasis supplied. Citations omitted.]We conclude that only the first sale, i.e., the sale from Robbins to PSLC, provides evidence of the property's fair market value in early June. Petitioners have failed to adduce competent evidence sufficient to overcome the original sales price of the property. Sales subsequent to PSLC's acquisition of the property from Robbins were not at arm's length, and provide no evidence of the property's fair market value. PSLC and MORC, its wholly owned subsidiary, were not separate and distinct entities with adverse economic interests. There is no evidence in the record of any negotiations between PSA and PSLC, and no evidence suggests that the price PSA "paid" for MORC was justified or justifiable. Without dwelling on the many indicia of tax avoidance present in the record, suffice it to say that the preparation of documents with apparent disregard493 for key dates, the relative absence of arm's-length dealing, and an unconcern for the actual economics of an allegedly substantial real estate "investment" all suggest that PSA's acquisition of Summit House was motivated by little more than a desire for tax benefits. PSA's offering memorandum explicitly states that the partnership was not intended to generate cash flow for distribution to its investors. Although the offering memorandum also states that prospective partners should expect to profit from appreciation, PSA proposed to "pay" $ 7,759,200 for property worth less than $ 4,200,000. Assuming that it was reasonable to expect the property to appreciate substantially, it was not reasonable to pay almost twice what the buildings were worth on the date of purchase. The memorandum and its accompanying schedules focus primarily, if not exclusively, on the tax advantages of investment in the partnership. These purported tax advantages, not the prospect of appreciation, were to be the partnership's reward for its acquisition of the property. As we noted in Flowers v. Commissioner,80 T.C. 914">80 T.C. 914, 935 n.28 (1983), in a transaction entered into primarily to generate494 tax benefits, the interests of the buying and the selling parties are not necessarily adverse. PSLC thus had no objection to any artificial inflation in the price of the property. Other evidence indicates that PSA agreed to "pay" a grossly inflated price because it did not intend to obtain an actual "investment" in the property. The parties have stipulated that the 1979 assessed value of the building was $ 1,096,200. In this case, the relationship between assessed value and fair market value has not been demonstrated. Northern Trust Co., Transferee v. Commissioner,87 T.C. 349">87 T.C. 349, 382 (1986). We may nevertheless consider the offering memorandum's treatment of the assessed value of the property as evidence of the partnership's intentions. Assuming that the assessed value was only 72 percent of market value, the lower figure represented by PSA in the offering memorandum, the 1979 value of the building was only $ 1,522,500. The offering memorandum's implication of a low fair market value is consistent with our view of this transaction as a "paper trail" designed to yield deductions. See Falsetti v. Commissioner,85 T.C. 332">85 T.C. 332, 347-348 (1985). 495 Finally, we note that in 1985, PSLC and PSA sold the land, buildings, and personal property to an unrelated third party for $ 7,000,000, of which $ 280,000 represented the sellers' real estate brokerage commission obligation. Although the property had appreciated substantially over a 7-year period, PSA clearly did not receive an amount equal to what it purports to have paid for the buildings and personal property alone. PSA's willingness to sell the property for such a low price suggests that the partnership did not consider its "investment" to be as substantial as it now claims. We thus conclude that the fair market value of the property could have been not more than $ 4,200,000 on the date of PSLC's sale of MORC to PSA. Because the land underlying the building and personal property must have had some value, the property purchased by PSA was almost certainly was worth less. PSA nevertheless claimed a depreciable basis in the property of $ 7,759,200. Of this amount, $ 7,259,200 represents nonrecourse financing. The record contains no evidence establishing that MORC's $ 500,000 cash down payment was actually made, and only a bald assertion by Schwartz suggests that payments496 were made on the notes. The absence of documentary evidence of any payments is unexplained, and, from petitioners' failure to produce such evidence, we may infer that any documentation would not support petitioners' claim. See Wichita Terminal Elevator Co. v. Commissioner,6 T.C. 1158">6 T.C. 1158, 1165 (1946), affd. 162 F.2d 513">162 F.2d 513 (10th Cir. 1947). Applying the principle set forth in Estate of Franklin v. Commissioner, supra, and its progeny, we conclude that the principal amount of the indebtedness given or assumed by PSA, as well as the total purchase price "paid" by the partnership, unreasonably exceeded the value of the property. For tax purposes, no "investment in the property" occurred and no "genuine indebtedness" exists. PSA has not established any depreciable basis in the property, nor has it established the existence of any bona fide debt. The partnership is thus not entitled to deductions for depreciation or interest. Petitioners misconstrue the principle set forth in Estate of Franklin and applied above. They contend that we must compare the fair market value of the property with the present value of PSA's nonrecourse497 note. In no case has this Court or any other court adopted the test advanced by petitioners.7 Petitioners rely on Gyro Engineering Corp. v. United States,417 F.2d 437">417 F.2d 437 (9th Cir. 1969); Waddell v. Commissioner,86 T.C. 848">86 T.C. 848 (1986); and Brountas v. Commissioner,73 T.C. 491">73 T.C. 491 (1979), vacated and remanded on other grounds 692 F.2d 152">692 F.2d 152 (1st Cir. 1982), affd. in part and revd. and remanded in part on other grounds sub nom. CRC Corp. v. Commissioner,693 F.2d 281">693 F.2d 281 (3d Cir. 1982), to argue that the approach set forth in Estate of Franklin has been reformulated. Gyro Engineering Corp. v. United States, supra, cannot in any way be construed as authority for petitioners' position. In Waddell v. Commissioner, supra, we explicitly recognized that the Estate of Franklin test is applied by "comparing the value of the encumbered property to the total purchase price and the principal amount of the putative debt." 86 T.C. at 903. We also observed, however, that498 the property securing the debt at issue in Waddell consisted of computer equipment and related intangibles that, unlike real estate, were expected to decline in value over time. See 86 T.C. at 907 n. 39. Moreover, any payments of principal on the debt were to be made out of net exploitation revenues from the taxpayer's use of the property. Because equivalence between the value of the property and the face amount of the debt would not necessarily continue to exist throughout the life of each, we expanded the equivalence inquiry to encompass default or maturity. 86 T.C. at 903-904. In Brountas v. Commissioner, supra, we merely determined that certain nonrecourse notes were production payments under section 636. 499 Investment Tax CreditPetitioners Prussin claimed an investment tax credit on their 1978 tax return for an amount attributable to PSA. Petitioners presented neither evidence nor argument pertaining to their entitlement to the credit. We deem the matter conceded. Rules 142(a) and 149(b).Additions to TaxSection 6621(c), formerly section 6621(d), provides for an increase in the rate of interest accruing on tax deficiencies where there is a "substantial underpayment" (an underpayment exceeding $ 1,000) in any taxable year attributable to tax motivated transactions. Section 6621(c)(1) and (2). Section 6621(c)(3)(A)(i) provides that "any valuation overstatement (within the meaning of section 6659(c))" is a "tax motivated transaction." Section 6659(c) defines as a valuation overstatement a claim that the value or adjusted basis of property is at least 150 percent of the actual value or adjusted basis. Because the basis determined herein is zero, the entire amount of PSA's claim of a depreciable basis of $ 7,759,200 constitutes a valuation overstatement under section*500 6659(c). Because petitioners' underpayments exceeded $ 1,000, and because the underpayments were attributable to a tax-motivated transaction, petitioners are liable for the increased rate of interest. We have considered each of the other arguments advanced by the parties, but do not address them here because they are unnecessary for our resolution of the issues presented. To reflect the foregoing, Decisions will be entered under Rule 155.Footnotes1. Cases of the following petitioners are consolidated herewith: Estate of Melvin W. Isaacson, Miriam A. Isaacson, Executrix, and Miriam A. Isaacson, docket No. 23782-85; and George Prussin and Sharon Prussin, docket No. 28283-85. ↩2. Unless otherwise indicated, all statutory references are to the Internal Revenue Code of 1954, as amended and in effect during the years in issue.↩3. In its brief, petitioner contends that respondent erroneously failed to reduce PSLC's gain by commissions paid of $ 78,677. Petitioner is incorrect. On its return, PSLC accounted for these commission in its computation of the corporation's "Deferred Gain on Sale of Property"; respondent simply determined that this gain must be reported under the installment method, rather than under the "cost recovery" method. ↩4. SEC. 541. IMPOSITION OF PERSONAL HOLDING COMPANY TAX. In addition to other taxes imposed by this chapter, there is hereby imposed for each taxable year on the undistributed personal holding company income (as defined in section 545) of every personal holding company (as defined in section 542↩) a personal holding company tax equal to 70 percent of the undistributed personal holding company income. 5. Unless otherwise indicated, any reference to "Rules" shall be deemed to refer to the Tax Court Rules of Practice and Procedure. ↩6. Petitioners failed to submit an expert report as required by Rule 143(f)↩ and the Standing Pretrial Order, and before trial they decided to proceed without expert testimony as to value. At trial, petitioners submitted an appraisal prepared for Blum. That appraisal was neither offered nor received as proof of fair market value. 7. In Brannen v. Commissioner,78 T.C. 471">78 T.C. 471 (1982), affd. 772 F.2d 695">772 F.2d 695 (11th Cir. 1984), we stated that the test was whether the stated purchase price unreasonably exceeded the value of the property. In Hager v. Commissioner,76 T.C. 759">76 T.C. 759 (1981), we stated that the test was whether the principal amount of the nonrecourse indebtedness unreasonably exceeded the value of the property. In this case, as in other cases, we need not decide which test is appropriate because our decision would be the same under either approach. See Waddell v. Commissioner,86 T.C. 848">86 T.C. 848, 901 n.34 (1986); Flowers v. Commissioner,80 T.C. 914">80 T.C. 914, 942 n.42 (1983); Odend'hal v. Commissioner,80 T.C. 588">80 T.C. 588, 604 n.7 (1983), affd. 748 F.2d 908">748 F.2d 908 (4th Cir. 1984). Were we to adopt petitioners' approach we would nevertheless conclude that the deductions in issue were properly disallowed. On brief, petitioners adduce lengthy charts that purportedly compare the present value of PSA's obligation with the fair market value of the property. We are at a loss to understand the intended significance of petitioners' display. Petitioners compute a present value of $ 4,679,655 for the notes, yet fail to explain why PSA is nevertheless entitled to include the full face value of the notes in its basis. Moreover, petitioners' analysis is flawed in several other respects. Petitioners' computations are based on assumptions without foundation in the record, and many entries in petitioners' charts do not correspond with the exhibits from which they were allegedly derived. Statements in a brief do not constitute evidence; we may not accept as fact assumptions that are without evidentiary support. See Rule 143(b)↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619839/	ISIDORE GARNETS, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Garnets v. CommissionerDocket Nos. 36598, 45707.United States Board of Tax Appeals26 B.T.A. 384; 1932 BTA LEXIS 1320; June 10, 1932, Promulgated 1320 Held that the petitioner is not entitled to a greater allowance for earned income in the operation of a business school than 20 per cent of the net profit derived therefrom, the services of employees and the employment of capital having been material income-producing factors. Joseph Getz, Esq., for the petitioner. Frederick K. Slanker, Esq., for the respondent. ARUNDELL384 These proceedings were consolidated for the redetermination of deficiencies of $167.98 and $185.41 in income taxes for the respective years 1925 and 1927. The issue is whether all or only 20 per cent of profits received by the petitioner in the operation of a commercial school should be treated as earned income. FINDINGS OF FACT. The petitioner, an individual residing in Brooklyn, New York, since 1912 has been in the business of conducting, as owner, the Alpha School, a commercial school located at 2 Sumner Avenue, Brooklyn, New York. The school has no branches and since 1913 has been 385 registered by the Board of Regents of the State of New York. In order to obtain such registration petitioner was required to satisfy the Board of Regents as to his1321 character, education, and fitness to operate a registered business school. The school occupied seven class rooms and two offices. The class rooms were equipped with about 400 desks, approximately 100 typewriters, calculating, mimeographing and multigraphing machines, and other appliances necessary to teach commercial subjects. The machines have to be replaced every three years. For the space used, petitioner paid a monthly rental of $575. He purchased typewriters on terms providing for the discharge of the price in installments over a period of three years. The courses taught in the school were commercial subjects consisting of bookkeeping, stenography, typewriting, English, commercial arithmetic, commercial business ethics, business behaviour, penmanship and kindred subjects. The school was open for instruction from 8.30 a.m. to 1 p.m., five days per week, and from 7.30 p.m. to 10 p.m., four days each week. In 1925 and 1927 petitioner had about 400 students attending his day classes and about 200 his evening classes. The tuition fees were $10 per month for day students and $5 or $6 for evening students, payable in advance. The maximum period of grace allowed by petitioner1322 for payment of tuition was one month. The staff of the school consisted of about twelve teachers, graduates of institutions of higher education, two office girls, and three or four solicitors of enrollments. The instructors were qualified men and the most experienced petitioner could obtain. About five of them instructed both day and evening classes and the remainder day or evening classes. The petitioner interviewed many of the students to determine a course of study suitable for them; arranged all the courses of study after consulting his teachers; selected text books to be used; wrote advertising copy; engaged teachers, supervised their work, and fixed their compensation; was qualified to teach all of the subjects given at the school and taught bookkeeping, commercial arithmetic, business ethics and behavior during about twenty-five of the approximately one hundred and forty hours of instruction given per week; handled general administrative matters for the school; decided upon disciplinary measures to be taken in cases referred to him by his teachers, and interviewed the parents of such students; conducted examinations on the subjects taught by him and gave final examinations1323 in some of the other subjects; determined the fitness of students for graduation; endeavored to place his students in positions after graduation, and exercised immediate supervision over all of the activities of his school. 386 Every student was required to enroll for at least one of the subjects given by petitioner. In the taxable years petitioner was president, and as such, in charge of the Nest Corporation, a corporation engaged in the real estate and mortgage bond business. For this service he received a salary of $6,000 per year. He devoted his afternoons to this work and his mornings and evenings conducting the affairs of his school. The tuition fees received by the Alpha School in 1925 and 1927 were, respectively, $63,848 and $56,752.25. For the respective years petitioner had income of $233.16 and $264.80 from the sale to students of text books, school pins, stationery, and supplies. These sales were made practically at cost as an accummodation to the students. The school had no other income. The amount expended for text books for the free use of the students was $3,117.73 in 1925, and $2,219.20 in 1927. Petitioner did not receive a commission from the publishers1324 for handling or using the books. In the taxable years petitioner had invested in furniture, fixtures, typewriters and other equipment in use at the school and expended for salaries and advertising in his conduct of the institution the following amounts: Item19251927Furniture, etc$15,311.58$28,281.58Salaries30,832.8129,008.76Advertising2,113.064,545.06The cost of the equipment used in the school was paid for from current receipts. The increase in 1927 over 1925 was due to a change of equipment. The advertising was done in high school magazines and by distributing blotters and program cards in high schools. The school also advertised for positions for its graduates. OPINION. ARUNDELL: This proceeding involves section 209(a) of the Revenue Act of 1926, which, as far as material here, provides: (1) The term "earned income" means wages, salaries, professional fees, and other amounts received as compensation for personal services actually rendered * * . In the case of a taxpayer engaged in a trade or business in which both personal services and capital are material income-producing factors, a reasonable allowance as compensation1325 for the personal services actually rendered by the taxpayer, not in excess of 20 per centum of his share of the net profits of such trade or business, shall be considered as earned income. The statute quoted lays down two classifications in respect of the source of the income that is treated as earned. The first class is that in which the income is compensation for personal services 387 actually rendered. The second includes situations where, in addition to the personal services rendered, capital is a material income-producing factor. Petitioner contends that he comes within the first classification, whereas the respondent has determined that he comes under the second group. The descriptions of the two groups are contained in the same section of the statute, and the provisions regarding each group must be considered as being in pari materia. Neither one is to be regarded as an exception, but in each case it must be decided on the facts which classification is applicable. In the present case the respondent has determined that the source of petitioner's income was the operation of a "trade or business in which both the personal services and capital are material1326 income-producing factors." Under our procedure that determination is presumptively correct. The evidence establishes that petitioner rendered personal services to the Alpha School and that at least a part of the income of the school was attributable to his services. We have no doubt that it may be possible to conduct a successful school entirely by means of personal service and without the use of capital. But in our opinion this is not such a case. Here we have a school for the conduct of which a building of substantial size is required, and in which there was used equipment valued at over $15,000 in 1925 and over $28,281.58 in 1927. These substantial investments can not easily be dismissed from view. The equipment owned by petitioner and used in the operation of the school included about 400 desks, 100 typewriters, a number of calculating machines, mimeographs, multigraphs, and other equipment necessary to teach commercial subjects, and one or two automobiles. Even the slightest knowledge of the operating methods of modern business or commercial schools makes it obvious that the possession of such equipment as petitioner had is more than a mere incident in the successful1327 operation of the school. On the contrary, it is indispensable. The theory of bookkeeping might well be taught without extensive equipment, but modern schools realize that theory alone will not produce a practical bookkeeper and so they provide desks on which the student may spread his practice materials. It is equally plain that no amount of theory can produce a proficient typist or operator of machines used in modern business, but that machines for demonstration and practice are necessary. In ; affd., , one of the elements necessary for the taxpayer to establish was that capital was not a material factor in the production of income, which consisted largely of tuition fees. On this phase of the case the Circuit Court said: * * As to the tuition fees, it is perfectly plain that they were earned and produced by the use of a plant and equipment without which, no matter how 388 eloquent the teaching of the stockholding professors might have been, no matter how magnetic the influence and drawing capacity of the stockholders, no single student could have been drawn to the school, or1328 if drawn, kept and instructed there. In , in which the taxpayer was seeking classification as a personal service corporation, the court after referring to the taxpayer's investment in desks, typewriters and other teaching paraphernalia, said: * * * That all this was capital can not be gainsaid, and that it was "income-producing" is as certain as the fact of its employment in the process of conferring education upon the students who were paying the price. The things represented by this capital investment constituted the "plant" which, directly operated by the teaching force, under the general direction of the management, conferred the education which produced the income. The burden of proof in this proceeding is on the petitioner to show that capital was not a "material income-producing factor" within the meaning of that phrase as interpreted and applied by the courts in personal service corporation cases. The evidence here is mostly devoted to showing what petitioner's personal activities were in the operation of the school, and is insufficient to overcome the presumption that respondent was correct in classifying1329 petitioner as one whose earned income is subject to the 20 per cent limitation. Viewing the case from another angle, we are of the opinion that petitioner's income from the school does not come within the statutory definition of earned income as "amounts received for personal services actually rendered." Aside from the use of capital in the business, it is plain that the income was not due alone to petitioner's personal services. He employed about twelve teachers, to whom he paid annual salaries of approximately $30,000. Clearly, those instructors would not have been engaged if petitioner could have conducted the school on the same scale without them. Petitioner testified that the faculty was composed of the most experienced teachers he could get and that they were all graduates of institutions of higher learning. It is difficult to believe that teachers of the high caliber indicated by petitioner's testimony were merely incidental to the operation of the business. It is pointed out in , that teachers in a business school are in a very different class from messengers and others serving the principal owners in a personal capacity, 1330 and that it is mainly through the contact between teachers and students that tuition is earned. On the evidence we see no error in respondent's limitation of earned income by the 20 per cent provision of the statute. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619843/	Punch Press Repair Corporation, Petitioner, v. Commissioner of Internal Revenue, RespondentPunch Press Repair Corp. v. CommissionerDocket No. 32579United States Tax Court21 T.C. 223; 1953 U.S. Tax Ct. LEXIS 25; November 19, 1953, Promulgated 25 Decision will be entered under Rule 50. Petitioner, which commenced business during the base period, held to qualify for relief (I. R. C., sec. 722 (b) (4)). Constructive average base period net income determined. B. Dave Bushaw, Esq., for the petitioner.John L. King, Esq., for the respondent. Arundell, Judge. ARUNDELL223 Petitioner claims relief under section 722 (b) (4) of the Internal Revenue Code, and seeks refunds of excess profits taxes for 1941, 1942, 1943, 1944, and 1945 in the amounts of $ 5,057.18, $ 13,657.44, $ 7,002.62, $ 12,896.39, and $ 12,512.32, respectively.Issue was framed on whether petitioner qualified26 for relief under the applicable law and, if so, the amount of its constructive average base period net income.FINDINGS OF FACT.The stipulated facts are hereby found accordingly.The petitioner, Punch Press Repair Corporation, was organized on February 25, 1937, under the laws of the State of Michigan by Percy Boyd, Sr., and its principal place of business at that time was located at 17170 Dequindre Street, Detroit, Michigan. At the time of the hearing, its principal place of business was located at 1975 Hilton Road, Ferndale, Michigan.Respondent allowed the petitioner the following excess profits tax credits based on its invested capital:YearCredit allowed1941$ 1,754.8419423,161.9819433,393.3919443,586.0519453,921.62The petitioner filed applications for relief under section 722 (a) and (b) ( 4) of the Internal Revenue Code for the years 1941 to 1945, inclusive. These applications were subsequently amended by petitioner.Related claims for relief and refund (Form 843) were filed by petitioner with the collector of internal revenue for the district of Michigan at Detroit, Michigan, for the years 1941 to 1945, inclusive.As stated in its articles of incorporation, 27 petitioner was organized for the following purposes: To manufacture, or to cause to be manufactured, to buy, sell, lease, and otherwise deal in, to erect, construct, alter, or repair, or to cause to be erected, constructed, altered, or repaired, 224 any and all kinds of machinery or mechanical labor-saving devices and all appurtenances, appliances, and accessories thereto.Petitioner has kept its same name since the date of its incorporation.The total authorized capital stock of petitioner consisted of 5,000 shares of common stock at $ 1 par value per share. There was only one class of common stock and each share had equal rights and voting powers.At the date of incorporation of petitioner, Percy Boyd, Sr., subscribed to 3,000 shares of common stock.The officers of petitioner during the years 1937, 1938, and 1939 were Percy Boyd, Sr., president and treasurer, and John D. Laurence, vice president and secretary.The stockholders of petitioner and the number of shares of common stock owned by each for the years 1937, 1938, and 1939 were as follows:Number of sharesName193719381939Percy Boyd, Sr2,2502,2502,250John D. Laurence750750750Robert Wright250250250Glenn Forrest12512528 Petitioner's balance sheets for the years 1937, 1938, and 1939 were as follows:Dec. 31, 1937ASSETS:Cash$ 620.43Notes and accounts receivable$ 1,935.35Reserve for doubtful accounts1,935.35Inventory67.50Property, building and equipment:Land450.00Building1,350.00Building improvements and additionsMachinery and equipment4,525.23Total6,325.23Less: Reserve for depreciation:BuildingMachinery and equipment452.52Total452.52Book value5,872.71Total assets8,495.99LIABILITIES:Accounts payable$ 903.10Land contract, mortgage and loanspayable2,162.39Accrued expenses90.23Accrued Federal income tax42.78Total liabilities3,198.50CAPITAL:Common stock3,250.00Paid-in surplus1,793.90Earned surplus: Beginning of yearNet income for period253.59253.595,297.49Total liabilities and capital8,495.99Dec. 31, 1938ASSETS:Cash$ 850.99Notes and accounts receivable$ 2,614.02Reserve for doubtful accounts2,614.02Inventory295.00Property, building and equipment:Land450.00Building1,350.00Building improvements and additions956.61Machinery and equipment6,577.78Total9,334.39Less: Reserve for depreciation:Building79.46Machinery and equipment892.57Total972.03Book value8,362.36Total assets12,122.37LIABILITIES:Accounts payable$ 1,262.76Land contract, mortgage and loanspayable2,191.47Accrued expenses93.00Accrued Federal income tax329.01Total liabilities3,876.24CAPITAL:Common stock3,375.00Paid-in surplus2,314.50Earned surplus: Beginning of year253.59Net income for period2,303.042,556.638,246.13Total liabilities and capital12,122.3729 Dec. 31, 1939ASSETS:Cash$ 1,962.90Notes and accounts receivable$ 5,538.72Reserve for doubtful accounts286.185,252.54Inventory610.00Property, building and equipment:Land450.00Building1,350.00Building improvements and additions1,118.37Machinery and equipment7,259.57Total10,177.94Less: Reserve for depreciation:Building174.98Machinery and equipment1,474.83Total1,649.81Book value8,528.13Total assets16,353.57LIABILITIES:Accounts payable$ 115.06Land contract, mortgage and loanspayable1,304.47Accrued expenses5,218.98Accrued Federal income tax390.28Total liabilities7,028.79CAPITAL:Common stock3,375.00Paid-in surplus2,559.10Earned surplus: Beginning of year2,556.63Net income for period834.053,390.689,324.78Total liabilities and capital16,353.57225 Petitioner's profit and loss statements for the years 1937, 1938, and 1939 were as follows: 1193719381939Sales$ 20,280.58$ 13,618.35$ 37,684.13Cost of sales:Inventory67.50295.00Material purchases8,694.404,145.3412,783.04Salaries and wages5,482.354,314.9013,904.90Total14,176.758,527.7426,982.94Inventory67.50295.00610.00Cost of sales14,109.258,232.7426,372.94Gross profit6,171.335,385.6111,311.19Expenses:Executive salaries2,840.75536.505,200.00Bad debts286.18Interest342.4279.0896.12Taxes227.89248.76588.56Depreciation -- Machinery452.52436.81582.26Depreciation -- Building82.7095.52General expense772.53886.092,252.39Light, heat and power137.87232.96376.23Telephone and telegraph82.62103.30181.02Commissions303.75Bank fees and discounts240.68395.96Rent45.00Royalties993.60Total expenses5,895.202,846.8810,357.99Operating profit276.132,538.73953.20Other income20.2493.32Net profit before taxes296.372,632.05953.20Provision for Federal income tax42.78329.01119.15Net profit253.592,303.04834.0530 For the periods next above shown, the average gross profits are equal to 32.95 per cent of average sales.Petitioner's monthly sales for the years 1937, 1938, and 1939 and their allocation on an annual basis between antiknock trip bracket sales (hereinafter described) and repair sales were as follows:193719381939January$ 63.65$ 2,586.35February1,182.602,273.20March$ 1,455.701,184.751,247.66April860.00735.152,306.12May1,017.32242.501,465.06June1,694.90406.002,304.55July2,051.00568.252,669.88August2,011.451,148.124,384.32September2,384.661,813.075,323.57October2,351.852,287.205,432.95November4,873.651,498.044,455.22December1,580.052,489.023,235.25Totals20,280.5813,618.3537,684.1331 226 Allocated as follows:193719381939Antiknockbracket:Sales$ 4,000.0020%$ 640.005%$ 2,240.006%Repair sales16,280.5880%12,987.3595%35,444.1594%20,280.58100%13,618.35100%37,684.15100%Number of brackets sold 50828Petitioner purchased machinery and equipment in 1937, 1938, and 1939 at a cost of $ 4,525.23, $ 6,577.78, $ 7,259.57, respectively. Of the $ 4,525.23 expended in 1937, $ 2,095 was for machinery and equipment sold to petitioner by Percy Boyd on March 8, 1937.Petitioner's land, buildings, and improvements for the years 1937, 1938, and 1939 were as follows:Aug. 31, 1937Land and building:1710 [sic] Dequindre St., Detroit,Mich., Acquired August 31, 1937, onLand Contract for$ 1,800.00Allocated purchase price:Land$ 450.00Building1,350.00Building improvements and additions:Building constructionCommenced January 1938 --Additions -- Year 1938956.61Additions -- Year 1939161.761,118.37Dec. 31, 1939,Balance $ 3,018.37In 1938, petitioner 32 built an addition to its Dequindre Street plant. It was completed by March of that year.Boyd resided at 95 Greendale Avenue, Detroit, Michigan, at the time of the hearing.From 1916 to 1939, Boyd was employed by the Ford Motor Company. He terminated his employment with that company on August 1, 1939.Boyd was employed by the Ford Motor Company in the following capacities: Stock man, machinist, draftsman, assistant to head foreman, and foreman in charge of the afternoon shift. While he was shift foreman, approximately 80 per cent of Boyd's work related to punch presses.As a Ford Motor Company employee, Boyd worked on the following types of machines: production lathes, mills, screw machines, Bullards, upsetters, and drop hammers.227 While with the Ford Motor Company, Boyd also ran a small business (a sole proprietorship) which consisted of machining and tooling of an antiknock trip bracket for punch presses which he had invented. He had worked on the invention for about 12 years and had patented it. Prior to and during part of 1936, he operated this business from the basement of his home. In 1936 he rented a shop at 17170 Dequindre Street, Detroit, Michigan, and moved 33 his business to that address. He sold and installed his antiknock trip bracket in the factories of Motor Metals, Buhl Stamping, Chevrolet Gear and Axle, American Metals, and Buick in Flint, Michigan, on a trial basis. Such installation often also involved minor repairs and brought Boyd in touch with factory personnel who sought his assistance in general machinery maintenance.While with the Ford Motor Company, it was Boyd's practice to open his own shop on Dequindre Street at 7 a. m. and to remain at the shop until 2:15 p. m. He would then go to the Ford Motor Company to supervise the afternoon shift and after finishing would return to his shop to see that the work had been completed and to close the shop. He estimated that at the time he was working for Ford's and running his own shop he was working approximately 18 hours per day.The antiknock bracket is used on a block type clutch. The block clutches have hardened drive blocks in them which drive punch presses. When the edges of these blocks become worn, a thumping sound occurs and results in a dangerous situation. The purpose of the antiknock bracket was to provide a running clearance at all times between the drive collar34 and the mating jaw of the clutch and thereby eliminate any knock. This bracket allowed the blocks to be used approximately five times longer than under ordinary conditions.The antiknock trip brackets are used exclusively on punch presses.When Boyd organized the Punch Press Repair Corporation in 1937, it was necessary for him to acquire some minor machines. He paid cash for these machines due to the fact that he did not have a business credit standing. After he had acquired a few machines, he was allowed to use them as collateral when he negotiated a loan. He also borrowed on his life insurance policies and discounted his accounts receivable. Petitioner could have used more money in its business during the base period years.While working for the Ford Motor Company, Boyd was paid no fixed salary by petitioner.After terminating his employment with the Ford Motor Company in August 1939, Boyd devoted his entire time to the affairs of the petitioner. As a result of Boyd's efforts, petitioner's sales increased substantially in volume.The petitioner's repair work consisted primarily of repairs to punch 228 presses. If petitioner could not do the work and a complete overhaul35 was necessary, the customer would send the machine back to its maker. There were no manufacturers of punch presses in Michigan.The petitioner rejected heavy repair work during the years 1937, 1938, and 1939 due to the fact that it did not have the plant facilities to handle such work. There was plenty of this type of work available. Petitioner's employees worked primarily with a chain fall. The building in which it operated had a 16-foot ceiling and, therefore, could not accommodate presses which were as high as 30 feet.Most of the work done by the petitioner was handled on the premises of its customers. The petitioner's employees would remove the parts for repair from the particular machine, transport them to petitioner's shop, if necessary, and then return them for installation on the customer's machine.In order to dismantle a heavy press, it was necessary to have from 2 to 6 men work on it. If 6 men worked on such a machine, Boyd estimated that it would take them a total of approximately 60 hours to dismantle the machine.The petitioner employed both full and part-time help.During the years 1937, 1938, and 1939, the petitioner was only able to engage in ordinary repair36 work and was not able to completely overhaul a punch press.The petitioner was grouped with the Automotive Tool and Die Manufacturers Association during World War II in order for the United States Government to have some basis for allocating materials and manpower to it.The petitioner's business was entirely different from that carried on by the members of the Automotive Tool and Die Manufacturers Association in that while it used machinery similar to the tool and die industry, its craft trades and job work were entirely different.William Norman Davis was one of the controlling stockholders of the Davis Tool and Engineering Company which is located at 19250 Plymouth Road, Detroit, Michigan. This company is primarily engaged in operating a stamping plant and a tool jobbing shop. It was organized in 1924 by Mr. Davis and his four brothers.Davis and his brothers at some time prior to 1936 formed another corporation, engaged in a similar business, which was located on Epworth Boulevard, Detroit, Michigan. The gross business done by this corporation and the Davis Tool and Engineering Company was approximately $ 500,000 a year in the years 1936 through 1939. These corporations had37 in their shops punch presses, lathes, grinders, shapers, boring mills, and other tool and die machinery.Davis first became acquainted with Boyd and petitioner in 1937 when the corporations with which he was associated needed someone 229 to repair their machinery, and petitioner was employed to perform this service. Prior to employing petitioner, the machinists in the corporations with which Davis was associated repaired the machinery in their own tool rooms. There were times when it was not practical to have the machinists do the repair work due to the fact that they were not specialists in particular repair jobs.The corporations with which Davis was associated continued to use Boyd's services through 1939.The work done for Davis by petitioner and Boyd had been very satisfactory and Davis at all times was ready to recommend them. There were many shops in Detroit which needed petitioner's services.The corporations with which Davis was associated did not discontinue having their machinists repair their own machinery but followed the practice of calling in Boyd on what they considered to be major repair jobs.Petitioner commenced business during the base period.Petitioner's38 excess profits credit allowed to it for the taxable years 1941 to 1945, inclusive, computed under section 714 of the Code, resulted in an excessive and discriminatory tax.Petitioner did not reach, by the end of the base period, the earning level which it would have reached if petitioner had commenced business 2 years before it actually did.Petitioner's average base period net income is an inadequate standard of normal earnings. A fair and just amount, representing normal earnings to be used by the petitioner as a constructive average base period net income, is $ 11,000.OPINION.Respondent concedes that because petitioner commenced business during the base period years, under Rand Beverage Co., 18 T. C. 275, and section 722 (b) of the Internal Revenue Code, it is entitled to proceed with proof to establish that an excess profits credit, based on a fair and just amount representing normal earnings, to be used as a constructive average base period net income, is in excess of its excess profits tax credit computed without the benefit of section 722.Petitioner has attempted to make a reconstruction said to be based upon the alleged experience of the 39 Automotive Tool and Die Manufacturers Association. Our finding of fact that the business of this association and the business of petitioner were entirely different precludes consideration of such a reconstruction. Moreover, there are such extreme hiatuses between other facts used in petitioner's proposed recomputation and the facts of record that petitioner's recomputation is not acceptable.230 By reason of the fact that petitioner commenced business in the base period, it is entitled, under the provisions of section 722 (b) (4) of the Code, if its business "did not reach, by the end of the base period, the earning level which it would have reached if * * * [it] had commenced business * * * two years before it did so," to show what its level of earnings would have been by December 31, 1939, had it commenced business 2 years before it did. See Del Mar Turf Club, 16 T.C. 749">16 T. C. 749.Petitioner's substantial growth in sales between 1937 and 1939, and particularly the consistent growing strength in its sales figures during most all the months in 1939, compel us to conclude that it had not reached a normal level of sales by the end of 1939. The growing40 strength of sales in 1939 overcomes any implications which might flow from the fact that 1938 sales were less than those for 1937.In finding this December 31, 1939, level of earnings, the petitioner is not required to establish, and indeed this Court is not able to determine, more than a fair and just amount under all of the circumstances. Exact mathematical computations are not necessary. See Danco Co., 1493">17 T. C. 1493, 1498; Radio Shack Corporation, 19 T. C. 756; and Crossfield Products Corporation, 20 T.C. 97">20 T. C. 97.The record discloses that after petitioner commenced business during the base period, it expanded its capacity by the acquisition of some new machinery, and it also enlarged its plant. The record further demonstrates that petitioner had no competition in its line of endeavor in the Detroit area, and that petitioner did good work and was well thought of by companies using its services. And the devotion of the full time of petitioner's president to the management of the business in August of 1939 was followed by successive months in which sales were approximately twice what they41 had been in the earlier months of that year. In addition, we believe that it is reasonable to assume that had petitioner begun its business 2 years earlier, costs would have been well in hand by December 31, 1939, so that its projected level of earnings as of that date would be normal. Such factors properly may be considered in arriving at a constructive average base period net income. See Rand Beverage Co., supra.The entire record, including the items above enumerated, compels us to this conclusion that had petitioner commenced business 2 years before it did, it would have reached a higher level of earnings for its year ending December 31, 1939, and to the conclusion that $ 11,000 is a fair and just amount representing normal earnings to be used as a constructive average base period net income. See W. J. Voit Rubber Corporation, 20 T. C. 84; Fishbeck Awning Co., 19 T.C. 773">19 T. C. 773.Reviewed by the Special Division.Decision will be entered under Rule 50. Footnotes1. After giving effect to adjustments in revenue agent's report of January 26, 1942, for 1938 and 1939. Prior to adjustments by reason of disallowances under section 24 (c) of the Code, petitioner's net income for 1938 and 1939 was reported as $ 463.06 and $ 260.87, respectively.↩*. Stipulated thus. Correct addition equals $ 2,918.37.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619846/	Chatom Co., Ltd., Petitioner, v. Commissioner of Internal Revenue, RespondentChatom Co. v. CommissionerDocket No. 76666United States Tax Court36 T.C. 540; 1961 U.S. Tax Ct. LEXIS 125; June 20, 1961, Filed 125 Decision will be entered under Rule 50. The petitioner obtained a loan of $ 153,234.24 from the Commodity Credit Corporation and gave as security a chattel mortgage on some 123,000 bushels of barley covered by a warehouse receipt. The warehouseman both before and after the date of the mortgage had converted a substantial part of the grain. Upon discovery of the defalcation the warehouseman went into bankruptcy. The United States sued the petitioner for the full amount of the loan and interest. Both the United States and petitioner filed claims with the trustee in bankruptcy. In 1955 the matters were settled and the United States dismissed its suit against petitioner with prejudice. Held, certain payments made by the bankruptcy trustee to the United States on behalf of petitioner were income to petitioner in 1955. Held, further, petitioner realized additional income in 1955 by cancellation of the remaining portions of petitioner's indebtedness to the CCC as a result of the dismissal of the Government's suit pursuant to the settlement agreement. Wareham C. Seaman, Esq., and Thomas E. Smail, Jr., Esq., for the petitioner.Sidney U. Hiken, Esq., for the respondent. Tietjens, Judge. TIETJENS540 OPINION.The Commissioner determined deficiencies in income tax in the amounts of $ 2,959.02 and $ 58,542.56 for the fiscal years ended July 31, 1954, and July 31, 1955, respectively.The petition herein raises issues appertaining only to fiscal 1955. The question for decision is whether the Commissioner properly included in income the sum of $ 133,270.89127 as the result of certain transactions hereinafter described between petitioner and the Commodity Credit Corporation.All of the facts are stipulated and are so found. In pertinent summary they are as follows:The petitioner, a corporation organized in 1932 under the laws of the State of California, has at all times since its inception (a) engaged 541 in the business of farming, (b) computed its taxable income under an accrual method of accounting, and (c) filed its income tax returns on the basis of fiscal years ending July 31. It filed its return for the fiscal year 1955 with the district director of internal revenue at San Francisco, California.On July 21, 1948, the petitioner delivered for storage to H. S. Brietigam, a public warehouseman, 123,576 bushels of No. 2 Bright Western Barley which the petitioner, in the ordinary course of its regular business, had produced to sell. The delivery was evidenced by Brietigam's warehouse receipt dated July 21, 1948.On November 12, 1948, the petitioner borrowed $ 153,234.24 from the Commodity Credit Corporation (herein referred to as the CCC) for which the petitioner executed and delivered its promissory note dated November 4, 1948, 128 wherein it promised to pay to the order of the CCC on or before April 30, 1949, the principal amount of the loan together with interest thereon at the rate of 3 percent per annum.The note was secured by a chattel mortgage dated November 4, 1948, which purported to create a lien upon the 123,576 bushels of barley covered by the warehouse receipt.Similar notes and mortgages were executed by three other barley producers and the CCC relating to barley warehoused with Brietigam about the same time.Subsequent to July 21, 1948, when petitioner delivered its barley to Brietigam for storage but prior to November 4, 1948, Brietigam commingled petitioner's barley with barley he had received for storage from the other producers, and during this period Brietigam removed and sold for his own account or otherwise appropriated to his own use, substantial amounts of barley from the commingled mass so formed. As a result of these appropriations, diversions, and sales by Brietigam, the total mass of the commingled barley in the Brietigam warehouse on November 4, 1948, was substantially less than the total amount that had been deposited with Brietigam by the petitioner and other producers in July129 and August 1948.On or before December 17, 1948, Brietigam became insolvent, there was not then sufficient barley in his storage facilities to meet his outstanding warehouse receipts, and he announced the facts to his creditors and to those who had deposited barley with him. He ceased all warehouse business on that date and surrendered physical possession and control of all of his assets and the remaining grain in storage to a committee of his creditors. On March 8, 1949, Brietigam filed a voluntary petition for adjudication in bankruptcy and shortly thereafter he was adjudged bankrupt as of March 8, 1949. Thereafter the petitioner filed a creditor's claim in the amount of $ 153,234.24 in the bankruptcy proceedings.542 The commingled mass of barley delivered by Brietigam to his creditors was thereafter sold by the receiver and trustee in bankruptcy of Brietigam, free and clear of all liens and claims, pursuant to a court order entered in the bankruptcy proceedings and agreement of the holders of Brietigam's warehouse receipts.On or about February 2, 1949, the CCC made written demand upon the petitioner and the other producers to satisfy their promissory notes, but the petitioner130 and the other producers failed and refused either to make payment or to deliver to the CCC the barley purportedly covered by their chattel mortgages.On or about July 29, 1949, the petitioner assigned to the CCC (a) all of its right, title, and interest in and to the Brietigam warehouse receipt and (b) any claims it might have against Brietigam with respect to barley covered by the warehouse receipt. On the same date the petitioner endorsed and delivered the warehouse receipt to the CCC. This assignment recited that it was made solely for the purpose of facilitating the handling of the respective claims of CCC and the petitioner and was not to constitute payment or satisfaction of the obligation of petitioner to the CCC by virtue of the promissory note heretofore described. Neither was the agreement of assignment to be deemed to be a waiver of any defense which the petitioner might have against any claim or suit by the CCC on the note to recover the loan value of barley converted prior to the date of the chattel mortgage.On or about September 23, 1949, and thereafter, the United States of America filed various claims in the Brietigam bankruptcy case to which the trustee in bankruptcy131 filed objections. The United States also, on May 18, 1954, filed suit to recover from the petitioner and each of the other barley producers the amounts it had lent them through its agency, the CCC. In the litigation the United States claimed from the petitioner the full amount of the loan made by CCC to the petitioner.A settlement agreement was worked out among the parties to the bankruptcy proceeding which was dated February 7, 1955. Pursuant to this agreement the trustee paid the United States on behalf of the petitioner the sum of $ 64,864.19 and the petitioner paid the United States, in addition, the sum of $ 32,444.73. In compliance with a further provision of the settlement agreement the United States dismissed with prejudice the litigation which had been brought against the petitioner and the other producers to collect the amounts of their notes to the CCC.The cost to petitioner of the 123,576 bushels of barley referred to in Brietigam's warehouse receipt was $ 43,420.34. This amount was included in respect of the barley, as part of petitioner's harvested crop then on hand, in the closing inventory reported at the lower of 543 cost or market on petitioner's income132 tax return for the fiscal year 1948.On its income tax return for the fiscal year 1949, petitioner took a loss deduction of $ 43,420.34 by showing no yearend inventory with respect to the 123,576 bushels of barley, and the petitioner explained the loss deduction in the following statement attached to its fiscal year 1949 return: Grain stored in unbonded storage, cost on 8/1/48 $ 43,420.34 lost through theft and sale by warehouseman. No recovery available, no insurance.The loss deduction was not disturbed by respondent on an audit and examination of petitioner's fiscal year 1949 return, and petitioner realized a tax benefit therefrom to the full extent thereof.The petitioner did not elect under the provisions of section 123 of the Internal Revenue Code of 1939 to consider as income for the fiscal year 1949 the amount of $ 153,234.24 it received as a loan from the CCC on November 12, 1948, nor did it include the amount of said CCC loan in its gross income for that fiscal year.At all times from November 12, 1948, when it received the loan, until on or about March 3, 1955, the date of the payments described above, the petitioner carried the CCC loan as a loan on its books133 and records, and treated and reported it as a loan on its Federal income tax returns.Petitioner did not report as income, or pay any income tax on, the $ 153,234.24 proceeds of the loan or any part thereof, for any of the fiscal years 1949 to 1954, inclusive.The petitioner reported and claimed the following interest deductions on its returns for the following fiscal years in respect of the loan, none of which interest the petitioner has ever paid as interest:Return forInterestfiscal year --deduction1949$ 3,287.3219504,597.0319514,597.0319524,597.0219534,597.0219544,597.02The petitioner realized tax benefits from these interest deductions for each of the fiscal years 1949 to 1951, inclusive, to the full extent of each year's deduction.The interest deductions reported by the petitioner on its returns for each of the fiscal years 1952 to 1954, inclusive, have been disallowed by the Commissioner.No entry was made in petitioner's books and records at any time prior to March 3, 1955, nor was any statement made in any of petitioner's returns for any of the fiscal years 1949 to 1954, inclusive, indicating that petitioner might have realized income, or 134 might later claim it realized income, at any time before March 3, 1955, in respect 544 of the $ 153,234.24 it received as a loan from the CCC on November 12, 1948.The petitioner on its return for fiscal 1955 excluded from its gross income under section 108(a) of the Internal Revenue Code of 1954 the sum of $ 147,061.95 as income from the "discharge of indebtedness" and consented to an adjustment to the basis of the property in connection with which the indebtedness was incurred pursuant to section 1017 of the Internal Revenue Code of 1954. This amount was computed as follows:Principal of petitioner's note dated Nov. 4, 1948, to the CCC$ 153,234.24Add interest alleged by petitioner to be allowed or allowable inprior years, i.e., for the fiscal years 1949 to 1954, inclusive26,272.44179,506.68Less amount paid by the petitioner on or about March 3, 1955, tothe United States of America pursuant to settlement agreement32,444.73Income realized by petitioner during the fiscal year 1955except for the provisions of section 108(a) of the InternalRevenue Code of 1954 if said section applies to thepresent proceedings147,061.95In determining the deficiency135 herein for fiscal 1955 the Commissioner among other adjustments increased petitioner's income by $ 133,270.89, with the following explanation:It is held that as a result of such settlement with the Commodity Credit Corporation, you realized ordinary income attributable to the chattel mortgage and constructive sale of your barley calculated as follows:Loan proceeds, 11/4/1948$ 153,234.24Less settlement repayment32,444.73Gain attributable to constructive sale of barley$ 120,789.51Add interest accrued and deducted on your returns forfiscal years 1949, 1950, 195112,481.38Total gain realized$ 133,270.89ULTIMATE FINDING.Petitioner realized ordinary income in the amount of $ 64,864.19 during its fiscal year 1955 on the payment during that year to the CCC of that amount by the trustee in bankruptcy on petitioner's behalf, for petitioner's benefit, and at petitioner's direction, which amount represented petitioner's then first-determined share of the proceeds from the sale of a commingled mass of barley contained in the Brietigam warehouse. In addition thereto, petitioner realized income during fiscal year 1955 in the amount of $ 68,406.70 from the discharge136 of an indebtedness owing by the petitioner to the CCC, which amount petitioner is entitled to exclude from income under the provisions of section 108(a) of the Internal Revenue Code of 545 1954 if that amount is applied, pursuant to the provisions of section 1017 of the Code, in reduction of the basis of property held by petitioner. The amount of $ 68,406.70 is computed as follows:Borrowed by petitioner from the CCC, Nov. 4, 1948$ 153,234.24Less amount paid to CCC by trustee in bankruptcy of H. S.Brietigam for and on behalf of petitioner64,864.1988,370.05Add interest accrued and deducted on petitioner's returnsfor fiscal years 1949 to 1951, inclusive12,481.38Petitioner's total indebtedness to the CCC immediatelypreceding petitioner's payment to the CCC of $ 32,444.73,plus interest taken as a deduction100,851.43Less amount paid by petitioner to the CCC in dischargeof pertitioner's then indebtedness to the CCC32,444.73Income to petitioner from the discharge of petitioner'sthen indebtedness to the CCC68,406.70The parties have presented several possible solutions to the problem before us. The petitioner's main contention is that137 if it received taxable income at all, the income was received in some previous year, maybe 1948 or 1949 or 1953, not here involved, and that it is not taxable on such income in 1955. In so doing, the petitioner departs from the position which it took in its return for 1955, which, of course, it is privileged to do. Deman Tire & Rubber Co., 14 T.C. 706">14 T.C. 706, affd. 192 F. 2d 261 (C.A. 6).The Commissioner's position is that the petitioner sold its barley in 1955 and that the amount it was entitled to receive as a matter of right for the sale was finally fixed by the events which occurred in that year. Hence the amount so determined was taxable as ordinary income in that year. Alternatively, the Commissioner argues that the entire gain realized by the petitioner under the March 3, 1955, settlement constituted either gross income derived from its business or income derived from dealing in property.On the other hand, the Commissioner recognizes the possibility that the income which the petitioner realized in 1955 was realized partly from the discharge of its note to the CCC and partly as the result of the payment by the trustee 138 in bankruptcy on petitioner's behalf for application on its obligation to the CCC.We think the latter possible resolution of the problem is the correct one. The mechanics of this resolution is set forth in our Ultimate Finding above.For the sake of clarity we recapitulate the facts. In November of 1948 the petitioner borrowed $ 153,234.24 from the CCC and gave its note therefor secured by a chattel mortgage on 123,576 bushels of 546 barley which it had grown for sale. The barley had been warehoused and it was discovered shortly after the note and mortgage had been given that the warehouseman had converted substantial amounts of the grain to his own use, both before and after the loan and mortgage. When the CCC learned that petitioner did not at the time of the loan own the quantity of grain recited in the mortgage, the CCC made written demand on petitioner to repay the loan or deliver the grain, but petitioner failed and refused to do so. Thereafter the United States filed suit against petitioner to recover the loan plus interest thereon. After the demand but before the suit was filed the warehouseman went through bankruptcy. The CCC claim against petitioner was settled139 during petitioner's fiscal year ended July 31, 1955, under a settlement agreement which provided, inter alia, that the trustee in bankruptcy would pay $ 64,864.19 and the petitioner, $ 32,444.73 to the United States in respect of petitioner's loan. These payments were made on March 3, 1955, whereupon the suit of the United States against petitioner was dismissed with prejudice. This, in our view, resulted in the cancellation of the balance due on the note and mortgage.Petitioner had not elected under section 123(a) of the Internal Revenue Code of 1939 to report the loan proceeds as income when received in its fiscal year ended July 31, 1949; it did not report the loan proceeds as income for any subsequent year; and at all times from the date of the loan until the date of the settlement it carried the loan as such on its books and records and reported it as such on its returns. It accrued interest on the loan and deducted such interest on its returns for the fiscal years 1949 to 1954, inclusive, but such interest was never paid. Petitioner, by an inventory writeoff on its return for the fiscal year 1949, thereby recovered in full its cost of producing the barley in that year. 140 On these facts we think it is clear that petitioner received taxable income in 1955. Petitioner patently obligated itself on its note to the CCC in 1948 and though petitioner argues it had no "personal" liability on the note because of certain recitations contained in the mortgage, the United States Government on its own behalf and that of the CCC contested this denial of liability. See Old Colony Trust Associates v. Hassett, 179">150 F. 2d 179, where it was said: "Further, advances may be loans even when there is an absence of personal liability and the lender can look only to the pledged securities for repayment." This contested liability was finally resolved in the settlement agreement reached during fiscal 1955. Thus in fiscal 1955 "all events" occurred which finally determined the amount the petitioner was to receive for its barley and the computation set out in our finding properly reflects the income which the petitioner is bound to 547 accrue in 1955. United States v. Consolidated Edison Co. of N.Y., 366 U.S. 380">366 U.S. 380. In our view, part of the income (as shown in our finding) resulted from the cash payment141 made by the trustee in bankruptcy to the Government on petitioner's behalf and is properly to be treated as income of the petitioner. Douglas v. Willcuts, 291 U.S. 1">291 U.S. 1. In addition, the petitioner received further income resulting from the cancellation and satisfaction of the contested balance of its indebtedness on the CCC note and mortgage. Estate of W. R. Whitthorne, 44 B.T.A. 1234">44 B.T.A. 1234.As the Commissioner recognizes on brief the "petitioner is as a matter of law entitled to exclude from income whichever of said amounts it realized as such [as cancellation of indebtedness] during its taxable year 1955 only if the excluded amount is applied in reduction of the basis of petitioner's property. Sections 108(a) and 1017, Internal Revenue Code of 1954." Otherwise, the amount will have to be treated as ordinary income in the Rule 50 computation.Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619848/	PAMELA WAIOLENA, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentWaiolena v. CommissionerDocket No. 19266-93United States Tax CourtT.C. Memo 1994-404; 1994 Tax Ct. Memo LEXIS 411; 68 T.C.M. (CCH) 468; 94-2 U.S. Tax Cas. (CCH) P47,966; August 18, 1994, Filed 411 Decision will be entered for respondent. Pamela Waiolena, pro se. For respondent: Jonathan J. Ono. JACOBSJACOBSMEMORANDUM FINDINGS OF FACT AND OPINION JACOBS, Judge: Respondent determined a deficiency of $ 540 in petitioner's Federal income tax for 1990. All section references are to the Internal Revenue Code in effect for the year in issue. All Rule references are to the Tax Court Rules of Practice and Procedure. All dollar amounts are rounded. The issues for decision are: (1) Whether petitioner underreported unemployment compensation by $ 2,752; and (2) whether petitioner underreported wage income by $ 835. FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. The stipulation of facts and attached exhibits are incorporated herein by this reference. Petitioner resided in Honolulu, Hawaii, at the time she filed her petition in this case. During part of the year in issue, petitioner was simultaneously employed as an administrative assistant for the Research Corporation of the University of Hawaii (the University), the Kona Coast Resort, and the State of Hawaii Central Payroll. She received wages from each of these employers. Petitioner 412 was also unemployed during part of the year. Petitioner received unemployment compensation from the State of Hawaii during that time. Petitioner timely filed an individual Federal income tax return, Form 1040, for the year in issue. Petitioner's return reported income from the University and the Kona Coast Resort. Her return did not report income from the State of Hawaii Central Payroll, from which she had received $ 835 of wage income, nor did the return report $ 2,752 of unemployment compensation that petitioner had received. In January 1991, petitioner took a 6-month leave of absence from her position at the University. She spent the first 2 months in New Zealand. She spent the remaining 4 months in Hawaii, living out of her automobile, with no income other than her unemployment compensation. Petitioner kept all of her tax information stored in a box inside her automobile. In 1991, while searching through her mail, petitioner found a Form W-2 from the State of Hawaii Central Payroll. Petitioner filled out an amended individual return, which included the previously unreported wage income. Respondent did not receive the amended return. Petitioner received unemployment 413 compensation checks for May through August 1990. Although petitioner received the compensation checks, she stated that she did not receive a document indicating the total amount of unemployment compensation received during the year. Petitioner alleges that because she had no knowledge of how much unemployment compensation she had received, she could not report the unemployment compensation on her tax return. OPINION Respondent's determination is presumptively correct, and petitioner bears the burden of proving otherwise. Rule 142(a); . Section 61(a)(1) provides that gross income means income from whatever source derived, including wage income. Section 85(a) provides that gross income also includes unemployment compensation. Section 85(b) defines "unemployment compensation" as an amount received according to the laws of the United States or an individual State which is in the nature of unemployment compensation. In the instant case, respondent determined that petitioner underreported both wage income and unemployment compensation for 1990. At trial, petitioner conceded that she received $ 835 of wage income414 from the State of Hawaii Central Payroll and $ 2,752 of unemployment compensation from the State of Hawaii. Due to petitioner's concessions, respondent's determination is sustained. To reflect the foregoing, Decision will be entered for respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619850/	David E. Johnson and Mattie Johnson, Petitioners v. Commissioner of Internal Revenue, RespondentJohnson v. CommissionerDocket No. 111-71United States Tax Court60 T.C. 829; 1973 U.S. Tax Ct. LEXIS 66; 60 T.C. No. 87; September 5, 1973, Filed 66 Decision will be entered for the respondent. Petitioner, owner of a boat marina, rented out sheds in the marina for usage by boat owners. Petitioner performed various services for, and sold sundry items to, the boat shed occupants. Petitioner did not receive separate consideration for a substantial portion of these services. Held, petitioner's income from the boat shed rentals does not constitute rentals from real estate within the meaning of sec. 1402(a)(1), I.R.C. 1954, and, therefore, petitioner's net earnings from the boat shed rentals are subject to the self-employment tax imposed by sec. 1401. Samuel L. Payne, for the petitioners.Robert J. Shilliday, Jr., for the respondent. Fay, Judge. FAY829 OPINIONRespondent determined deficiencies in petitioner David E. Johnson's self-employment tax for the taxable years 1967 and 1968 in the amounts of $ 250.56 and $ 271.11, respectively. The sole issue for determination is whether income received from the rental of petitioner David E. Johnson's boat sheds constitutes rental income from real estate under section 1402(a)(1) of the Internal Revenue Code of 19541 for purposes of computing petitioner David E. Johnson's self-employment tax under section 1401 for the taxable years in issue.68 All of the facts have been stipulated and are found accordingly. The stipulation of facts and the exhibits attached thereto are incorporated herein by this reference.Petitioners David E. Johnson and Mattie Johnson are husband and wife whose residence as of the date the petition herein was filed was 830 Suwannee, Fla. Petitioners filed joint Federal income tax returns for the years 1967 and 1968 with the district director of internal revenue at Jacksonville, Fla.Mattie Johnson is a petitioner herein solely by reason of having filed joint Federal income tax returns with her husband during the years in issue. References hereinafter to "petitioner" will be to David E. Johnson.From 1950 through 1968 petitioner was self-employed in the business of operating a boat marina and fishing camp. Petitioners reported the total earnings from this business as profit from a business on their income tax returns from 1950 to 1965, including the rents received from the rental of petitioner's boat sheds. For the taxable year 1967, petitioners reported $ 1,311 as a net profit from their fishing camp business and $ 3,915 as net income from rents received from the rental of boat sheds. For69 the taxable year 1968 petitioners reported $ 1,426.44 as net profit from the fishing camp business and $ 4,236 as net income from rents received from rental of boat sheds. Petitioners reported $ 1,311 and $ 1,426.44 as self-employment income for the taxable years 1967 and 1968, respectively.Petitioner filed an application for retirement insurance benefits on May 27, 1966, upon reaching the age of 65. This application was granted. In June 1969 it was determined by the Social Security Administration that claimant's income from self-employment should be adjusted to $ 5,226 for 1967 and $ 5,662.44 for 1968. Because of this determination, petitioner's social security benefits were terminated, and the payments made from April 1966 to December 1968 were considered an overpayment.On March 3, 1970, petitioner requested a hearing before the Social Security Administration, Bureau of Hearings and Appeals, protesting the determination of the Social Security Administration.This hearing was held on April 23, 1970. The hearing examiner concluded that petitioner had income from self-employment of $ 5,226 for 1967 and $ 5,662.44 for 1968, and, therefore, petitioner was not entitled to social70 security benefits for those years. This decision became final on October 27, 1970, and was based on the hearing examiner's conclusion that amounts petitioner claimed as rental income were actually business income.Petitioner then brought an action in the U.S. District Court for the Northern District of Florida, Gainesville, for judicial review of the final decision of the Secretary of the United States Department of Health, Education, and Welfare. On November 9, 1971, Judge David L. Middlebrooks, U.S. district judge, issued an opinion order in the case of David E. Johnson v. Elliot L. Richardson. The District Court upheld the decision of the Social Security Administration and found 831 that petitioner's income from his boat marina business was not attributable principally to the occupancy of land, but to the services and facilities provided by petitioner's presence on the site, so that such increments of income were net earnings from self-employment received by petitioner while engaged in a trade or business in the years 1966, 1967, and 1968. The court also observed (1) that although petitioner may have devoted less than 45 hours a month to his trade or business, 71 his services to the business were nonetheless substantial and (2) that petitioner was not retired within the meaning of the social security provisions during the years in issue.On January 3, 1972, petitioner appealed the decision of the District Court to the U.S. Court of Appeals for the Fifth Circuit. On June 29, 1972, the Fifth Circuit affirmed the decision of the District Court in a per curiam opinion.Petitioner began building sheds for the storage of boats in 1956, and during 1967 and 1968 petitioner had facilities available for mooring about 60 boats.Adjacent to the boat sheds is a small store operated by petitioners in which petitioners sell such items as fishing tackle, cigarettes, cold drinks, candy, and crackers.There are also two gasoline pumps located at the store. During 1967 and 1968 petitioners sold gasoline, oil, fishing tackle, and other sundry items to the owners of the boats who rented mooring space under the boat sheds and to various passers-by.Petitioners lived in a house trailer which was located very close to the boat sheds and the store during the years in question.Petitioner received from $ 5 to $ 15 per month for the rental of each boat stall under72 oral agreements usually on a yearly basis.Petitioner provided the following services to the owners of boats who rented space under his boat sheds: (1) Providing of gas and oils; (2) selling of sundry items at petitioners' store; (3) making arrangements for others to repair the boat owners' boats and motors; (4) recharging of batteries; (5) loaning of boat paddles, cushions, and other gear useful in the operation of boats; (6) providing fishing tips; and (7) checking daily for overdue boats and reporting the overdue boats to the local conservation department.Petitioner did not receive separate consideration for many of the above-enunciated services.Petitioner managed the store, boat sheds, and gasoline pumps in 1967 and 1968.The services which petitioner rendered to the boat owners are not those usually or customarily rendered in connection with the mere rental of mooring space at a boat shed.The question presented for our consideration is whether income 832 derived by petitioner from the rental of boat space during the years in issue constituted income from the rental of real estate within the meaning of section 1402(a)(1) for purposes of computing petitioner's self-employment73 tax liability under section 1401.Section 1.1402(a)-4 (c)(2), Income Tax Regs., 2 provides that if services other than those usually or customarily rendered in connection with the rental of rooms or space are rendered to the occupant, the payments for the use or occupancy of the rooms or space do not constitute rentals from real estate.74 Although the instant issue is an income tax determination, an analogous issue exists under comparable provisions of the Social Security Act 3 and the accompanying Social Security Administration Regulations 4 for purposes of deciding whether a claimant's income from rental activities is the type of income which would entitle him to benefits under the social security system.Since the old age, survivor, and disability insurance provisions of the Social Security Act were enacted to protect workers and their dependents from the risk of loss of income due to the worker's old age, death, or disability, the courts have concluded that Congress intended that the coverage provisions of the Social Security Act should be construed in such a manner as to insure maximum coverage. Accordingly, the rental exclusion contained75 in section 411(a) of the Social Security Act and the accompanying regulation (i.e., section 404.1053(d)(2), Social Security Administration Regulations), has been strictly construed to prevent this exclusion from interfering with the congressional purpose of effectuating maximum coverage under the social security umbrella. See Delno v. Celebrezze, 347 F. 2d 159, 165 (C.A. 9, 1965), wherein the Ninth Circuit stated as follows:The record indicates that the Appeals Council applied the "services to occupant" exception narrowly, and included borderline items in the rental exclusion. The general statutory preference for coverage would seem to require the opposite approach. Moreover, there is specific evidence that Congress intended the rental exclusion to be narrowly restricted to payments for occupancy only. These considerations, as well as the general purposes of the Act, dictate that any service not clearly required to maintain the property in condition for occupancy be 833 considered work performed for the tenant, and not for the conservation of invested capital. [Footnote omitted.]See also Rasmussen v. Gardner, 374 F. 2d 589, 594-59576 (C.A. 10, 1967); Celebrezze v. Kilborn, 322 F. 2d 166, 168 (C.A. 5, 1963); Koeller v. Finch, 315 F. Supp. 533">315 F. Supp. 533, 543 (D.C. Kan. 1970).We are persuaded that the rental exclusion contained in section 1402(a)(1) and in section 1.1402(a)-4(c)(2), Income Tax Regs., should likewise be narrowly construed. This not only promotes a symmetrical parallel between the social security eligibility provisions for self-employed persons and the corresponding income tax provisions for taxing self-employed persons for social security purposes, but also enhances the congressional policy of insuring that the optimum number of potentially eligible persons will be provided for under the social security provisions in the event of their ultimate dependency. See William E. Palmer, 52 T.C. 310">52 T.C. 310, 314 (1969).It appears that petitioner was separately paid for gas, oil, fishing tackle, and sundry items which he sold to the boat owners. But additionally, petitioner rendered such gratuitous services as the providing of fishing tips and information, the checking for overdue boats and the reporting of overdue boats77 to the responsible local officials, the loaning of paddles and other gear, the availability of battery recharge service, and the providing for others to perform repair functions, which were clearly not essential for the conservation of petitioner's invested capital. These services, within the meaning of section 1.1402(a)-4(c)(2), Income Tax Regs., are primarily for the convenience of the boat shed occupants and are other than those usually or customarily rendered in connection with the rental of boat shed space. We have therefore concluded that petitioner's income from the rental of his boat sheds during the years in issue did not constitute rentals from real estate for self-employment tax purposes.Respondent contends that petitioner should be collaterally estopped from raising the issue of whether the boat shed rentals constituted rentals for self-employment tax purposes due to the Health, Education, and Welfare determination which was affirmed subsequently pursuant to judicial review by the appropriate appellate forums. However, since we have disposed of the self-employment tax issue on the substantive merits in respondent's favor, we do not find it necessary to consider the78 collateral estoppel argument.Decision will be entered for the respondent. Footnotes1. Unless otherwise indicated, all section references hereinafter are to the Internal Revenue Code of 1954.↩2. Sec. 1.1402(a)-4 Rentals from real estate.(c)(2) Services rendered for occupants↩. Payments for the use or occupancy of rooms or other space where services are also rendered to the occupant, such as for the use or occupancy of rooms or other quarters in hotels, boarding houses, or apartment houses furnishing hotel services, or in tourist camps or tourist homes, or payments for the use or occupancy of space in parking lots, warehouses, or storage garages, do not constitute rentals from real estate; consequently, such payments are included in determining net earnings from self-employment. Generally, services are considered rendered to the occupant if they are primarily for his convenience and are other than those usually or customarily rendered in connection with the rental of rooms or other space for occupancy only. * *3. See 42 U.S.C. sec. 411(a)↩.4. See sec. 404.1053(d)(2), Social Security Administration Regs., which contains comparable language to sec. 1.1402(a)-4(c)(2), Income Tax Regs.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619851/	R. C. MIDDLETON, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Middleton v. CommissionerDocket No. 10845.United States Board of Tax Appeals5 B.T.A. 205; 1926 BTA LEXIS 2917; October 27, 1926, Decided 2917 Held, that the debt with respect to which the petitioner claimed a deduction in his return was not ascertained to be worthless in 1922. Basil A. Wood, Esq., for the petitioner. Henry Ravenel, Esq., for the respondent. TRAMMELL205 This is a proceeding for the redetermination of a deficiency in income tax for 1922 in the amount of $329.07. The deficiency arises on account of the action of the Commissioner in disallowing as a deduction a portion of a bad debt charged off by the taxpayer during the year 1922. FINDINGS OF FACT. The taxpayer, during 1908 and for several years subsequent thereto, was a stockholder and the president of the Cahaba Coal Co., a corporation engaged in the business of mining and selling coal in Alabama. The company was organized in 1908. It became indebted to the taxpayer on account of money paid out for the corporation and for money advanced to it, for all of which it gave the taxpayer its promissory notes aggregating $25,600. The taxpayer undertook to collect these notes from the corporation without success, 206 and on September 3, 1913, the corporation passed a resolution acknowledging the debts2918 and, not being in a position to pay them at that time, authorized the secretary to enter appearance for the corporation in a suit which the taxpayer was then about to bring and to confess judgment for the amount of the notes together with costs. A judgment was entered on September 5, 1913. From 1913 until the taxable year 1922 and subsequently, the taxpayer undertook without success to collect the judgment or some part of it. The corporation on March 1, 1913, and until November 3, 1913, owned about 7,500 acres of mineral lands, together with mining equipment, certain accounts receivable, and one or more judgments against creditors, while at that time it was heavily indebted and without sufficient cash on hand to pay its debts. On November 3, 1913, a mortgage, which the Cahaba Coal Co. had given to the Title Guarantee & Trust Co., as trustee, to secure a bond issue, was foreclosed and all the property and assets of the corporation, with the exception of its stock of merchandise in the commissary and its bills or accounts receivable which were not included in the trust deed, was conveyed to the taxpayer as trustee, with the right to sell the property for the purpose of paying2919 the bonds and debts of the corporation, including the debt owing to the taxpayer. The taxpayer made many efforts to sell the property from the date of the execution of the deed in November, 1913, up until August 3, 1921, without success. He had hopes of realizing something from a judgment which the corporation had against one Francis. Executions were issued prior to 1921 by the taxpayer on his judgment and they were returned unsatisfied because no goods, chattels or property of the corporation could be located. For a portion of the money loaned by the taxpayer to the corporation, the corporation issued stock to the taxpayer to secure the indebtedness which the taxpayer held for that purpose. In 1921 the taxpayer deeded all of the property which had been conveyed to him in trust back to the bondholders, which terminated the trust agreement which had existed up to that time. Up to and during 1922, the taxable year involved, and subsequent thereto, the taxpayer has made efforts to collect the indebtedness. In his income-tax return for 1921 the taxpayer claimed a deduction of $3,000 on account of the Cahaba judgment, and in his return for 1922 he originally claimed as a2920 deduction $6,500. In his amended return for 1922 he claimed a deduction of $8,600, and in his 1923 return he claimed a $4,500 deduction on account of the Cahaba debt, 207 but did not claim any deduction in respect to that debt in his returns for 1924 and 1925, although there still remained of the original sum $9,500. OPINION. TRAMMELL: The question presented is whether the taxpayer is entitled to the deduction of $8,600 which he charged off in 1922 with respect to the $25,600 debt due by the Cahaba Co. We are not convinced from the evidence that the taxpayer ascertained the debt to be worthless in whole or in part in 1922. The circumstances which were known by the taxpayer in 1922 were known by him in 1921 or in prior years. Practically the same situation had existed since 1913 that existed in 1922, the only change being that the taxpayer turned back to the bondholders certain property that he held in trust for them and himself. His claim was inferior to the claim of the bondholders, but, if the bondholders had been able to realize anything on the property in excess of the amount due them, the taxpayer would have been entitled to have the difference applied on2921 his debt. In any event, this transaction occurred in 1921 and there appears to be nothing that occurred in 1922 to indicate the worthlessness of the debt in that year. Judgment will be entered for the Commissioner.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619853/	American Association of Engineers Employment, Inc. v. Commissioner.American Ass'n of Eng'rs Empl., Inc. v. CommissionerDocket No. 22919.United States Tax Court1952 Tax Ct. Memo LEXIS 298; 11 T.C.M. (CCH) 207; T.C.M. (RIA) 52062; March 7, 1952298 Held: 1. Petitioner, during the taxable years 1939 to 1943, inclusive, was not a corporation exempt from taxation under section 101 (6) or (7) of the Internal Revenue Code. 2. Petitioner has established that its failure to file timely tax returns for the respective taxable years was due to reasonable cause and not due to neglect, and the penalties imposed under section 291 of the Internal Revenue Code are disallowed. Harold R. Burnstein, Esq., and John W. Hughes, Esq., 105 W. Adams St., Chicago 3, Ill, for the petitioner. Paul Levin, Esq., for the respondent. HILL Memorandum Findings of Fact and Opinion This proceeding involves deficiencies in income tax, declared value excess-profits tax and excess profits tax, together with penalties, for the299 years and in the amounts as follows: DeclaredExcessIncomeValue Excess-Profits25%YearTaxProfits TaxTaxPenalties1939$ 274.04$298.98$143.271940506.04518.23256.0719411,205.66908.76$298.97603.3519421,332.06853.80279.39616.321943437.69266.24175.98The issues are: 1. Whether petitioner is exempt from tax under the provisions of section 101 (6) or (7) of the Internal Revenue Code. 2. Whether the respondent properly imposed the 25 per cent penalty for failure to file timely tax returns. Certain facts were stipulated and are found accordingly. Other facts are found from the evidence. Findings of Fact Petitioner is an Illinois corporation having its principal office at 8 South Michigan Avenue, Chicago, Illinois. Its returns for the taxable periods involved were filed in October 1946 with the collector of internal revenue for the first district of Illinois. In 1923 the American Association of Engineers, exempt from tax under section 101 (7) of the Internal Revenue Code, sponsored the incorporation of petitioner under the name of "Association300 Employment, Inc.", which was later changed to American Association of Engineers Employment, Inc. Petitioner's charter states that the object for which it is formed is "to procure and provide employment for professional engineers." Petitioner has nine authorized and outstanding shares of no par and no stated value, all of which are held by the American Association of Engineers. The stock is nonassignable. Petitioner's work is confined to the engineering field. In addition to operating an employment agency for engineers, its activities consisted of making surveys of engineering conditions, giving vocational guidance, finding openings for engineers, assisting employers to find the right engineer for the position and assisting the Army and Navy in locating engineers for all types of positions. During the years 1939 to 1943, inclusive, petitioner rendered services annually to between 1,500 and 2,500 applicants. It received fees only from applicants securing positions. Its fees for employment service rendered to members of the American Association of Engineers was 50 per cent less than the charge for the same service rendered to nonmembers of that organization. Petitioner's officers301 are elected annually. It had only one full-time employee; it paid a salary each year to its secretary; it paid for part-time help and for the cost of its operations, including rent, advertising, telephone, postage, supplies, etc. Petitioner has no assets of any kind. It had no minute book or bank account. All fees received from placements of applicant engineers were deposited in the bank account of the American Association of Engineers and all expenses were paid out of that account. The books of the American Association of Engineers contain a section devoted to petitioner. These books are under the control of petitioner's secretary and reflect its income and expenses. Any advance made to petitioner by the Association is treated as a loan. Petitioner's net income for the taxable years here involved was as follows: 1939$2,491.5219403,925.9719416,884.5119427,531.0019432,162.78Substantially all of petitioner's income was derived from fees received for placing engineers in positions. No substantial part of petitioner's activities is carrying on propaganda, or otherwise attempting, to influence legislation. During the taxable years involved, petitioner302 was not a corporation organized and operated exclusively for charitable or educational purposes nor a business league not organized for profit, no part of the net earnings of which inures to the benefit of any private shareholder or individual. Petitioner's tax counsel is John E. Hughes, an attorney who has specialized in Federal taxation for over 25 years. Some time prior to 1933 he renderd a written opinion to petitioner, advising that it was an exempt corporation and was not required to file a Federal tax return. Petitioner's failure to file timely tax returns for each of the years in question was due to the belief, in good faith and on the advice of a reputable tax attorney, that petitioner was an exempt corporation and was not willful. Opinion HILL, Judge: The primary issue is whether petitioner is exempt from Federal income taxation under section 101 (6) or (7) 1 of the Internal Revenue Code. 303 Petitioner is a nonprofit corporation. All of its issued and outstanding shares of no par stock are held by the American Association of Engineers, which is exempt from tax under section 101 (7) of the Code. The object for which it was formed, as stated in its charter, is "to procure and provide employment for professional engineers." It has a board of directors who elect its officers. Substantially all of its income is from fees received from applicants for whom petitioner secures positions. Since petitioner's principal activity is commerical, the rationale of the case of United States v. Community Services, Inc., 189 Fed. (2d) 421, certiorari denied 342 U.S. 932">342 U.S. 932 (Feb. 4, 1952), which we have followed in the recent cases of Joseph B. Eastman Corporation, 16 T.C. 1502">16 T.C. 1502, and Donor Realty Corporation, 17 T.C. 899">17 T.C. 899 (Nov. 29, 1951) (on appeal C.A. 2) requires us to hold that petitioner is not exempt from taxation under section 101 (6) of the Code. We think petitioner's contention that it is also exempt under section 101 (7) of the Code as a business league is without merit. The term "business league" is not defined by statute. A definition304 is contained in Regulations 111, section 29.101 (7)-1. Particularly pertinent here is that part of such regulation which provides: " * * An organization whose purpose is to engage in a regular business of a kind ordinarily carried on for profit * * * is not a business league. * * " These regulations have remained unchanged since the earliest revenue acts exempting business leagues. The Department's interpretation of the statute through this regulation through these many years had had the sanction of Congress, giving it the quality of law. Retail Credit Association of Alameda County v. Commissioner, 90 Fed. (2d) 47. In processing applicants for engineering positions and charging fees for placements, petitioner was engaged in a regular business of a kind ordinarily carried on for profit and, therefore, is not a business league. We find no merit in the contention that petitioner is a mere paper department of the American Association of Engineers and that its corporate entity should be disregarded. Where a corporation operates a commercial business ordinarily carried on for profit, as does petitioner, its corporate entity will not be disregarded. We hold petitioner305 was not exempt from taxation under section 101 (7) of the Code. The remaining issue presents the question whether the respondent properly imposed the 25 per cent penalties pursuant to section 291 of the Code. The record discloses that petitioner consulted with a reputable and competent tax attorney, who advised petitioner's president that it was an exempt corporation and was not required to file Federal tax returns; that petitioner in good faith relied upon such advice. We think petitioner has shown the elements which constitute reasonable cause for its failure to file timely tax returns. Reliance Factoring Corp., 15 T.C. 604">15 T.C. 604. We, therefore, hold that petitioner's failure to file timely returns was due to reasonable cause and not to willful neglect. The penalties imposed are disallowed. Decision will be entered under Rule 50. Footnotes1. SEC. 101. EXEMPTIONS FROM TAX ON CORPORATIONS: * * (6) Corporations, and any community chest, fund, or foundation, organized and operated exclusively for religious, charitable, scientific, literary, or educational purposes, or for the prevention of cruelty to children or animals, no part of the net earnings of which inures to the benefit of any private shareholder or individual, and no substantial part of the activities of which is carrying on propaganda, or otherwise attempting, to influence legislation. * * (7) Business leagues, chambers of commerce, real-estate boards, or boards of trade, not organized for profit and no part of the net earnings of which inures to the benefit of any private shareholder or individual;↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619854/	CLINCHFIELD COAL CORPORATION, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Clinchfield Coal Corp. v. CommissionerDocket No. 102862.United States Board of Tax Appeals47 B.T.A. 151; 1942 BTA LEXIS 726; June 23, 1942, Promulgated 726 By a computation of average margins as provided by subsection (e)(1) of section 501, Revenue Act of 1936, the Commissioner has determined deficiencies in petitioner's unjust enrichment tax under subsection (a)(3) of section 501. Petitioner contests the correctness of this determination. Held, the prima facie case made out by the Commissioner's computation of margins has been overcome by the evidence and such evidence shows that petitioner did not shift, either directly or indirectly, to its customers the tax which it paid under the Bituminous Coal Conservation Act of 1935, and hence is not liable for any unjust enrichment tax under section 501(a)(3). A. K. Morison, Esq., for the petitioner. William V. Crosswhite, Esq., and George H. Mitchell, Esq., for the respondent. BLACK 151 The Commissioner determined deficiencies in petitioner's unjust enrichment tax of $12,796.94 for the year 1936 and $160 for the year 1937. In explanation of these deficiencies the Commissioner stated in his deficiency notice as follows: During the period November 1, 1935 to March 31, 1936, inclusive, your company paid excise taxes amounting to $16,357.22727 under the provisions of the Bituminous Coal Conservation Act of 1935. This tax was refunded by the Government on June 3, 1936, and is taxable under the provisions of Section 501(a)(3) of the Revenue Act of 1936, to the extent that the refund does not exceed the amount of the burden of such Federal excise taxes shiftedto 152 others. Likewise the reimbursements received in 1936 and 1937 amounting to $421.11 and $200.00, respectively, as reported in Schedule B of your return are taxable under the provisions of Section 501(a)(2) of the Revenue Act of 1936. Petitioner does not contest the correctness of so much of the deficiencies as the Commissioner determined under section 501(a)(2). That is to say, the petitioner concedes so much of the deficiency for 1936 as is based upon the inclusion of $421.11 in petitioner's income for unjust enrichment tax purposes for that year. Likewise, petitioner concedes the correctness of all the deficiency for 1937, because it is entirely based on income covered by section 501(a)(2). Petitioner, by appropriate assignment of error, contests the correctness of all that part of the deficiency which the Commissioner has determined under the728 provisions of section 501(a)(3). FINDINGS OF FACT. Petitioner is a corporation, with its principal place of business at Dante, Virginia. It was incorporated in the year 1906 under the laws of the State of Virginia and since that time has been continuously engaged in the production, preparation, and sale of bituminous coal. On August 30, 1935, Congress passed the Bituminous Coal Conservation Act, hereinafter sometimes referred to as the Guffey Act. Section 3 of that act levied an excise tax on the sale of bituminous coal of 15 percent of the sale price at the mine, and provided for a credit or drawback of 90 percent of the tax if the coal producer accepted and complied with the code regulating the conduct of its business. The tax was "to be payable monthly for each calendar month, on or before the first business day of the second succeeding month." It took effect on November 1, 1935. Pursuant to the Guffey Act a coal commission was established, which promulgated rules and regulations to which the coal producers could subscribe and thereby receive the benefit of the 90 percent credit on their coal taxes. Petitioner subscribed to and operated under the rules and regulations729 of the coal commission. It thereby received the benefit of the 90 percent drawback, so that its Guffey coal tax amounted to 1 1/2 percent of the sale price of its coal at the mine. During the effective period of the Guffey Act petitioner paid taxes under its provisions in the total sum of $16,357.22. Immediately following the invalidation of the Guffey Act, petitioner applied for and obtained a refund of the entire amount of the tax which had been illegally collected from it, with interest thereon in the sum of $272.06. 153 Petitioner's comptroller of accounts, shortly after the first of November 1935, called the attention of petitioner's president to the fact that the Fuffey Act was effective, and sought his direction as to whether the tax to be paid by the corporation should be added to the invoices sent to the purchasers of the coal. Petitioner's president replied to the effect that the taxes paid ought to be added to the invoices for coal, but that the conditions of the coal market were so chaotic that it would be inadvisable to add the tax to the invoices. In pursuance of these directions the tax was not added to any of petitioner's invoices to its customers730 during the period of the enforcement of the Guffey Act, except as follows: On several shipments of coal in 1936 made by petitioner to the Cherokee Indian School at Whittier, North Carolina, and on several shipments of coal made in the same year to the Veterans Administration at Johnson City, Tennessee, petitioner added the amount of the taxes to the invoices. These were agencies of the Federal Government and they declined to pay the tax and it was never collected from them. In practically all contracts for the sale of coal entered into by the petitioner covering the period here in controversy there was a clause to this effect: The price named in this contract is based upon the existing cost of production. Therefore any increase or decrease in the wage costs by increase or decrease of wage rate or the limitation of hours or any regulation or restriction imposed by a State or Federal Government shall correspondingly increase or decrease such price. Likewise any change in the present rate of any State, Federal, or foreign tax on the production or sale of coal or any such new tax shall increase or decrease such price on all coal thereafter shipped hereunder. In October 1935, 731 preceding the effective dates of the Guffey tax, petitioner increased by 16 cents per ton the price of its coal. This increase was made to cover a wage increase which became effective at that time. This wage increase was brought about by a general mine strike in September 1935 for wage increases. The increase in selling price, for the first month, was set at 16 sents per ton; but it was then found that the actual increase in labor costs was slightly in excess of 15 cents per ton. The purchasers of coal who had been charged 16 cents per ton were subsequently refunded the excess labor charge of 1 cent per ton previously charged to them. When petitioner put into effect this increase in the price of its coal the Clinchfield Fuel Co., which was the sole selling agent of petitioner, sent to each contract customer of petitioner a circular letter reading as follows: As you have read in the newspapers, the recent strike on the part of the union mine workers has resulted in a contract for increased pay for union mine labor. It became necessary, therefore, on October 1st, for the Clinchfield Coal Corporation to put into effect this same wage scale. 154 Our first estimate732 of this increased mining labor cost is approximately 16?? per ton. We are therefore adding this amount per ton to invoices for shipments beginning October 1st, 1935, but when payroll figures are completed any difference between the above estimate and the actual amount per ton will be adjusted between us. This increase represents solely the increased cost of production due to wage increases to mine labor. It does not include any charges for tax or administration expenses incident to the Bituminous Coal Conservation Act of 1935 (Guffey Bill) and has no connection whatever with that legislation. During the period the Guffey Act was in effect, namely, from November 1, 1935, to May 18, 1936, petitioner did not increase the selling price of its contract coal. On the contrary, petitioner on November 25, 1935, decreased the selling price of its coal twenty cents per ton, or approximately 10 or 12 percent of the selling price. At the time this price reduction was put into effect the Clinchfield Fuel Co., selling agent of petitioner, sent to all petitioner's customers a circular letter reading in part as follows: This reduced price basis will apply until further notice. The733 condition of the coal industry remains unsettled. Recent wage agreements made between operators and union miners in some districts which have been on strike may result in upsetting agreements previously reached in other producing districts, thereby precipating further controversy. We are doing the best we can in a very trying situation to meet market conditions, at the same time maintaining dependable service on high quality coal, and we appreciate your continued confidence. This reduction in price remained in effect throughout the period of the enforcement of the Guffey Act and for a considerable period thereafter. The only exception to this was as to some domestic sizes of coal which were influenced by seasonal demand. There were some fluctuations up and down in prices for these sizes, but these fluctuations were in no way related to the payment of the 1 1/2 percent Guffey coal tax. At least 80 percent of petitioner's coal business was done by contract and the reduction of 20 cents per ton applied to all this contract business throughout the period of the Guffey coal tax. Petitioner's domestic sizes of coal were not sold under contract, but were sold by what were known734 in the trade as "spot sales." Petitioner's income statement as per its books from 1929 through 1936, inclusive, was as follows: 1929, loss$333,410.961930, loss299,031.561931, loss229,380.441932, loss363,847.601933, loss$326,447.431934, gain24,461.851935, loss82,320.371936, loss244,218.83The above figures include deductions for dividends, sinking fund, coal sales tax, refunds, Federal pay roll tax, and coal board expenses. 155 Without those deductions the books of the taxpayer for the periods in question showed the following results: 1929, loss$216,805.861930, loss180,655.711931, loss126,139.311932, loss283,143.481933, loss$236,238.351934, income96,651.201935, loss39,667.011936, loss185,468.84Petitioner did not shift, either directly or indirectly, any of its Federal excise tax burden under the Guffey Coal Act to its customers to whom it sold coal during the effective period of said act. OPINION. BLACK: As has already been stated, part of the deficiencies in petitioner's unjust enrichment tax for the years 1936 and 1937 were determined under the provisions of section 501(a)(2) 735 and part were determined under section 501(a)(3), Revenue Act of 1936. That part of the deficiencies determined under section 501(a)(2) has been conceded by petitioner and is no longer in issue. All of the deficiency determined by the Commissioner under section 501(a)(3) is in controversy. Section 501(a)(3) is printed in the margin. 1The statute in question provides that the Commissioner in his determination of the deficiency may determine to what extent, if any, the vendor shifted the burden of the tax to the vendee, by the736 use of margin computations. Section 501(e) provides for the use of this method and is printed in the margain. 2The Commissioner in his determination of the deficiencies in the instant case has used the margin method. His computation of the margins is set out in full detail in the deficiency notice and is a part of the record in this proceeding, and has been carefully examined and studied, but is not incorporated herein on account of its length. The petitioner attacks the correctness of this margin computation on the ground that in its compilation the Commissioner used only 156 two factors, namely, royalties and depletion, as factors of cost of petitioner's product. It is petitioner's contention that these two factors which respondent has used in his compilation are only a small737 part of petitioner's cost; that there are other factors of cost quite as important, such for example as selling costs, and that the Commissioner has not taken these other factors into consideration in his computation of the margins for the base period and for the tax period. Petitioner contends that if he had done so quite a different result would have been reached. Petitioner embodies its views as to a correct computation of the margins in its Exhibit 3, which was introduced in evidence. This computation has likewise been carefully examined and studied, but is not incorporated in our findings on account of its length. Petitioner devotes considerable space in its brief to an argument that the Commissioner has erred in his computation of the margins and, therefore, there is no statutory presumption in his favor. For reasons which we shall presently state, we think it would be unprofitable for us to discuss the computation of the margins which the Commissioner has made or the computation which petitioner has made in its Exhibit 3. For the purposes of this case we shall assume that respondent's computation of the margins, which are contained in his deficiency notice, were738 made in accordance with the statute and Treasury regulations and that the presumption provided by section 501(e) exists in his favor. This presumption, however, is a rebuttable one. Section 501(i) provides: (i) Either the taxpayer or the Commissioner may rebut the presumption established by subsection (e) by proof of the actual extent to which the taxpayer shifted to others the burden of the Federal excise tax. Such proof may include, but shallnot be limited to: [Here the statute sets out in detail certain methods of proof which may be used in rebuttal of the presumption which arises under subsection (e).] We think the petitioner has succeeded in rebutting the statutory presumption raised in the Commissioner's favor by subsection (e). In the first place, petitioner has proved clearly that it did not add the amount of the tax to its invoices of coal sold. The only exceptions to this were a few invoices for coal sold to agencies of the Federal Government. These agencies refused to pay the tax and it was never collected from them by petitioner. Petitioner's comptroller testified: Shortly after the first of November, 1935, I called our president's attention to the739 fact that this Act was effective and that up to that point we had not added the tax to any invoices and asked him if he had given consideration to the application of the tax. He replied that he had and that it ought to be added but the chaotic condition of the market was such that we would not do it. For 157 that reason it was never added to any other invoices other than the ones I have pointed out. In answer to the foregoing testimony, respondent contends that the fact that petitioner did not add the amount of the tax paid directly to each invoice of coal shipped would by no means be conclusive that petitioner did not shift the burden of the tax to its vendees. That, of course, is true. The tax could be passed on to petitioner's vendees by an increase in the price of coal which would equal or exceed the tax, just as effectively as by adding the tax to the invoice. The evidence in the instant case shows that in October 1935, after the Guffey Act had been enacted by congress but prior to November 1, 1935, when the tax became effective, petitioner increased the price of its coal 16 cents per ton, later adjusted to 15 cents per ton. The evidence conclusively shows that740 this increase in price was made by petitioner because of increased labor costs which were occasioned by wage increases that were put into effect a short time prior thereto. This increase in price of 15 cents per ton did not stay in effect very long. On November 25, 1935, petitioner reduced its prices on all contract coal 20 cents per ton. Also, shortly after that it made similar reductions in price on its spot sales of domestic sizes of coal. This decrease in price of 20 cents a ton for coal remained in effect until June 1, 1936, which was after the Guffey Act had been declared unconstitutional. The only exceptions to this were some fluctuations upward of spot sales of domestic sizes of coal which were influenced by seasonal demand. Therefore, it seems clear that petitioner did not shift the burden of the tax to its customers by increasing the price of its coal to them. Aside from adding the tax directly to the invoice or collecting it by an increase in the price of coal, there would doubtless be still another method by which petitioner could have passed on the tax to its customers, assuming that certain factors were in existence. For example, if after November 25, 1935, when741 petitioner put into effect a general decrease of 20 cents per ton in the price of its coal, there had been a substantial decline in petitioner's operating expenses and selling expenses which was not passed on to its customers, that would doubtless be a factor which would tend to sustain the presumptive correctness of the margin computation which the Commissioner has made. The evidence shows that no such lowering of operating expenses and selling expenses took place, but that on the contrary during the remainder of the period when the tax was in effect petitioner's operating deficit per ton of coal was greater than it was prior to November 25, 1935. Therefore, we think that, taking the evidence as a whole, it 158 shows that petitioner did not shift, either directly or indirectly, any part of the Guffey coal tax to its customers. We think that the facts of the instant case bring it within the ambit of our decision in . See also (Fourth Circuit), in which the court reversed a decision of the Processing Tax Board of Review and in its opinion, among other things, 742 said: We do not think that this decision should be sustained in view of the Board's findings. It gave too great weight to the marginal method required by section 907(a), (b) and (c), and too little weight to proof of the actual facts permitted by section 907(e) of the Act. Having found that the comparison of margins resulted unfavorably to the taxpayer, the Board accepted the statutory prima facie presumption, and held that the greater part of the burden of the tax was shifted, notwithstanding the express finding that no part of the tax was added to the sales price of the goods or collected from the customers. Moreover, this weight was given to the marginal method in the face of the further finding that during the post-tax period, a substantial change prevailed in the taxpayer's business in that the selling price of the cigars was reduced while the grade of tobacco used was maintained at the previous level, so that the margin between the cost of the raw material and the selling price of the manufactured goods was necessarily diminished. On the strength of the foregoing authorities we sustain the petitioner on the only issue involved in this proceeding. Decision will be743 entered under Rule 50.Footnotes1. SEC. 501. TAX ON NET INCOME FROM CERTAIN SOURCES. (a) The following taxes shall be levied, collected, and paid for each taxable year (in addition to any other tax on net income), upon the net income of every person which arises from the sources specified below: * * * (3) A tax equal to 80 percentum of the net income from refunds or credits to such person from the United States of Federal excise taxes erroneously or illegally collected with respect to any articles, to the extent that such net income does not exceed the amount of the burden of such Federal excise taxes with respect to such articles which such person shifted to others. ↩2. (e) For the purposes of subsection (a)(1), (2), and (3), the extent to which the taxpayer shifted to others the burden of a Federal excise tax shall be presumed to be an amount computed as follows: (1) From the selling price of the articles there shall be deducted the sum of (A) the cost of such articles plus (B) the average margin with respect to the quantity involved; or * * * ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619855/	JAMES P. AND MURIEL F. KELLSTEDT, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentKellstedt v. CommissionerDocket No. 9883-84.United States Tax CourtT.C. Memo 1986-435; 1986 Tax Ct. Memo LEXIS 165; 52 T.C.M. (CCH) 462; T.C.M. (RIA) 86435; September 15, 1986. James P. Kellstedt, pro se. Matthew J. Fritz, for the respondent. GERBERMEMORANDUM FINDINGS OF FACT AND OPINION GERBER, Judge: Respondent, by a statutory notice of deficiency dated January 11, 1984, determined a 1979 taxable year deficiency in Federal income tax in the amount of $31,755 and additions to tax under sections 6651(a)1 and 6653(a) in the amounts of $7,939 and $1,588, respectively. James P. and Muriel F. Kellstedt (petitioners) are husband and wife and resided at Peoria Heights, Illinois, at the time of filing the petition. Some of the facts have been stipulated, and the stipulation and supplemental stipulation of facts and exhibits attached thereto are incorporated herein by this reference. 168 The parties have resolved by settlement, reflected in the stipulations and in the record, many of the issues set forth in the statutory notice, leaving for the Court's consideration questions of the substantiation of several deduction items connected with James P. Kellstedt's (petitioner) law practice, certain real property, and certain personal deductions. Additionally, petitioners contest both additions to tax under sections 6651(a) for late filing and 6653(a) for negligence or intentional disregard of the rules and regulations. For purposes of order and clarity, each of the issues submitted for our consideration will be separately set forth with facts and opinion. "Advertising, Entertaining & Travel" ExpensePetitioner claimed $10,861.04 for "advertising, entertainment & travel" expenses on his 1979 Schedule C concerning reported income and deductions from his law practice. Respondent, in the statutory notice, disallowed $7,415 of the amount claimed which represented entertainment expenditures for which petitioners had not met the requirements of section 274. The parties have stipulated that $6,737 of the $7,415 disallowed was paid to Mt. Hawley Country Club, VISA, 169 Petros Steak House or Jim's Steak House. Two hundred fifty dollars was paid to St. Andrews Episcopal Church 2 on July 16, 1979. At trial petitioner submitted numerous canceled checks which, on brief, he segregated as to various restaurants, VISA, etc. which totaled $17,178.19. Petitioner argues that he claimed only a part of his total entertainment expenses for 1979 and that at least $6,988 3 is deductible. Petitioner explained that the amounts were expended on clients and employees. In support of petitioner's position, the record consists of canceled checks and petitioner's uncorroborated and generalized testimony, which was devoid of any detail or specifics. 170 Respondent contends that petitioner has not met the requirements of section 274(d) and regulations thereunder, and that petitioner also has not carried his burden of showing entitlement to deductions for purchasing meals for employees. We agree with respondent. To the extent that petitioner made payments for entertainment of clients, section 274(d) would deny a deduction unless petitioner "substantiates by adequate records or by sufficient evidence corroborating his own statement * * the time and place of the * * * entertainment, * * * the business purpose of the expense, * * * [and] the business relationship * * * of the persons entertained * * ." Petitioner seeks refuge from these rigorous requirements in Cohan v. Commissioner,39 F.2d 540">39 F.2d 540 (2d Cir. 1930), but it is clear that Cohan does not apply to the expenses covered under section 274. See Sanford v. Commissioner,50 T.C. 823">50 T.C. 823, 827-828, affd. per curiam 412 F.2d 201">412 F.2d 201 (2d Cir. 1969), cert. denied 396 U.S. 841">396 U.S. 841 (1969). To the extent that petitioner relies upon section171 274(e) regarding these claimed deductions, we detect only possible relevance to meals or entertainment provided employees. Initially, we would have no way of recognizing which, if any, of the expenditures were for employees' meals or entertainment. Further, the circumstances and specifics of each occasion have not been provided. Section 274(e)(2) would appear to permit a deduction for food and beverages served to employees on business premises in appropriate circumstances. The record does not provide sufficient information to determine whether petitioner's expenditures were for a purpose that would come within section 274(e).Respondent argues, and we see some merit to the argument, that it appears that the receipts are for restaurants off the business premises and may not qualify for that reason. Even if petitioner had paid for employees' meals in connection with luncheon meetings, there is some question as to whether those expenditures would be deductible. See Moss v. Commissioner,758 F.2d 211">758 F.2d 211 (7th Cir. 1985), affg. 80 T.C. 1073">80 T.C. 1073 (1983). Accordingly, 172 we find that petitioner has failed to carry his burden of proving entitlement to "advertising, entertainment & travel" in excess of the $3,446.04 allowed by respondent. New Colonial Ice Co. v. Helvering,292 U.S. 435">292 U.S. 435 (1934); Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Rule 142(a). Amount of Capital Gains from "East Samuel Property" - Calculation of Basis and Year of Includability of Down-PaymentOn their 1979 return, petitioners reported the sale of the 1226-8 East Samuel realty for a selling price of $148,995.66, along with a $70,000 adjusted basis, thereby reflecting a long-term capital gain of $78,995.66. Respondent, in the statutory notice, determined a $111,000 long-term capital gain based upon a $155,000 sales price and $44,000 adjusted basis. Respondent has now conceded that petitioners are entitled to reduce the sales price by $1,157.34 in selling expenses and increase the adjusted basis by $3,183.90. The remaining differences between the parties are attributable to a $5,000 downpayment received in 1978 and not reported as part of the selling price in 1979 and various improvements that petitioners claim were made since acquisition173 of the East Samuel property. It is not clear from petitioners' briefs whether they contest the $5,000 downpayment aspect of this case. Petitioners have not shown this to be an installment sale so as to permit reporting of the transaction over several taxable years. The recognition of gain by petitioners should occur upon the consummation of the sale, which occurred in 1979. The downpayment of $5,000, received in December 1978, is to be considered part of the sales price for the purpose of the computation of gain in the circumstances of this case. Bourne v. Commissioner,23 B.T.A. 1288">23 B.T.A. 1288, 1293-1294 (1931), affd. 62 F.2d 648">62 F.2d 648, 649 (4th Cir. 1933), cert. denied 290 U.S. 650">290 U.S. 650 (1933). See also Westrom v. Commissioner,T.C. Memo 1966-198">T.C. Memo. 1966-198, involving an Illinois taxpayer who received $5,000 earnest money in a prior year which was treated as conditional until the year the sale was consummated. The remaining aspect of the East Samuel property is the adjusted basis for purpose of determining gain. The sales price was $153,842.66 and petitioner purchased East Samuel in 1973 for $44,000, composed of 2 separate parcels for $22,000174 each. When purchased, each of the parcels had a building upon it. Petitioner razed 1 of the 2 buildings and used the other for his law office. The site of the razed building was prepared and used as a gravel-paved parking area. Respondent agrees to the $44,000 cost and an additional $3,183.90 4 basis, for a total basis of $47,183.90. Petitioners have presented only broad generalizations by means of testimony about expenditures to improve the East Samuel property. Petitioners apparently sold the East Samuel property to a bank or some other adjacent commercial establishment for use as a parking lot. In preparation for this use and sale in 1979, petitioner arranged at a cost of $9,800 5 to move his former law office building from East Samuel to another location. The expenditures to prepare, move and affix the building to the new plot of land are certainly not includable in petitioners' basis to compute gain from a sale, for the building has been retained for petitioners' use or sale at another location. 175 Essentially, petitioners would be entitled to include in basis the cost of demolition of the second building and grading of the parking area, to the extent that those items were not previously expensed or capitalized and depreciated. Unfortunately, petitioners have failed to carry their burden of showing the amounts attributable to those improvements or that said improvements were not already a part of the $3,183.90 conceded or agreed to by respondent. Welch v. Helvering,supra;New Colonial Ice Co. v. Helvering,supra; Rule 142(a). We therefore find that petitioners have failed to show that their basis in the East Samuel property was more than $47,183.90 or that the sales price was less than $153,842.66. Depreciation - 1215 East Duryea PropertyRespondent disallowed $2,200 of depreciation claimed by petitioners with respect to a duplex family housing structure located at 1215 East Duryea for the reason "that the property was [not] used in a trade or business or in the production of income." The property had been rented to a Mrs. Hibbert. Early in 1979, there was a dispute concerning whether the tenant or landlord was responsible176 under the lease agreement to pay for furnace repairs. In connection with the disagreement, Mrs. Hibbert moved out and petitioners had difficulty renting the property during the remainder of 1979. Respondent argues that section 1.167(a)-10(b), Income Tax Regs., would prohibit a depreciation deduction when an "asset is retired from service." We are unable to find that petitioners retired this property from service during 1979 and, accordingly, hold that petitioners are entitled to deduct $2,200 of depreciation for 1979 regarding the rental property located at 1215 East Duryea. Rental Expenses - Provincetown and 1230 East Duryea PropertiesWith respect to the 1230 East Duryea property, petitioners reported $1,200 of rents and claimed $1,650 and $225 for depreciation and expenses, respectively, representing petitioners' one-half interest in the property during 1979. Respondent, in the statutory notice disallowed $50 of the depreciation and the $225 in claimed rental expenses. Respondent, by stipulations, agreed to allow an additional $50 in depreciation. At trial, petitioners presented evidence of expenditures connected with this rental property177 and now claim total rental expenses of $1,114.21. 6 Based upon petitioner's testimony and Exhibits 17, 18, 19, 32 and 37, we find that the following ordinary and necessary non-capital expenditures were made in connection with the 1230 East Duryea property: Utilities -- water, $32.55; insurance, $134; and repairs, $733. Accordingly, petitioners have carried their burden of proving $899.55 in rental expenses and are entitled to deduct $449.78 in connection with the 1230 East Duryea property for 1979, an amount which exceeds respondent's disallowance by $224.78. With respect to the Provincetown property, petitioners reported no rents and claimed $750 and $250 for depreciation and expenses, respectively, during 1979. Respondent, in the statutory notice, disallowed the $250 in claimed expenses. Respondent now contends that he should not have allowed the $750 7 claimed by petitioners for depreciation, because petitioners have not shown that the property was not held for personal use and was held for the production of rental178 income. At trial petitioners presented evidence of expenditures connected with the Provincetown property and now claim $801 in rental expenses. This real property consists of two buildings on the same lot used by petitioners for personal purposes. Apparently there is a larger single-family dwelling, used exclusively by petitioners for personal purposes, and a separate building, referred to as the "studio," consisting of 3 rooms and a bath. Five hundred eighteen dollars of the $801 in claimed expenses represent a one-sixth proration of numerous alleged expenditures which petitioners have failed to segregate as to the main dwelling or the studio.8 Further, petitioners have failed to show that these expenditures were non-capital in nature so as to be currently and fully deductible. With respect to the remaining $283 of expenditures for utilities and "bowls and trays," petitioners have failed to carry their burden of showing that the studio was held out for rental or the production of income because of admitted personal use and no credible179 evidence of rentals or efforts to rent the property. Johnson v. Commissioner,59 T.C. 791">59 T.C. 791, 813-815 (1973), affd. without discussion of this point 495 F.2d 1079">495 F.2d 1079 (6th Cir. 1974). Accordingly, we find that petitioners are not entitled to the $250 claimed on the return or any additional amounts of alleged expenses (1) because any expenses incurred were not connected with property held for the production of income and (2) partially for failure to prove any expenditures were allocable to the studio. Interest DeductionsPetitioners claimed $18,060.56 in interest expense as part of their itemized deductions from adjusted gross income. Respondent, in the statutory notice allowed only $3,364.56 9 as an itemized interest deduction. In the stipulation of facts, respondent agreed that petitioners were entitled to $6,978.89 additional180 allowable interest. Likewise, in a supplemental stipulation of facts, respondent agreed to more allowable interest in the amount of $4,335.63. At the beginning of the trial, respondent's counsel orally stipulated that petitioners were entitled to yet another $841.34 in allowable interest deductions. Therefore, going into the trial, petitioners' $3,364.56 statutory notice allowance increased to $15,520.42. Considering the $18,060.56 claimed, petitioners' burden was to show an additional $2,540.14 to reach the original amount of interest deducted for 1979. In an attempt to substantiate some part of the $2,540.14 difference, petitioners, on brief, argue for allowance of the following amounts: (1) $750 -- Mass. Mutual Insurance Co.; (2) $184 -- credit cards; (3) $1,948 more than $4,300 respondent already allowed for Illinois Mutual; (4) $493 more than the $1,100.62 respondent allowed181 or petitioners originally claimed for Chillicothe Federal; and (5) $40 more than the $79.93 respondent allowed for Madison Park Bank. With respect to all items other than "Mass. Mutual Insurance Co.," petitioners have failed to come forward with evidence from which we could find amounts of interest allowable in addition to the $15,520.42. Welch v. Helvering,supra; Rule 142(a). With respect to "Mass. Mutual Insurance Co.," petitioner produced a check dated "12/27" and canceled January 10, 1979, to "Mass. Mutual Life Ins." in the amount of $375. Petitioners claimed $750 regarding a loan upon an insurance policy for which interest payments were made twice each year. We agree with respondent that petitioners reported on the cash basis, as reflected in their 1979 return, and the $375 check was issued in 1978, a fact that petitioners have not denied. On the other hand, the one check coupled with petitioner's testimony is sufficient to permit our allowance of one $375 payment made by petitioners during 1979. Cohan v. Commissioner,39 F.2d 540">39 F.2d 540 (2d Cir. 1930). Accordingly, we find that petitioners are entitled to an interest deduction of $15,895.42182 for the taxable year 1979. Medical and Dental ExpensesPetitioners claimed, without considering the 1 and 3-percent limitations, $1,760, $897.73 and $899.69 for medicine, doctors and dentists, and other medical items on Schedule A of their 1979 return. Respondent, in the statutory notice, disallowed the entire amount claimed because petitioners did not show the amounts were expended at all or for purpose claimed. Petitioners, on brief, summarized their view of the evidence in the record supporting the deduction of the following proposed amounts: Medicine -- $2,753.76; doctors, etc. -- $786; hospital -- $160; and "Other" -- $627.40. Respondent, on brief, conceded that the record supports petitioners' summary amounts of $786 for doctors and $627.40 for "Other." The first of the 2 remaining items in dispute involves a $160 amount concerning St. Francis Hospital Medical Center. The only evidence offered by petitioners is a receipt 10 for a personal check in the amount of $160 regarding Florence Kellstedt, who is petitioner's mother and claimed as a dependent on petitioners' 1979 return. Petitioners have offered no other documents or testimony to show that the payment was183 made by them and/or that the payment was made during 1979. Accordingly, we find that petitioners have failed to carry their burden of substantiating this claimed amount. Welch v. Helvering,supra; Rule 142(a).The other unagreed "medical" item concerns medicine and drugs. Petitioners only claimed $1,760 on the their return and, on brief, now claim $2,753.76 for medicine and drugs. The conduct of the trial and the parties' briefing of this item was confused due to petitioners' poor organization of the materials. Although respondent has made limited concessions, 11 it will be necessary to review and summarize Exhibits 21, 27 and 28, which consist of a mixture of unorganized documents. The documents may be categorized into 3 general categories: (1) Checks, sales slips and memoranda regarding vitamins; (2) checks, receipts and prescriptions from Smith Drug Store; and (3) petitioners' ledger sheet for the period June 1, 1979, through August 31, 1979, from Smith Drug Store. 184 Petitioner was under the care of a doctor for several physical problems which required vitamins as part of the doctor's recommended treatment. With the exception of vitamins that may have been purchased at Smith Drug Store, petitioners' vitamin purchases amounted to $167.28. This allowance is reflected in Exhibits 21 and 28 by checks numbered 040 and 1663 and page 6 of Exhibit 28. The remaining documentation which petitioners have advanced to support the additional purchase of vitamins is unspecific and uncorroborated and therefore not persuasive. Moreover, it is difficult to determine which of the vitamins purchased were for petitioner's health rehabilitation and which petitioners consumed for non-medical purposes or merely for their own self-imposed purposes. Lingham v. Commissioner,T.C. Memo. 1977-152. Regarding Smith Drug Store, petitioners provided 8 canceled checks 12 totaling $1,592.88. Petitioners also provided a 3-month running ledger account of their purchases at "Smith" during June 1 through August 31, 1979.The purchases for the 3-month period totaled $491.87 without considering sales tax, and we determined that $318.73 of the purchases were185 for medicine or drugs connected with petitioners' health problems. As a percentage, petitioners' purchases at "Smith" during the 3-month period were, on the average, 65 percent "tax" deductible items. Based upon petitioner's testimony, some corroborating evidence of prescriptions having been filled at "Smiths," and the record regarding these items, we find that 65 percent of the $1,592.88 paid to Smith Drug Store or $1,035.37 is deductible for 1979 (subject to the 1 and 3-percent limitations) by petitioners as medicine and drugs. Cohan v. Commissioner,39 F.2d 540">39 F.2d 540 (2d Cir. 1930). Accordingly, we find petitioners have carried their burden with respect to $1,202.65 ($1,035.37 plus $167.28) of medicine and drugs for the taxable year 1979. State and Local Tax - "Water Tax"Petitioners contend that they pay an annual "tax" ($56 during 1979) to the local municipality in exchange for water and a "hookup" supplied by the municipality. Section 164 provides for the allowance of a deduction186 for State and local taxes, but the type of "tax" petitioners contend they paid does not fit within the specified categories. Further, the "tax" as described by petitioner is not an ad valorem tax but is more like an annual charge or fee in exchange for water service. Mahler v. Commissioner,119 F.2d 869">119 F.2d 869, 873 (2d Cir. 1941), cert. denied 314 U.S. 660">314 U.S. 660 (1941). Accordingly, petitioners' claimed "water tax" is not deductible for their 1979 taxable year. Self-Employment Retirement Plan - Keogh PlanPetitioners did not claim a deduction for a contribution to a Keogh plan on their 1979 return. 13 At trial and on brief, petitioners now seek a $3,500 deduction for an alleged contribution to a Keogh plan. In support of the claimed deduction, petitioners offered an unexecuted copy of a January 1, 1984, amendment of a December 31, 1971, Keogh plan with Jefferson Trust and Savings Bank and a $3,500 check to the bank dated April 16, 1979. 187 Respondent contends that petitioners have properly shown the terms of their 1979 Keogh plan but that, under the facts presented, the $3,500 check was for petitioners' 1978 taxable year because the check payment made to the bank was dated April 16, 1979, the last possible date 14 for a 1978 contribution to a Keogh plan. See sec. 404(a)(6). We find that petitioners' evidence does show that they participated in a Keogh plan, but we agree with respondent that petitioners have not carried their burden of showing payment to a qualified plan for the 1979 taxable year. Welch v. Helvering,supra;New Colonial Ice Co. v. Helvering,supra; Rule 142(a). Sec. 6651(a) - Addition to Tax for Failing to Timely File a ReturnSection 6651(a) provides for a 5-percent per month (not to exceed 25 percent) addition to tax where failure to file is not due to reasonable cause188 and is due to willful neglect. Petitioners sought and received 2 extensions within which to file their 1979 U.S. Individual Income Tax Return for the calendar year 1979. The return was due April 15, 1980, and the time was extended to October 10, 1980, by means of the 2 granted requests for extensions. Petitioners' 1979 return was signed on "2/81" and filed on or about February 28, 1981. In their application for extension of time granted July 1, 1980, petitioners cited the press of business and personnel problems as reasons for the extension. At trial and on brief, petitioner additionally contended that the general condition of his health was poor. We cannot accept petitioners' reasons as reasonable cause. After 2 extensions, petitioners filed a return over 4 months later than the extended time. Furthermore, petitioners' case was petitioned to this Court more than 3 years after filing the return and was continued from a March 18, 1985, trial session to a special session August 6, 1985, and petitioner had not yet organized his documentation for a tax return filed some 4-1/2 years before. We find that petitioners have exhibited a propensity to be dilatory and that there was not189 reasonable cause for that pattern of conduct in connection with the filing of their 1979 return. Dustin v. Commissioner,53 T.C. 491">53 T.C. 491, 500-501 (1969), affd. 467 F.2d 47">467 F.2d 47 (9th Cir. 1972). Sec. 6653(a) - Addition to Tax for Negligence or Intentional Disregard for Rules and RegulationsAs discussed in connection with the addition to tax for late filing, petitioners were dilatory in organizing their supporting documentation in support of the items on their return. In addition, many of petitioners' claimed deductions were estimates. Petitioner points out that in some instances the evidence reflected that he was entitled to more than he claimed. Respondent, however, cogently points out that petitioners' evidence fell far short of the mark on numerous deductions. Petitioner's slovenly and inadequate bookkeeping constitutes an appropriate reason for respondent to determine an addition to tax under section 6653(a) and we so hold. Petitioner, as an attorney, should be aware of his obligation to maintain proper records in connection with income tax matters. Petitioners have failed to carry their burden of showing that they exercised proper care in190 preparation of their 1979 return. Cobb v. Commissioner,77 T.C. 1096">77 T.C. 1096, 1101-1102 (1981), affd. by unpublished order 680 F.2d 1388">680 F.2d 1388 (5th Cir. 1982). To reflect the foregoing, Decision will be entered under Rule 155.Footnotes1. Unless otherwise indicated, all statutory references are to the Internal Revenue Code of 1954, as amended and in effect during the year in issue. All rule references are to the Tax Court Rules of Practice and Procedure.↩2. Petitioner has contended that this $250 check showing a church as payee should provide the basis for a contribution deduction. We are somewhat at a loss how it became a part of advertising, entertainment or travel, but more importantly, petitioner has not shown that this amount was paid as a contribution or the donative intent of the payment.↩3. We are somewhat at a loss as to how petitioner computed that he was entitled to deductions of $6,988 in excess of the $3,446.04 allowed by respondent. The differences between the amount claimed and disallowed is of no consequence because of petitioner's failure to properly substantiate the $6,988 additional amount under secs. 274 or 162↩.4. The parties have provided no explanation as to the improvements or specific expenditures which comprise the $3,183.90 concession by respondent to increase petitioners' basis in the East Samuel property. ↩5. Although petitioners claimed over $30,000 in increases to basis of the East Samuel property, documentary evidence was provided which corroborated a $4,800 payment to Fred Bologna on Oct. 18, 1979, as the second payment on a $9,800 contract price to move the East Samuel building to another location and the payment of $15.10 to the Village of Peoria Heights for a building moving permit.↩6. Due to petitioners' one-half ownership interest in the 1230 East Duryea property, they would only be entitled to one-half of any deductible expenditures.↩7. On brief respondent declines to raise the $750 depreciation issue "to avoid injecting yet another new issue * * at this late date * * *."↩8. It may be appropriate to prorate expenditures by a percentage based upon area or some other measure where one is attempting to allocate overall expenditures attributable to a room or portion of a larger building, but we find petitioners' approach inappropriate in this case where there are two separate buildings.↩9. Respondent rounded off to the nearest dollar in the statutory notice, which may account for a few cents difference between the petitioners' return, the briefs, and this opinion. Because our opinion finds specific amounts, the specific amounts are to be used for any calculation under Rule 155.↩10. The receipt is part of composite Exhibit 28 and appears on the upper left corner of the first page of the exhibit.↩11. Respondent conceded $32.94 ("Edna's Health" and "Mats Pharm") and $205.92 from Exhibit 28.↩12. There were several duplicate photocopies of checks to Smith Drug Store.↩13. We are not surprised that petitioners did not claim a deduction for a contribution to a Keogh plan because petitioners did not have any "earned income" from self-employment within the meaning of sec. 404(e)(1), limiting the deduction to 15 percent of "earned income," and sec. 401(c)(2), defining "earned income" as net earnings from a business in which personal service is a material income-producing factor. For 1979, petitioners reported a $13,909.71 loss from the practice of law on Schedule C.↩14. April 15 fell on a Sunday in 1979 and April 16, 1979, was the last date for timely filing of a calendar year Federal return of income without extensions. Secs. 6072(a) and 7503.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619857/	David R. Webb Company, Inc., Petitioner v. Commissioner of Internal Revenue, RespondentDavid R. Webb Co. v. CommissionerDocket No. 14123-78United States Tax Court77 T.C. 1134; 1981 U.S. Tax Ct. LEXIS 24; November 19, 1981, Filed 24 Decision will be entered for the respondent. P acquired all the assets and liabilities of X, including the express assumption of the liability to pay an unfunded pension to G, the widow of a former employee. P made and deducted its payments to G. Held: P's payment of X's obligation to G was not an ordinary and necessary business expense. Rather, such payments, in the year paid, became part of P's cost basis in the assets it purchased from X. Richard E. Schneyer, for the petitioner.Robert D. Kaiser, for the respondent. Simpson, Judge. SIMPSON1134 OPINIONThe Commissioner determined deficiencies in the petitioner's Federal income taxes of $ 3,048 for 1973 and $ 1,407 for 1974. After the settlement of some of the issues, the 1135 sole issue for decision is whether payments by the petitioner in 1973 and 1974 pursuant to the petitioner's assumption of an unfunded pension liability of a predecessor corporation were ordinary and necessary business expenses, or whether such payments were capital expenditures.All of the facts have been stipulated, and those facts are so found.The petitioner, David R. Webb Co., Inc., is a Delaware corporation. At the time it filed its petition in this case, its principal place of business was in Edinburg, Ind. The petitioner was incorporated on or about26 November 8, 1972, and qualified to do business in Indiana on December 21, 1972. During the years 1973 and 1974, the petitioner used the accrual method of accounting. The petitioner filed its Federal corporate income tax returns for 1973 and 1974 with the Internal Revenue Service.The petitioner is engaged in the manufacture and sale of wood veneer in Edinburg, Ind. For over 80 years, such business has been conducted by various predecessor corporations. In 1942, David R. Webb Co. Inc. (Webb-1), was incorporated and acquired the business. During the period 1942 through 1950, Webb-1 was a wholly owned subsidiary of Fancy Woods, Inc. Prior to 1951, the record owners of Fancy Woods, Inc., were Ferdinand Grunwald, 50 percent, and his wife, Maria Elisabeth Grunwald, 50 percent. In 1950, Victor Crossman, Mr. Grunwald's partner, demanded that 50 percent of the stock of both Fancy Woods, Inc., and Webb-1 be transferred to him in order to formalize his then-unrecorded equity investment in such corporations. Pursuant to such demand, 50 percent of the stock of each corporation was transferred to certain trusts for the benefit of Mr. Crossman and his family. Subsequent to such transfer, 27 Mr. Grunwald entered into an employment agreement with Webb-1. Such agreement provided, in part, that in the event Mr. Grunwald died while still employed by Webb-1, Webb-1 would pay a lifetime pension to his widow in the amount of $ 12,700 per year. The consideration for such agreement was Mr. Grunwald's future services to Webb-1 and his agreement not to complete with such corporation.Mr. Grunwald died on November 29, 1952, and at such time, he was employed by Webb-1. In 1953, pursuant to its employment agreement with Mr. Grunwald, Webb-1 began paying 1136 Mrs. Grunwald her pension of $ 12,700 per year. From 1953 through 1966, Webb-1 paid and deducted its pension payments to Mrs. Grunwald.In July 1966, Webb-1 sold all of its assets, properties, business, and goodwill to Rutland Railway Corp. (Rutland). The purchase price for such property was $ 8 million and the assumption by Rutland of all the liabilities of Webb-1 (with certain exceptions not relevant to this case). Included among the liabilities expressly assumed by Rutland was the unfunded pension liability of Webb-1 to Mrs. Grunwald.Rutland paid Mrs. Grunwald $ 12,700 per year until 1969. In that year, Rutland28 sold the assets, properties, and goodwill of the Webb business to the Walter Reade Organization, Inc. (Reade), and that business was conducted as a division of Reade. Reade continued to pay Mrs. Grunwald's pension until 1972, when it sold its Webb division to the petitioner.On November 15, 1972, the petitioner purchased all of the Webb division's assets, properties, business, and goodwill. The purchase price for such property was $ 5 million and the assumption by the petitioner of all of the Webb division's liabilities (with certain exceptions not relevant to this case). Included among the liabilities expressly assumed by the petitioner was the Webb division's unfunded pension liability to Mrs. Grunwald.During 1973 and 1974, the petitioner's business was, in part, substantially the same business as that conducted by Webb-1 and the Webb divisions of Rutland and Reade. During 1973 and 1974, the petitioner paid, and claimed a deduction for, the $ 12,700 annual pension payment to Mrs. Grunwald. During such period, Mrs. Grunwald included such payments in her gross income. In his notice of deficiency, the Commissioner determined that such payments were not ordinary and necessary29 business expenses of the petitioner and that such payments were not deductible.The sole issue for decision is whether the petitioner is entitled to deduct the payments made to Mrs. Grunwald during 1973 and 1974. The petitioner contends that such payments were ordinary and necessary business expenses and 1137 that such payments were deductible, in the year paid, under section 404(a)(5) of the Internal Revenue Code of 1954. 1 The Commissioner contends that such payments were part of the price paid by the petitioner for the tangible and intangible assets of Reade's Webb division and therefore were capital expenditures. Accordingly, he argues that such payments were not ordinary and necessary business expenses and not deductible under section 404(a)(5). We agree with the Commissioner.Under section 404(a)(5) and the regulations thereunder (see sec. 1.404(a)-12(a) and (b)(2), Income Tax Regs.), payments30 to a beneficiary of a deceased employee which are paid pursuant to an unfunded pension plan are deductible in the year paid, provided such payments meet the requirements of section 162 (or 212). For an expense to be deductible under section 162, such expense must be paid or incurred in the taxpayer's trade or business. Also, payments which are capital expenditures are not, by definition, ordinary and necessary business expenses within the meaning of section 162. See sec. 263.It is well settled that the payment of an obligation of a preceding owner of property by the person acquiring such property, whether or not such obligation was fixed, contingent, or even known at the time such property was acquired, is not an ordinary and necessary business expense. Rather, when paid, such payment is a capital expenditure which becomes part of the cost basis of the acquired property. Such is the result irrespective of what would have been the tax character of the payment to the prior owner. United States v. Smith, 418 F.2d 589">418 F.2d 589, 596 (5th Cir. 1969); Portland Gasoline Co. v. Commissioner, 181 F.2d 538">181 F.2d 538, 541 (5th Cir. 1950),31 affg. a Memorandum Opinion of this Court; W. D. Haden Co. v. Commissioner, 165 F.2d 588">165 F.2d 588, 591 (5th Cir. 1948), affg. on this issue a Memorandum Opinion of this Court; Holdcroft Transportation Co. v. Commissioner, 153 F.2d 323 (8th Cir. 1946), affg. a Memorandum Opinion of this Court; Athol Mfg. Co. v. Commissioner, 54 F.2d 230">54 F.2d 230 (1st Cir. 1931), affg. 22 B.T.A. 105">22 B.T.A. 105 (1931); Brown Fence & Wire Co. v. Commissioner, 46 B.T.A. 344">46 B.T.A. 344 (1942); F. S. Stimson Corp. v. Commissioner, 38 B.T.A. 303">38 B.T.A. 303 (1938); Automatic Sprinkler Co. of America v. Commissioner, 1138 27 B.T.A. 160">27 B.T.A. 160 (1932); Caldwell & Co. v. Commissioner, 26 B.T.A. 790 (1932), affd. per curiam 65 F.2d 1012">65 F.2d 1012 (2d Cir. 1933); F. Tinker & Sons Co. v. Commissioner, 1 B.T.A. 799">1 B.T.A. 799 (1925). 232 The petitioner's payments to Mrs. Grunwald were made pursuant to its express assumption of Reade's obligation to make such payments. Such assumption was an express part of the petitioner's purchase agreement with Reade. As such, the payments to Mrs. Grunwald were capital expenditures, not ordinary and necessary business expenses and therefore are not deductible under section 404(a)(5).The petitioner recognizes the long line of cases which disallow a current deduction for the payment of an assumed obligation. However, it contends that such cases are inapplicable to assumed pension obligations. In support of such contention, the petitioner relies on F. & D. Rentals, Inc. v. Commissioner, 44 T.C. 335 (1965), affd. 365 F.2d 34">365 F.2d 34 (7th Cir. 1966), cert. denied 385 U.S. 1004">385 U.S. 1004 (1967).In F. & D. Rentals, the taxpayer acquired during the year in issue the assets of its predecessor corporation and agreed to make the contributions for the entire year to two qualified pension plans maintained by the predecessor. It accrued its liability to make the entire contributions, but it failed to actually make such33 contributions timely. 3 However, the taxpayer argued that its assumption of its predecessor's obligations to such plans was the equivalent of a payment. Alternatively, the taxpayer argued that it should be allowed to increase the cost basis of its acquired assets by the amount of its unpaid obligations to the pension plans.In that case, we held that the taxpayer's assumption of its predecessor's obligations was not the equivalent of a payment. Therefore, since the taxpayer had not made a payment to the pension plans prior to the due date of its return, it was not entitled to a deduction in the year it merely accrued its obligations. With respect to the taxpayer's alternative argument, we held34 that the taxpayer could not add the amount of 1139 its unpaid obligations to the pension plans to its cost basis in its acquired assets, since such a capitalization would have allowed the taxpayer to obtain indirectly (by way of depreciation or as part of its cost of goods sold) what it was denied directly "under the only statutory authority for deductions for contributions to pension plans -- section 404." 44 T.C. at 349; emphasis in original. The Court of Appeals for the Seventh Circuit affirmed our holding, stating, in part, that "Under § 404(a) of the Code, taxpayer would have been entitled to a pension plan deduction if it had made a payment in the taxable year here in question or by the time it had filed its return." 365 F.2d at 41.The petitioner focuses on such quoted language to argue that if the taxpayer in F. & D. Rentals had made timely payments with respect to its assumed obligations to the pension plans, it would have been allowed a deduction for such payments. However, in that case, neither this Court nor the Court of Appeals distinguished between the taxpayer's obligations to the pension plans35 which arose before and after the date it acquired its predecessor's assets, because the sole issue was whether a contribution to a pension plan could be deducted in the year in which such contribution was accrued but not paid. Since no payment was made, it was clear that no deduction was allowable. It is equally clear that the statement by the Court of Appeals was meant to indicate merely that if a timely payment had been made, the taxpayer would have been entitled to a deduction for the contributions attributable to the services performed after it acquired the business -- any other reading of the statement by the Court of Appeals would be inconsistent with the long line of cases holding that the payment of an obligation of a predecessor is not an ordinary and necessary business expense.The petitioner also relies on H. Hamburger Co. v. Commissioner, a Memorandum Opinion of this Court entered August 30, 1949, for the proposition that the payment of an assumed obligation by an acquiring company may constitute an ordinary and necessary business expense. However, the facts of that case are clearly distinguishable. The taxpayer in Hamburger, unlike the petitioner, had not 36 assumed the obligations *1140 which it paid, and such payments were made to protect and retain, rather than acquire, such taxpayer's business.Decision will be entered for the respondent. Footnotes1. All statutory references are to the Internal Revenue Code of 1954 as in effect during the years in issue.↩2. See also M. Buten & Sons, Inc. v. Commissioner, T.C. Memo. 1972-44↩.3. Under sec. 404(a)(6), an accrual basis taxpayer may, generally, only deduct an accrued contribution to a pension plan if such contribution is actually paid on or before the time prescribed by the Code for the filing of its return for the year in which the deduction is claimed. See sec. 1.404(a)-1(c), Income Tax Regs.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619859/	L. D. PERRY and MARY JEAN PERRY, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentPERRY v. COMMISSIONERDocket No. 2624-76.United States Tax CourtT.C. Memo 1978-451; 1978 Tax Ct. Memo LEXIS 64; 37 T.C.M. (CCH) 1847-44; November 8, 1978, Filed 64 L. D. Perry maintained various business interests from 1968 through 1970 but failed to report all his income from such businesses on his Federal income tax returns for such years. Held: (1) L. D. Perry grossly understated his income each year from 1968 through 1970; (2) some part of the underpayment for each of the years at issue was due to L. D. Perry's fraud with intent to evade tax within the meaning of sec. 6653(b), I.R.C. 1954; and (3) respondent failed to prove that any part of the underpayment was due to fraud on the part of Mary Jean Perry. Stephen K. Miller and F. Pen Cosby, for the petitioners. Robert P. Ruwe and Mark E. O'Leary, for the respondent. WILESMEMORANDUM FINDINGS OF FACT AND OPINION WILES, Judge: Respondent determined the following deficiencies and additions to tax in petitioners' Federal income taxes: Addition to Tax YearDeficiencySec. 6653(b) 11968$ 58,400.39$ 29,200.20196951,724.2125,862.11197036,004.2818,002.14After concessions, the issues are: (1) whether petitioners understated their income by $108,279.54, $86,363.72, and $70,614.35 in 1968, 1969, and 1970, respectively; and (2) whether any part of the underpayment of taxes for the years in issue was due to fraud with intent to evade tax by either of petitioners within the meaning of section 6653(b). FINDINGS OF FACT Some facts were stipulated and are found accordingly. L. D. Perry and Mary Jean Perry, husband and66 wife when the returns and petition in this case were filed, resided in Indianapolis, Indiana, when they filed their joint Federal income tax returns for 1968, 1969, and 1970, with the Internal Revenue Service Center, Cincinnati, Ohio, and when they filed their petition in this case. Petitioners, cash method taxpayers, were divorced in 1975. In 1944, L. D. Perry started a used automobile sales business known as Perry Auto Sales. In 1955, he purchased a 51 percent interest in Smart & Perry, Inc., an Indiana corporation owning a Ford dealership. At that time, Ford objected to L. D. Perry owning and operating the competing Perry Auto Sales. As a result, he changed the name to Garfield Auto Sales to disguise his ownership. Garfield Auto Sales was not successful without his continuing supervision so L. D. Perry terminated the business by selling his inventory of used cars and collecting the open accounts on automobiles already sold. Smart & Perry, Inc., reported gross sales of $6,446,805.45, $7,720,175.70, and $6,796,256.31 in its fiscal years 1968, 1969, and 1970, respectively. In each of the years in issue, L. D. Perry maintained the following additional business interests: 67 50 percent stockholder in Mark-Lee, Inc., a company which leased business property to Smart & Perry, Inc.; 50 percent stockholder in Ford City Leasing, Inc., an automobile leasing company; a shareholder in Preferred Credit, Inc., an automobile finance company; 100 percent stockholder in Perry-Simpson Corporation, a company primarily engaged in the apartment rental business. Mark-Lee, Inc., reported gross rental income of $31,000 and $42,000, respectively, on its fiscal 1968 and 1969 returns. Ford City Leasing, Inc., reported gross rental income of $111,660.86 and $127,189.38, respectively, on its fiscal 1968 and 1969 returns. Preferred Credit, Inc., reported gross interest and insurance commission income of $26,337.35 and $24,765.46, respectively, on its fiscal 1968 and 1969 returns. perry-Simpson Corporation reported gross rental income of $41,285.43, $74,070.48, and $103,313.80, respectively, in 1968, 1969, and 1970. Prior to November 1967, Smart & Perry, Inc., leased business property from Mark-Lee, Inc., for $3,000 a month. From November 13, 1967 to April 17, 1969, the monthly rental payment was increased to $4,000. L. D. Perry instructed his daughter to cash each monthly68 rental check and to give him $1,000 cash. Mark-Lee, Inc., continued to report a $3,000 monthly rental income from the arrangement. Pursuant to a Federal tax audit, the taxable rental income of Mark-Lee, Inc., for its years ended October 31, 1968 and 1969, was increased by the additional $1,000 rent.The parties agreed to these adjustments. Respondent also determined that petitioners' daughter should include the additional $1,000 unreported rent in her joint income with her husband. The parties agreed to this adjustment. In the years in issue, petitioners made several large purchases, most of which were consummated by and through checking and savings account transactions. In 1968, petitioners purchased an Indiana farm for $75,000. This was paid in installments from May 22, 1968 to September 9, 1968, by checks drawn on various checking accounts at the National Bank of Greenwood. On May 22, 1968, when the initial farm payment was made, petitioners had $81,085.26 in various savings accounts. On September 9, 1968, petitioners transferred $46,000 from these savings accounts to their checking accounts at National Bank of Greenwood. On September 9, 1968, immediately after the69 final farm payment was made, the balance in the same savings accounts was $27,804.44. On April 2, 1969, petitioners purchased a houseboat for $21,840. The boat was paid for by check. On August 31, 1969, petitioners sold the boat for $19,257. On April 2, 1970, petitioners purchased another houseboat for $25,104. At least $17,600 of the purchase price was paid in cash. On August 21, 1969, petitioners purchased a motorcycle for $2,124.27 which was paid by check. On June 2, 1970, petitioners purchased another motorcycle for $2,448 which was also paid for by check. During 1970, petitioners also purchased rental property for $6,263.59 which was paid for by check. On August 2, 1965, petitioners executed and signed a loan application to obtain a $30,000 loan which was to be secured by their residence at 802 East Southport Road, Indianapolis, Indiana. The residence was purchased for a total price of $30,000. L. D. Perry asserted on the application that he had $9,000 cash on hand and in the bank as of August 2, 1965. The purpose of the loan was to refinance petitioners' existing residential mortgage and allow additional funds to build a lake cottage. On August 12, 1965, L. 70 D. Perry executed an installment note for $25,000 plus interest to purchase Perry-Simpson, Inc. stock. L. D. Perry made several loans during the years in issue to family, friends, and his businesses. For the most part, the loans were made by check. The largest loan was a May 11, 1970, loan of $25,000 to Smart & Perry, Inc., who repaid $15,000 by November 21, 1970. This payment was deposited in one of petitioners' checking accounts. In addition to the cash in the bank and otherwise on hand necessary to make the above purchases and loans, L. D. Perry maintained a constant supply of $20,000 cash on hand throughout 1968, 1969, and 1970. Also, from 1958 through January 1, 1969, Smart & Perry, Inc., put about $200 a week into a joint savings account between Jack Smart and petitioner. The purpose of the fund was to provide for expenses and emergencies. Petitioners' Federal income tax returns for 1968 and 1969 were prepared by an accountant, now deceased, from records and information supplied him by L. D. Perry. The accountant did not maintain books and records for petitioners. An attorney prepared petitioners' 1970 Federal income tax return from records and information supplied71 him. Petitioners' daughter did not maintain any formal books and records for petitioners in 1968, 1969, and 1970. Using the net worth method which reflected no cash on hand for the years in issue, respondent determined that petitioners had understated their taxable income in 1968, 1969, and 1970 by $108,279.54, $86,363.72, and $70,614.35, respectively. OPINION Issue 1: DeficienciesThe first issue we must decide is whether petitioners had unreported income in each of the years in issue. Because of the inadequacy of the petitioners' records, respondent reconstructed their income for such years using the net worth method. See secs. 6001, 446; sec. 1.446-1, Income Tax Regs.In using the net worth method, respondent first attempts to establish the taxpayer's net worth at the beginning of a given year. He then computes increases in the taxpayer's net worth in each succeeding year under examination by calculating the difference in the taxpayer's net worth at the beginning and the end of each year. To these increases certain adjustments are made including the addition of nondeductible expenditures, such as living expenses. If the total increases in net worth are substantially72 greater than the taxable income as reported by the taxpayer, respondent claims the excess is unreported taxable income, unless it can be traced to a non-taxable source (such as a cash hoard, gifts, inheritances, etc.). Petitioners do not question the propriety of using this method to reconstruct their income. Instead, they challenge respondent's conclusion that there existed an increase in net worth during each of the years at issue. Petitioners contend that a secret cash hoard of approximately $300,000 on hand at January 1, 1968, and expended by December 31, 1970, accounts for the increases in net worth over the years at issue. Since respondent allowed petitioners no cash on hand at the beginning of 1968, 1969, or 1970, petitioners contend his net worth method is erroneous. Based upon the entire record, we find no merit in petitioners' $300,000 secret cash hoard argument; however, we find that petitioners did have $20,000 cash on hand at the beginning of each of the years at issue.As stated, the only item of respondent's net worth computation that petitioners specifically attack is zero cash on hand at the beginning of each of the years at issue. Petitioners offered only73 contradicting and often vague testimonial evidence at trial to establish a secret cash hoard of approximately $300,000 on hand at January 1, 1968, which was spent during the next three years thereby producing the net worth increases. L. D. Perry testified that in 1956 when he liquidated Garfield Auto Sales, he had an $80,000 inventory of used cars and $100,000 in open accounts. Thomas Plummer, a parttime Garfield Auto Sales employee, testified that he collected $70,000 to $80,000 of the open accounts. L. D. Perry testified his mother collected an additional $8,000 to $15,000. He further testified that with the other cash already on hand, this gave him about $275,000 in cash which was placed in a sealed piece of sewer pipe which he stored above the furnace in his residence. In addition to a secret cash hoard of $275,000 in the sewer pipe, L. D. Perry testified he always kept an additional $20,000 to $35,000 in cash hidden in his residence. In 1962, petitioners moved to a new residence. L. D. Perry testified that the cash in the sewer pipe had grown to $300,000 through profitable business operations. He testified he buried this sewer pipe in the back yard of his new residence. 74 In this residence, L. D. Perry stated he kept his additional $20,000 to $35,000 in a second sewer pipe which was placed in the basement around the bathroom sewer pipes. He stated he kept the money hidden in sewer pipes to conceal the existence of the money from his wife.He testified that had marital problems and he was afraid of losing the money in a divorce. Also he did not like or trust banks. Petitioners called several witnesses to attempt to corroborate the existence of the cash hoard. George Perry, petitioners' son, testified that his father told him of the existence of a cash hoard in 1962 when he was 18 years old.His father did not tell him of the location or the amount of the hoard. L. D. Perry only told his son that upon his death to dig up the back yard. George Perry also stated that his father and mother had a bad marriage. David J. Hockett, a social friend, testified that L. D. Perry dealt in cash often and that he was personally present in 1970 when L. D. Perry paid cash for a $25,104 boat. George Perry testified that in 1970, his father brought him a sewer pipe containing $45,000 in cash to be used as a loan. He further testified that when his parents were75 separated, he went to their home to obtain a sewer pipe for his father. He and his brother counted $90,000 in that pipe which was later given to his father. Finally, Charles Thatcher, petitioners' nephew, testified that in 1973 he discovered a piece of sewer pipe while excavating for a patio for petitioners' home. He gave the sewer pipe to his aunt, Mary Jean Perry, who accepted it without disclosing its contents. Despite L. D. Perry's attempts to corroborate his testimony, we find it unpersuasive. Moreover, since L. D. Perry is the only person to have regular contact with the alleged cash hoard, his testimony is vital; and since we find his testimony, considered in light of all testimonial evidence, as unpersuasive, we find no merit in the existence of a $300,000 cash hoard. L. D. Perry presented several inconsistencies in his own testimony. He first testified that until his father died in 1974 or 1975, the only person he over told about the existence of the cash hoard was his father. He later testified that he then told his son, George Perry, about the existence of the cash hoard. But George Perry later testified his father told him of the existence of the hoard in 1962. 76 Moreover, L. D. Perry testified that his wife never knew of the existence of the cash hoard. He later reversed his testimony to reflect that his wife did know of the cash hoard in the last few years of their marriage. He further testified that at the time of his divorce in 1975 he had a $90,000 cash hoard that was intentionally not revealed in his financial statement filed with the Divorce Court. He stated he intentionally failed to disclose this amount to keep it from his wife. We find it difficult to believe there was a cash hoard of $90,000 at the time of his divorce, even as also testified to by his son George Perry. If the hoard existed, why did his wife not make demands upon the funds since L. D. Perry's last testimony reflected that she was aware of the hoard. If his wife did not know of the existence of the funds, then L. D. Perry's testimony is inconsistent and unbelievable. The bottom line is that L. D. Perry asks us to believe that in 1975 he in fact had $90,000 that was unknown to his wife and the existence of which was intentionally hidden from a court of law in a divorce proceeding. We cannot and do not place any reliance on this testimony. Moreover, we were77 unimpressed with L. D. Perry's testimony regarding deposits and withdrawals from his sewer pipe cash hoard. He kept no records of amounts allegedly placed in or removed from his two sewer pipes and yet he recalls he had $300,000 in the buried pipe and $20,000 to $35,000 in his other pipe. Unfortunately, L. D. Perry's testimony was vague on how many times he even removed the buried pipe from the ground from 1962 through the years at issue. He could only testify that when his money in the bank ran out, he obtained money from his sewer pipes. He finally alleges that through this process he reduced the cash hoard to zero by the end of 1970. He asks us to believe too much. In short, he can recall very few transactions with his cash hoard but he always seemed to know how much money the sewer pipes contained when it was to his advantage to do so. Even when he was able to recall a specific cash hoard transaction, this record did not support him. For example, he testified he bought a farm in 1968 for $75,000 and that the purchase price came from the buried pipe. Later, he acknowledged part of the purchase money came from his bank accounts. The record indicates, however, that L. D. Perry78 had sufficient bank funds to pay for the farm. As noted, he earlier testified that he only withdrew funds from his cash hoard when his bank accounts weren't sufficient. David Hockett, a friend, testified that L. D. Perry paid $25,104 cash for a boat in 1970 in attempting to establish the fact that L. D. Perry dealt in cash. The record clearly establishes, however, that most of L. D. Perry's personal and business transactions were not accounted for in cash but by bank account transactions. In addition, L. D. Perry had sold another houseboat for $19,257 cash just a few months prior to purchasing the new boat. The cash from this sale and his bank accounts are the likely source of the new boat purchase price. Finally, L. D. Perry made statements inconsistent with his testimony as to the existence of a cash hoard on a loan application and during the audit investigation of this case. In 1965, L. D. Perry asserted on a loan application that he had only $9,000 cash on hand. The two examining agents testified at trial that they asked L. D. Perry in an audit conference at his attorney's office, after L. D. Perry was informed that he was being investigated for fraud, how much cash on79 hand he had. They testified he answered $30,000 to $50,000 in each of the years at issue. At trial, L. D. Perry for the first time asserted a $300,000 cash hoard. Suffice it to say, we believe the agents' testimony. They were credible witnesses with a great deal of experience and training which directed them to seek out and discover the existence and amount of a cash hoard in a net worth case. Finally, we place no reliance on L. D. Perry's testimony regarding a cash source from the 1956 liquidation of his car sales business. Even if such cash were produced in 1956, petitioners' spending habits in current years indicate the cash could be exhausted in 13 years. More important, L. D. Perry's testimony is the exclusive evidence establishing any remaining amount on January 1, 1968, and we have already found his testimony unreliable. At the same time, there is a perfectly reasonable explanation of the increase in petitioners' net worth -- they represent unreported income from L. D. Perry's business interests operated during each of the years in issue. Our Findings of Fact clearly detail the gross income of L. D. Perry's business interests. Although we recognize that those businesses80 also had substantial operating expenses, the large gross income figures represent the opportunity for L. D. Perry to siphon off funds. Moreover, at least one transaction leads us to believe that he was not concerned about extracting unreported cash from his business interests. In 1967, Smart & Perry, Inc., leased its business premises from Mark-Lee, Inc., for $3,000 a month. L. D. Perry owned at least 50 percent of each corporation. In late 1967, he caused the rent to be increased to $4,000 a month which Smart & Perry, Inc., deducted as rent. Mark-Lee, Inc., however, continued to report only $3,000 and L. D. Perry received $1,000 a month cash -- tax-free. Under these facts, we have no alternative but to conclude that there was not a $300,000 cash hoard and that petitioners had significant amounts of unreported income.There remains the question, however, of whether respondent's use of zero cash on hand in each of the years is accurate. Having the benefit of the testimony of all the witnesses, we find petitioners had $20,000 cash on hand at the beginning of each of the years at issue. One of the examining agents testified that an analysis of petitioners' 1961 to 1967 tax returns81 supported $20,000 cash on hand on January 1, 1968. L. D. Perry has consistently maintained in the audit investigation that he had at least $30,000 cash on hand. Accordingly, considering all the testimony, we find petitioners had $20,000 cash on hand on January 1, 1968, 1969, and 1970, which, of course, will require revised net worth calculations. In all other respects, we sustain respondent's net worth calculation. Petitioners make a final legal argument which we must reject. They argue that if respondent's zero cash on hand analysis is rejected that his entire net worth computation must fail. We recognize that respondent must establish an opening net worth with reasonable certainty as a starting point from which to calculate future increases in a taxpayer's assets. Holland v. United States,348 U.S. 121">348 U.S. 121 (1954). But this does not require absolute certainty in ascertaining opening net worth. In Baumgardner v. Commissioner,251 F. 2d 311 (9th Cir. 1957), affg. a Memorandum Opinion of this Court, the Court of Appeals sustained our finding in a net worth case that the taxpayer had $5,000 in cash at the beginning of the period, not $14,000 to82 $16,000 as contended by the taxpayer, not $100 as contended by respondent. See also Potson v. Commissioner,22 T.C. 912">22 T.C. 912 (1954), affd. sub nom. Bodoglau v. Commissioner,230 F. 2d 336 (7th Cir. 1956), United States v. Johnson,319 U.S. 503">319 U.S. 503 (1943). Thus, petitioners' showing of a small amount of cash on hand, as of the date respondent assumed no cash, does not render the determination invalid or nullify entirely the deficiencies as determined. We have considered petitioners' other arguments and find them unpersuasive. Issue 2. FraudThe next issue we must decide is whether any part of the underpayment of taxes for each of the years in issue was due to fraud with intent to evade tax within the meaning of section 6653(b). Respondent bears the burden of establishing fraud, and he must prove it by clear and convincing evidence. Sec. 7454(a); Rule 142(b), Tax Court Rules of Practice and Procedure. To establish fraud, respondent must show that the taxpayer intended to evade taxes which he knew or believed he owed, by conduct intended to conceal, mislead, or otherwise prevent the collection of such taxes. Stoltzfus v. United States,398 F. 2d 1002, 1004 (3d Cir. 1968),83 cert. denied 393 U.S. 1020">393 U.S. 1020 (1969); Webb v. Commissioner,394 F. 2d 366, 377 (5th Cir. 1968), affg. a Memorandum Opinion of this Court. The presence or absence of fraud is a factual question to be determined by an examination of the entire record. Mensik v. Commissioner,328 F. 2d 147, 150 (7th Cir. 1964), affg. 37 T.C. 703">37 T.C. 703 (1962), cert. denied 379 U.S. 827">379 U.S. 827 (1964); Otsuki v. Commissioner,53 T.C. 96">53 T.C. 96, 105-106 (1969). Since fraud can seldom be established by direct proof of intention, the taxpayer's entire course of conduct can often be relied on to establish circumstantially such fraudulent intent. Stone v. Commissioner,56 T.C. 213">56 T.C. 213, 223-224 (1971); Otsuki v. Commissioner,supra at 105-106. Based on the entire record, the evidence overwhelmingly establishes that L. D. Perry fraudulently underpaid his taxes during each of the years in issue. He arranged for the preparation of the tax returns, and those returns understated the petitioners' income by nearly $108,279.54 in 1968, $86,363.72 in 1969, $70,614.35 in 1970. Such a consistent pattern of underreporting84 substantial amounts of income over a period of several years, standing alone, is persuasive evidence of fraud. Holland v. United States, 139 (1954); Adler v. Commissioner,422 F. 2d 63, 66 (6th Cir. 1970), affg. a Memorandum Opinion of this Court; Estate of Upshaw v. Commissioner,416 F.2d 737">416 F. 2d 737, 741 (7th Cir. 1969), affg. a Memorandum Opinion of this Court, cert. denied 397 U.S. 962">397 U.S. 962 (1970); Agnellino v. Commissioner,302 F. 2d 797, 801 (3d Cir. 1962), affg. on this issue a Memorandum Opinion of this Court. We recognize that such principle should be applied with caution where the finding of unreported income is based on the taxpayer's failure to meet his burden of proof in some respect. See Otsuki v. Commissioner,supra at 106; Estate of Beck v. Commissioner,56 T.C. 297">56 T.C. 297, 363 (1971). However, our conclusion was not based on the petitioners' failure of proof. Based on all the evidence, we affirmatively found that no significant cash hoard existed in 1968 and that the petitioners' unreported income was derived from L. D. Perry's business interests. Yet, we need not rely solely85 on the petitioners' failure to report substantial income, because there are other significant indicia of fraud.As noted earlier, the record discloses a specific instance in 1967, 1968 and 1969 where L. D. Perry diverted the corporate income of Mark-Lee, Inc., for his own personal use. This was achieved by increasing the rent payment from Smart & Perry, Inc., from $3,000 to $4,000 a month while having Mark-Lee, Inc., report the same $3,000. L. D. Perry pocketed $1,000 a month in cash. The records of Mark-Lee, Inc., continued to reflect $3,000 monthly rental income. L. D. Perry's attempt to conceal the source of income and his manner of handling the transaction so as to avoid usual records is a clear indication of fraud. Spies v. United States,317 U.S. 492">317 U.S. 492 (1943). In addition, the manner in which L. D. Perry kept his books and records also supports a finding of fraud. We have found that part of the understatements were possibly caused by the diversion of corporate funds in a situation where no records were maintained and currency was used.Also, the large unexplained understatements of taxable income in the years at issue indicate petitioners' books and records86 were not accurate. Finally, L. D. Perry's evasive conduct during the course of audit and his willingness to say whatever financially benefited him is further evidence of fraud. L. D. Perry was interviewed in his attorney's office after he had been informed of a tax fraud investigation. He maintained he had a cash hoard of $30,000 to $50,000.Later, after he was informed of the large understatements in his taxable income, he increased his cash hoard to $300,000. Moreover, at trial, L. D. Perry was able to recall with great detail that he had two sewer pipe pieces and the approximate amounts of cash in each one; but his trial explanations of the use of the hoard were not supported by the record. In the specific instance of the 1968 farm purchase, his bank records indicated an ample supply of funds to pay the purchase price. The farm was, in fact, paid for with bank account funds. L. D. Perry earlier testified, however, that he only used sewer pipe funds when bank accounts were insufficient. Thus, his testimony that he used sewer pipe funds for the farm purchase is not to be believed. He also stated that he had no cash hoard in a loan application in 1965.In 1975, his divorce87 proceeding financial statement disclosed no significant cash hoard. Yet at trial, he testified he specifically and intentionally lied to the divorce court to protect his assets from his wife -- a position, we are aware, he must maintain in this Court to prevail. There are so many inconsistencies and derogatory admissions in L. D. Perry's testimony that it is difficult to know what to believe, but it is clear that such statements were made with a purpose of concealing his unreported income. Accordingly, we find that part of the underpayment for each of the years at issue was due to fraud on the part of petitioner. Respondent also argues that part of each underpayment of tax was due to the fraud of Mary Jean Perry. In support of his contention, respondent asserts that Mary Jean Perry was aware that the Federal income tax returns which she signed for the years 1968, 1969, and 1970, were false and fraudulent when the amounts reported are contrasted with the style of living which she and her husband were experiencing during the years in question. Under section 6653(b), however, Mary Jean Perry is not liable for the fraud penalty unless it is shown that part of the underpayment for88 each of the years at issue was due to fraud on her part. Fraud may never be imputed or presumed, but must be affirmatively proved. Stone v. Commissioner,supra at 224. On the basis of the record before us, respondent has not proved by clear and convincing evidence that any part of the underpayment was due to fraud on her part. The record discloses that Mary Jean Perry had nothing to do with the family finances other than signing necessary documents. L. D. Perry testified that he accumulated and prepared the necessary documents to take to the tax preparation person charged with completing the returns. The record before us indicates that L. D. Perry assumed the full financial responsibility for the family and nothing indicates that Mary Jean Perry realized how much income was received by the family. Indeed, L. D. Perry testified he attempted to hide assets from Mary Jean Perry. This indicates he also disguised various sources of income. Admittedly, Mary Jean Perry knew her husband was engaged in a number of businesses, but nothing indicates she knew how successful they were since they constantly applied for loans. Finally, we simply see no affirmative*89 evidence that she had any way of knowing that the taxable income reported on their returns for the years in issue did not accurately reflect their income. In conclusion, we hold that both petitioners are liable for the deficiencies in income tax for each of the years 1968, 1969, and 1970; that L. D. Perry is liable for the fraud penalty for each of such years; and that Mary Jean Perry is not liable for such penalty. To reflect the foregoing, Decision will be entered under Rule 155.Footnotes1. Statutory references are to the Internal Revenue Code of 1954, as amended.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619860/	Walter A. Frederich and Lena Frederich, His Wife, Petitioners, v. Commissioner of Internal Revenue, Respondent. Margaret Swisher Seever, Petitioner, v. Commissioner of Internal Revenue, RespondentFrederich v. CommissionerDocket Nos. 112245, 112478United States Tax Court2 T.C. 936; 1943 U.S. Tax Ct. LEXIS 35; October 27, 1943, Promulgated 35 Decision will be entered under Rule 50. A partner died in January 1934. His debts were paid off within about a year. Due to business considerations, the surviving partner and the other heirs agreed to continue the estate in the partnership. On December 21, 1938, the surviving partner was appointed administrator. In October 1941 and February 1942 he was authorized by the Probate Court to continue the business. The court's orders recite agreement between the heirs for continuation of the partnership; that the present status of the estate is determined; and that management thereof by the heirs, and later by the administrator, is approved. Held, that the taxable years 1937, 1938, and 1939 did not constitute a "period of administration or settlement of the estate," under section 161 (a) (3) of the Revenue Act of 1938 and the Internal Revenue Code. A. W. Brubaker, Esq., for the petitioners.J. Marvin Kelley, Esq., for the respondent. Disney, Judge. DISNEY936 These proceedings were consolidated for hearing and involve the redetermination of deficiencies in income taxes as follows:193719381939Docket No. 112,245$ 5,759.84$ 6,364.05$ 4,630.24Docket No. 112,4781,740.221,879.421,953.4636 All of the issues raised by the petitioner in Docket No. 112,478, with one exception, were settled at the hearing by stipulation. These adjustments will be reflected in the recomputation to be filed under Rule 937 50. The remaining issue, common to both proceedings, is whether the income of Frederich's Market is taxable to petitioners or to the estate of the deceased partner. The amount of earnings of the business is not in controversy. An additional issue in Docket No. 112,245 is whether the petitioner is entitled to a credit for overpayment of taxes by the estate of the decedent.FINDINGS OF FACT.The petitioners in Docket No. 112,245 are husband and wife. The husband will be referred to as Frederich. The petitioner in Docket No. 112,478, Margaret Swisher Seever, is a sister of Frederich. The petitioners filed their returns for the taxable years with the collector at Jacksonville, Florida.Herman Frederich died intestate January 6, 1934, leaving surviving him as heirs Frederich, Margaret Swisher Seever, and a half-brother, Nicholas Frederich, a minor. His estate consisted of a one-half interest in Frederich's Market, a partnership engaged in the grocery business in37 Miami, Florida, having assets consisting primarily of cash, inventories, buildings, furniture and fixtures, automobiles, and real estate. The remaining half interest in the partnership was held by Frederich. The market was operated by Frederich after the death of the decedent. Margaret Swisher Seever worked in the market until January 1939, when she remarried and went to Tennessee to live.A short time after the death of the decedent, the petitioners decided that an immediate probating of the estate might result in a forced liquidation of the business by creditors, with loss to the estate. Frederich operated Frederich's Market without probating the estate of the decedent. After demand by a representative of their half-brother, and under proper guardianship proceedings, in May 1934 Frederich and his sister each purchased one-half of the half-brother's interest in the estate of the decedent, amounting to 20 percent, for a total of $ 4,000. At that time Frederich was advised by counsel that he could delay the institution of proceedings for the administration of the estate. Thereafter, he did not consult counsel respecting the matter until about the summer of 1937.In November 38 1937 an internal revenue agent in charge made a written request upon Frederich for information on whether an estate tax return should be filed for the decedent's estate. Frederich did nothing about the matter at that time except to deliver the letter to his attorney. On November 1, 1938, Frederich petitioned the County Judge's Court, Dade County, Florida, for letters of administration appointing him administrator of the estate of the decedent, and on December 21, 1938, was appointed administrator of the estate. Proof 938 of publication to creditors was filed with the court on January 25, 1939.On January 11, 1939, Frederich, as administrator, filed an estate tax return for the estate of the decedent in which he reported a gross estate of $ 38,551.01, and deductions of $ 3,763.36. The collector determined estate tax liability of $ 1,122.26, which amount, with interest, was paid on January 6, 1940. On October 25, 1941, the County Judge's Court entered an order nunc pro tunc amending the petition for letters of administration decreasing the value of the estate of the decedent to $ 23,706.42, subject to personal claims, including funeral expenses of $ 2,080.35, all of which39 expenses were paid during the first year following the death of the decedent.In April 1940 a revenue agent examined the books and records of Frederich's Market in connection with a determination of tax liability of Frederich and Margaret Swisher Seever for the years 1937, 1938, and 1939. Frederich informed the revenue agent at that time that it was not necessary to administer the estate of the decedent.At intervals of from 30 to 60 days between May 1939 and October 1941 a representative of the surety on the bond of Frederich as administrator communicated with Frederich and his attorney for information on when further action would be taken to close the estate of the decedent and was informed that they had not been able to prepare data for a final accounting; that as soon as the information was obtained, they would be in a position to close the estate; and that they expected to close the estate within 30 to 45 days. When the bond was issued the surety company was informed by Frederich's counsel that the administrator expected to close the estate within eight months.Surety on the bond of the administrator caused the County Judge's Court to issue a citation to the administrator on40 October 10, 1941, to file an accounting within ten days, showing the receipts and disbursements of the estate.Answer was made on October 25, 1941, to the citation to make an accounting. At the hearing Margaret Swisher Seever testified that she did not want her interest in the decedent's estate in kind. She never agreed to accept her interest in that way. Frederich has tried to sell the business and is not interested in owning it if he must go in debt to make the purchase.On October 24, 1941, the court entered an order captioned as follows:Order directing the incorporation of guardianship proceedings heretofore adjudicated, directing the recording of an assignment of interest in the estate, adjudicating the interest of the present heirs, approving the heirs' management of the estate, and declaring the present status of the said estateFurthermore, in the body of the order it is recited that the court is asked to hear evidence as to the present status and, inter alia, to find 939 that it was to the best interest of the estate and of the heirs that it was managed "as a partnership interest" from the date of death; that the court, being fully advised in the premises, 41 finds that there was an agreement between the heirs and the surviving partner, agreeing that the estate remain in the partnership; that pursuant to such agreement the estate was continued in the partnership; that the heirs properly managed the estate from the date of death "to the date of the granting of Letters of Administration," and the estate continued to be properly retained, handled, and managed as a partnership interest in the partnership to the date of the order; and that the partnership interest had been represented in the following proportions: 55 percent by Walter A. Frederich, 5 percent owned by Margaret Swisher Seever, and 40 percent owned by the estate, and that "by virtue of an agreement between the heirs of the estate of Herman Frederich, deceased, and the surviving partner * * it is ordered * * * that four-fifths undistributed estate of Herman Frederich has been and now is properly a partnership interest in the business."On February 10, 1942, the court entered an "Order on Citation for Accounting." It recites in pertinent part that there was testimony that the partners had agreed that in the event of the death of either the survivor would continue the partnership; 42 that the partnership had been continued by the heirs for three years and thereafter by the administrator; that after the death of Herman Frederich, the heirs decided to postpone taking out letters; that the apportionment of the percentages of the interest in the partnership had been agreed to by the principals in their capacity as partners and heirs; that: * * the surviving partner conducted such business at his peril without having first secured the authority of the Probate Court. The Court holds that in event of a loss or depreciation of the estate assets, the said Walter A. Frederich, as the surviving partner, would have been answerable therefor, but the results were the direct opposite. The financial statements * * * showed that Walter A. Frederich, as the surviving partner, increased the value of the estate's interest * * . Whether the continuation of the partnership business was an authorized or unauthorized act, this Court could not find fault with the results and, therefore, entered an order approving Walter A. Frederich's handling of the estate's interest.The order further recited that counsel for Walter A. Frederich individually urged that a bookkeeping entry allowing43 Margaret Swisher Seever her proportionate share of, or interest in, the estate in the partnership would make possible the immediate closing out of the estate, and that Margaret Swisher Seever had petitioned the court, admitting an agreement to continue the interest of the estate in full partnership relation. The court concluded that it was to the best interests of the estate not to require immediate liquidation thereof, and that Walter 940 A. Frederich as administrator should continue the remaining interest of the estate in the partnership.The first and partial income account filed by the administrator and approved by the court on March 7, 1942, discloses the following capital and income of the estate:Capital AccountBalance December 31, 1934$ 21,626.07Distribution minor's interest and attorney's fee of $ 3254,325.00$ 17,301.07Net income to December 31, 1941$ 203,612.82Less disbursements38,949.92164,662.90Total capital account$ 181,963.97Partial Distribution of Estate 1934$ 3,000.0019351,000.0019419,326.4813,320.48Undistributed capital$ 168,637.49As of January 44 1, 1934, the indebtedness of Frederich's Market consisted of the following items:Merchandise$ 8,449.16Equipment1,400.53Real estate4,843.28Taxes and paving liens810.48Total15,503.45The books of Frederich's Market disclosed liabilities, exclusive of capital accounts of the partners, as of the close of 1934 to 1939, inclusive, as follows:1934$ 14,624.3719359,966.53193630,931.951937$ 24,976.74193820,083.83193978,249.06The withdrawals from the business in 1934 and thereafter through 1941 were as follows:W. A.MargaretYearEstateFrederichSwisherSeever1934$ 2,055.36$ 6,913.07$ 900.9319353,541.497,735.201,457.8219361,991.9310,596.432,676.2419375,316.247,535.4913,523.1919386,909.0926,639.961,718.861939$ 7,589.54$ 145,959.29$ 5,518.0919407,321.659,446.532,445.5819413,810.0420,252.871,874.13Total38,535.34235,078.8430,114.84941 Income tax returns were filed for the taxable years, in which 50 percent of the profits of Frederich's Market was reported as taxable to the estate of the decedent.Upon the findings by the Judge's Court that he45 was entitled to 55 percent of the income of Frederich's Market, Frederich reported the additional income in amended income tax returns for 1937, 1938, and 1939. On May 8, 1942, the Judge's Court entered an order directing Frederich to assign to himself as heir of the decedent's estate, and to his wife, $ 6,000, plus interest thereon, of any refund found to be due on account of overpayment of income taxes of the estate for 1937 to 1939, inclusive, any amount so received to be treated as a partial distribution to Frederich as an heir of the decedent. Upon receipt of a notice and demand from the collector for an additional income tax under his amended income tax returns for 1937, 1938, and 1939, Frederich requested the collector to apply the overpayment of income taxes by the estate as a credit to the additional taxes due from him.OPINION.Prior to the death intestate on January 6, 1934, of Herman Frederich, the partnership conducting the business of Frederich's Market was owned in equal shares by the decedent and his brother Walter. Income tax returns were filed for the taxable years for the estate of the decedent in which a 50 percent share of the profits of the business was reported46 upon the ground that the estate was a partner. In his determination of the deficiencies, respondent found that the estate of the decedent was not in process of administration during the taxable years, and, accordingly, that the profits attributable to the former interest of the decedent should be reported by his heirs, petitioners herein, one-half by each, including the interest purchased from a half-brother.Income taxes imposed by Title I of the Revenue Acts of 1936 and 1938 and chapter 1 of the Internal Revenue Code are applicable to "estates of deceased persons during the period of administration or settlement of the estate." Sec. 161 (a) (3). Regulations promulgated under these statutes provide, in part, as follows:* * * The period of administration or settlement of the estate is the period required by the executor or administrator to perform the ordinary duties pertaining to administration, in particular the collection of assets and the payment of debts and legacies. It is the time actually required for this purpose, whether longer or shorter than the period specified in the local statute for the settlement of estates. * * Art. 162-1, Regulations 94 and 101. Prior acts47 and regulations thereunder contained like provisions. Sec. 219 (a) of the 1918, 1921, 1924, and 1926 Acts; sec. 162 (c) of the 1928, 1932, and 1934 Acts; art. 343, 942 Regulations 45, 62, 65, and 69; art. 863, Regulations 74 and 77; and art. 162-1, Regulations 86.The broad difference between the parties is whether the taxable years were a "period of administration or settlement of the estate" within the statutory language. Respondent argues that they were not and that petitioners received the income of the business as tenants in common. Upon brief petitioners contend that administration of the estate was mandatory; that the statutes of Florida place no limitation upon the time for administering an estate after letters are issued; that personal representatives may carry on a trade or business on behalf of an estate; that the County Court found that the partners had an oral agreement for the continuation of the partnership business upon the death of either partner until the business could be liquidated to advantage; that after the death of decedent large sums were required from the business to meet partnership debts and capital expenditures; that any earlier appointment of48 an administrator, or the timely filing of accounts by him, would not have hastened settlement of the estate of the decedent; and that the orders of the Probate Court fix the property interests of the petitioners and the estate, and are controlling here.The contention of the respondent is that, since all of the debts of the decedent were paid in 1934 and the assets of the estate were in possession of the surviving partner, leaving nothing for administration except distribution of the partnership interest of the decedent to his heirs, petitioners herein, under his regulations the year 1934 was the time actually required for the collection of assets and payment of debts.The administrative interpretation of the statute without change during reenactments of the provision by Congress amounts to an implied legislative approval of the regulation. National Lead Co. v.United States, 252, U.S. 140; .No case has been called to our attention in which, as here, no personal representative had charge of the estate during a portion of the taxable years. Other proceedings before us, in which personal representatives49 were functioning during the taxable years involved in the cases, were decided upon the theory that an executor may not unnecessarily delay the closing of an estate. In , we said that "There may be cases imaginable where the failure to close the estate is so unnecessary as to be merely capricious and the estate a mere form -- a subterfuge for spreading taxes out thinner." Other cases point out that the closing of an estate may not be arbitrarily or capriciously delayed. ; .943 Here the petitioners, the only heirs of the estate of the decedent after the purchase by them in May 1934 of the interest of their half-brother, took no steps towards closing the estate from the time of final payment in 1934 of personal debts of the decedent until November 1938, when Frederich applied for letters of administration. In January 1939 he, as administrator, filed an estate tax return showing no tax liability. No further action was taken by Frederich to close the estate until50 October 1941, two years after the last taxable year involved herein, when he appeared before the probate court to answer an order of the court for an accounting.During all of this period of inaction on the part of petitioners as heirs, and Frederich, as administrator, to close the estate, the assets of the decedent, consisting entirely of a one-half interest in Frederich's Market, were being managed by Frederich with the assistance of Margaret Swisher Seever as an employee of the business. Nothing remained to be done during that period except to distribute the assets of the estate to petitioners, the only interested parties.At the hearing had on the order for an accounting, counsel for Frederich, individually, urged that a bookkeeping entry allowing Margaret Swisher Seever her proportionate share of the estate would make possible the immediate closing of the estate. Petitioners now contend that forced liquidation of the business at the time of decedent's death would have resulted in serious loss to the estate and that partnerhip debts continued in an increasing amount. The liabilities of the business at the close of 1934 to 1936, inclusive, were in round figures $ 14,600, $ 9,900, 51 and $ 30,900, respectively, and the earnings during those years were in the respective amounts of $ 43,200, $ 41,200 and $ 71,200. Those earnings are reflected in inventories in the amount of about $ 76,000; fixed and other assets in the amount of about $ 49,000, including an investment of $ 27,500 in land; withdrawals and advances to petitioners; and charges against the estate of the decedent, adjusted for the small increase in liabilities.It is obvious from these facts that the earnings were used to expand the business and for investment purposes. No estate tax return was filed by Frederich, as administrator, until fourteen months after the receipt of a written request from an internal revenue agent in charge for the submission of data on estate tax liability of the decedent's estate. As late as April 1940 Frederich was of the opinion that he was not required to complete the administration of the estate. Petitioners had no right to prolong the estate as a separate taxable entity beyond the time allowed by the Federal statute, with or without the advice of personal counsel. There is no evidence that at any time prior to or during the taxable years petitioners endeavored to 52 sell the business or demanded that their share of the estate be distributed to them 944 in cash. The testimony on the point is merely that Frederich tried to sell the business, the times not being stated, and that Margaret Swisher Seever never agreed to accept her interest in kind. The evidence discloses intent, especially on the part of Frederich, to defer final distribution, for reasons not entirely clear, rather than to close the estate within the time actually required.The petitioner urges that the County Judge's Court in Florida has determined that the estate of the deceased partner was in process of administration during the taxable years, and that such determination is conclusive here. We have here simply a question of whether there was, under section 161 (a) (3) of the Revenue Act of 1936 and of the Internal Revenue Code, during the taxable years, a "period of administration or settlement of the estate." If there was, under that section, the estate is separately taxable on its income. The regulations have construed the statute to mean that such period of administration or settlement of the estate is the period required to perform the ordinary duties pertaining to53 administration, whether such period is longer or shorter than the period specified by local statute; and such regulations, as above seen, have subsisted throughout repeated reenactment of section 161 (a) (3) and therefore should be regarded by us as having the approval of Congress. Congress, in providing for the taxation of estates as such and specifying the period of such taxation, was providing a uniform system of Federal taxation. We have here involved, then, in substance, a Congressional mandate upon a question of uniform system of Federal taxation. Except in so far as the local decision determined the property rights of the heirs; i. e., their respective interests, with which we are not here interested, the decision of the state court did not lay down a local rule of property.The time required for the performance of the usual administrative duties clearly did not extend into the taxable years here involved. The decedent's debts had been paid within about a year of his decease and no valid reason, such as the litigation found in some cases, appears for the continuation of an administration, even had one been instituted shortly after the death of the deceased. The law of 54 Florida, section 5541 (143) of the Compiled Laws, provides that in case the decedent was a member of a partnership the business and affairs of the partnership shall be wound up without delay, and accounting made to the personal representative; further, that any interest of an estate existing by virtue of partnership between the decedent and others may be sold in the same manner as other property of the estate. In fact, the interest of the minor half-brother was sold, indicating that, so far as necessity of administration is concerned, the interest of the decedent could have been sold in its entirety, the proceeds distributed to the heirs, and the estate closed. Only business reasons are advocated 945 why this was not done. We think it was Congressional intent to permit the taxation of the estate as such for income tax purposes only within the usually necessary period of administration and that facts indicating the financial wisdom of continuing the estate for the greater benefit of the heirs are not properly to be considered; therefore, that the continuation of an estate in a partnership by order of the Probate Court is not effective upon the question of Federal income taxation. 55 Were this not true, the business exigencies involved could in any case be made to control the matter of Federal income taxation, and might, in some circumstances, be made the means of selection of the year of taxation by the taxpayer. In our opinion, the instant situation is covered by such cases as ; ; ; . The period of administration may not be unduly prolonged. ; . , is not to the contrary and is distinguishable on its facts from the present situation. Our inquiry as to whether a period here involved comes within the intendment of the statute and the regulations so approved by Congress may not, in our opinion, be restricted by local statutes or decisions. We conclude that the decision of the County Judge's56 Court is not controlling.Moreover, in our opinion, the two orders of that court upon which reliance is placed do not constitute a holding that the taxable years here involved constituted a period of administration or settlement of the estate. We find no such language therein. One of the orders recites, in substance, that the heirs had managed the estate from death to the date of letters of administration. The other order recites that the partnership had been continued for three years by the heirs and thereafter by the administrator; but, considering the fact that the decedent died in 1934 and the administrator was not appointed until December 21, 1938, we conclude that the court meant to hold that the heirs continued the partnership up to the institution of administration proceedings. This, in our opinion, disposes substantially of the first two taxable years here involved. During that period there was no administration or settlement of the estate as such; and we think a fair interpretation of the orders precludes the idea that the court held that there was such at least prior to the appointment of the administrator.As to the period after an administrator was appointed, that57 is, the year 1939, we think the result is not different, for it was not until after the expiration of that year that the administrator approached the Probate Court and secured from it what the court in the order specifies as the necessary authority to continue the partnership. Moreover, 946 the court finds that the surviving partner conducted the business at his peril without having first secured the authority of the Probate Court, and that in the event of a loss or depreciation of the assets of the estate he would have been answerable. Reasonable construction of the general effect of the court's orders indicates to us that the court approved what had been done prior to securing such authority from the Probate Court, because the results had been beneficial; but this is far from a holding that the estate had actually been passing through a period of administration or settlement. That the assets of the estate had been, during the taxable years, embarked in a partnership, with or without the prerequisite of authority from the Probate Court, is, in our opinion, immaterial to the instant question, for it was not Congressional intent that the estate might continue to be taxed for58 income tax purposes as such during any period, however extended, for which the parties in interest might place it in a partnership. The court denied the surviving partner compensation for management on the ground that he had derived benefit individually. This indicates that the partnership assets were not being managed, in the view of the Probate Court, as assets of an estate. In addition, such partnership is recited by the court to have arisen by virtue of an agreement entered into between the heirs of the decedent and the surviving partner. Such an agreed status does not, in our opinion, come within the Congressional intent as to period of administration or settlement during which an estate may pay income tax as such. Moreover, the finding that the partnership was by virtue of an agreement between the heirs and the surviving partner, together with recitations as to agreement of apportionment between the partners and recitation of the admission of an agreement to continue the estate and partnership, is clear indication that, so far as concerns the court's conclusion that there was a partnership, it is essentially based upon agreement of the parties, and therefore the judgment59 of the court does not constitute such an adjudication as should be considered binding here.There was no contest before the Probate Court on the question here involved. The parties were in agreement that there was a partnership and considered the estate to have been a member thereof; and proffered to the court no disagreement on that subject. Logically, therefore, such judgment may not be considered as controlling here. We consider the judgment, as stated in , "collusive in the sense that all the parties joined in a submission of the issues and sought a decision which would adversely affect the Government's right to additional income tax." ; ; , affirming . In addition, it is worthy of note that the judgment of the Probate Court recited that the status declared for the estate is "the 947 present status," from which it appears that 60 the order was not in fact intended to encompass a judgement that the estate had properly been in process of administration during 1937, 1938, and 1939, the taxable years here involved, but only to declare the status of the estate in 1941 and 1942, the dates of the two orders relied upon, and to approve the management of the heirs during the earlier period, in effect, because it was beneficial financially. The court, of necessity, viewed the proceeding as it then found it, not what it would have been if its jurisdiction had been invoked in 1934, 1935, or 1936. Its orders must be interpreted in that light. Additional reason thus appears why the judgment may not be accorded conclusive effect here.In 1939 Frederich withdrew about $ 146,000 from the business. The court's opinion discloses that the funds were used to improve property adjoining Frederich's Market for the purpose of attracting business to that locality. Withdrawals by Frederich in excess of $ 15,000 annually were held by the court to constitute distributions in partial liquidation of the estate of the decedent. The capital account of the estate at the close of 1939 was about $ 134,000. Withdrawal of such an amount 61 then is opposed to the idea that the estate could not have made a final distribution prior to the taxable years, at least by a bookkeeping entry.In , supra, we said that, "If there were evidence of capricious delay, there would be justification for entertaining the idea of constructive distribution, but such evidence must be more than the executor's tentative report of no claims against the estate." There was such delay here. Frederich, who had possession of the assets of the estate at all times important, manifested no desire to close the estate until directed by a court order to show cause why he should not. The laws of Florida gave the other petitioner, as the remaining heir, the right to an administration under the jurisdiction of the state court. Nothing here is opposed to the assumption that she was not fully aware of the status of the estate and is in no position to complain if she is charged with tax on income which she could have received had she elected to avail herself of the rights given her by the state statute.In our opinion, the income flowing from the interests of the petitioners62 is taxable to petitioners.Under this view of the proceedings it becomes unnecessary for us to pass upon the question of whether Frederich is entitled to a credit for any overpayment of income taxes of the estate of the decedent on account of reporting in returns filed for it 50 percent of the profits of of Frederich's Market instead of 40 percent, the interest of the estate as decided by the state court.Decision will be entered under Rule 50. Footnotes. To petitioners, one-half to each.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619862/	AGNES I. FOX, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Fox v. CommissionerDocket No. 100157.United States Board of Tax Appeals43 B.T.A. 895; 1941 BTA LEXIS 1430; March 13, 1941, Promulgated 1430 During and prior to the taxable year petitioner was beneficiary of certain policies of insurance upon the life of her husband. In the taxable year petitioner's husband assigned all his rights in the policies to her. The husband had borrowed upon the policies and interest, which had accrued and become overdue before the date of assignment to petitioner, was added to principal of the loans by the insurance companies. Held, that the overdue interest which was added to principal of the loans by the insurance companies became principal and payments in the taxable year by petitioner of amounts equal to amounts added to principal are not deductible as interest paid; held, further, that petitioner is not entitled to deduct amounts paid in the taxable year which are attributed to interest accrued on the loans prior to the date of assignment of the policies to her. Jacob Schapiro, Esq., and Harold Wisan, Esq., for the petitioner. F. S. Gettle, Esq., for the respondent. VAN FOSSAN 895 Respondent determined a deficiency in petitioner's income tax for the year 1936 in the sum of $2,086.53. Prior to the hearing petitioner consented to the1431 assessment of and paid $117.97 of the deficiency. Subsequent to the hearing petitioner abandoned an issue raised by the pleadings regarding a loss deduction and consented to $777.97 of the deficiency. The sole issue before the Board is whether or not amounts paid to insurance companies by petitioner in the taxable year on policy loans which were made to petitioner's husband before assignment of the policies to petitioner are deductible as interest paid. FINDINGS OF FACT. The facts were stipulated substantially as follows: In and prior to the year 1936 petitioner was the beneficiary of thirteen policies of insurance on the life of William J. Fox, husband of petitioner. 896 On February 29, 1936, petitioner's husband executed a formal instrument, of which the following is material: FOR VALUE RECEIVED, I hereby assign all right, title and interest in the following policies to AGNES I. FOX, my wife, said policies to be her sole and absolute property: CompanyNo. of PolicyThe Prudential Insurance Company of America1,449,645Aetna Life Insurance CompanyN864,210Aetna Life Insurance CompanyN868,668The Penn Mutual Life Insurance Company1,471,3981,471,399736,540The Union Central Life Insurance Company539,751539,752The Northwestern Mutual Life Insurance Company2,117,5301,253,5341,402,2621,405,7601,405,7611432 During the year 1936 petitioner paid to the respective insurance companies sums totaling $6,889.09 in connection with loans which had been made prior to 1936 on the policies assigned to petitioner by the instrument executed by petitioner's husband on February 29, 1936. The apportionment of the sum of $6,889.09 to the interest periods covered by petitioner's checks aggregating that sum is as follows: Paid on account of interest due in 1934$2,384.39Paid on account of interest due* in 19351,208.13Paid on account of interest due* in 1936, prior to 2/29/36794.88Paid on account of interest due* in 1936, subsequent to 2/29/362,501.69Total payments made by petitioner in 19366,889.09(The word "due" employed in the above schedule is used only to indicate the point of time when the annual period for computing interest terminated and when the interest was payable.) Each of the amounts aggregating $6,889.09, set forth in the above schedule, was paid by check in 1936. Each check bore the endorsement "in full payment of interest * " on the respective policy, to the dates specified. The amounts included in the various checks paid by petitioner in1433 1936 which pertained to interest that had become due and payable prior to February 29, 1936, aggregating the amounts shown above, had not been paid by cash or check at the time the interest payments became due and payable and the respective insurance companies had charged the amounts due to the principal of each respective policy's loan reserve. 897 The following excerpts from letters are explanations of the insurance companies as to the manner of applying on their records the interest items enumerated in the schedule hereinbefore set forth: THE PENN MUTUAL LIFE INSURANCE COMPANY * * On November 30th, 1936 we sent to Mr. William J. Fox, 276 Fifth Avenue, New York City, a letter which reads as follows: "Mr. A.V.Gartner has forwarded to us checks which we have applied in reduction of principal of loans on Policies Nos. 736540, 1471398 and 1471399, your life as below: No. 736540 - Account of loan$224.091471398 - Account of loan46.701471399 - Account of loan23.35The above payments have been applied by the Company in reduction of principal, but each item set forth actually represents interest that was added to principal The following interest1434 items were settled by addition to principal: No. 736540 - Interest due 8/10/34$78.96Interest due 8/10/3552.69Interest due 8/10/3692.44$224.09No. 1471398 - Interest due 9/12/35$46.701471399 - Interest due 9/12/3523.35."Today we have received from Mr. A.V.Gartner your three cancelled checks, Nos. 368, 369 and 370 which paid the above mentioned items and this letter is written to you acknowledging the items were paid by your checks. We are today returning to Mr. Gartner the three cancelled checks. THE UNION CENTRAL LIFE INSURANCE COMPANY * * Loan or advance on policy #539752 on the life of William J. Fox.Loan or advance dated Oct. 26, 1931$5,547.00Interest due and unpaid to Oct. 26, 1933, added to principal685.61Total indebtedness Oct. 26, 19336,232.61Interest due Oct. 26, 1934, added to principal373.96Total indebtedness Oct. 26, 19346,606.57Interest to Apr. 8, 1935178.38Premium due on policy$641.50Dividend credit103.00538.507,323.45Credit by cash223.00Balance7,100.45Interest due Apr. 8, 1936, added to principal426.03Total indebtedness Apr. 8, 1936$7,526.48Interest to Nov. 27, 1936288.26Total indebtedness Nov. 27, 19367,814.74Cash received Nov. 27, 1936978.37Balance indebtedness Nov. 27, 19366,836.371435 898 The above is a correct statement of the loan or advance on your policy No. 539752 and the cash payments made to date. THE PRUDENTIAL INSURANCE COMPANY OF AMERICA* * * This is to inform you that the Company will be willing to issue an interest receipt for interest due on the outstanding loan principal as charged against the above numbered policy, for 1935. The interest on interest of $6.50 which we quoted in our letter of October 22nd, as having been added to the outstanding loan in 1935 will be waived and instead there will be added $4.21 representing the interest on interest from March 12, 1936 to November 2, 1936. In addition it will be necessary for Mr. Fox to send us his check for $130.00 representing a 5% of the loan principal of $2,600. It will therefore be necessary for Mr. Fox to send us his check for a total of $134.21. * * * Petitioner made payments aggregating $3,296.57 to the insurance companies on account of interest becoming payable in 1936 before and after February 29, 1936. Respondent determined that $2,736.87 of the sum of $3,296.57 was applicable to interest periods preceding February 29, 1936. He determined that $559.70 of the1436 sum of $3,296.57 was applicable to the interest period subsequent to February 29, 1936. On her income tax return for the year 1936 petitioner claimed an interest deduction in the sum of $6,889.09. Respondent disallowed $6,329.39 of the claimed deduction. OPINION. VAN FOSSAN: The only issue for our determination is whether or not petitioner is entitled to a deduction for interest paid in the taxable year on sums paid to insurance companies which were denominated by petitioner as interest accrued on policy loans prior to assignments to petitioner of the policies upon which the loans had been made. Petitioner contends that the mere fact that she paid more than the current year's interest to the insurance companies in the taxable year is immaterial, since she was on the cash basis. She maintains that by virtue of being a beneficiary under the policies she had an equity in the policies before they were assigned to her and hence was entitled to deduct interest due but not paid in prior years but paid as indicated 899 in the facts in the taxable year. She urges that in any event respondent erred in limiting her deduction for interest paid to those amounts accruing after1437 assignment of the policies to her. In regard to this contention she asserts that she is entitled to deduct at least those amounts of interest paid which became payable after her acquisition of the policies. Respondent argues that petitioner's payment of interest which accrued prior to the assignment of the policies to her is not deductible because it was paid upon the obligations of another. He contends that the overdue interest which the insurance companies had added to principal of the various loans ceased to be interest and became principal so that neither petitioner nor her husband can obtain a deduction for interest paid by payment in a later year of the amounts which had previously been added to the principal by the insurance companies. We sustain the respondent. Upon the addition of the overdue interest to the principal of the loans by the insurance companies the interest due lost its character as interest and became principal. This was not a mere bookkeeping device since interest immediately began to run upon the amounts added to principal. We are of the opinion that amounts paid by petitioner during the taxable year claimed to represent past-due interest which had1438 been added to principal of the policy loans did not constitute "interest paid" within the meaning of the statute. Nor is it material that several of the insurance companies issued statements to petitioner in the taxable year indicating that the companies had withdrawn "interest" from principal and again treated it as interest. After the amounts have been added to principal the fact that the insurance companies are willing to designate payments as interest will not give such payments the characteristics necessary for deductibility under the statute. We hold that petitioner is not entitled to deduct the amounts paid upon the policy loans which had been added to the principal of the loans by the insurance companies. There remains the question of the deductibility of those amounts paid by petitioner to the companies in the taxable year which related to interest on the policy loans becoming payable after February 29, 1936, the date on which the policies were assigned to petitioner. Respondent has allowed petitioner a deduction for interest on the loans which accrued after February 29, 1936, and which was paid by petitioner in the year 1936. He denies that petitioner may deduct interest1439 which became due after February 29, 1936, but which is allocable to the period before the date of assignment of the policies to petitioner. Petitioner argues that she may deduct interest which accrued before the date of assignment because she had an equity in the policies by virtue of being the named beneficiary before the policies were assigned to her. She urges that under New York law the interest of a beneficiary of a policy of life insurance is protected and that 900 she had acquired sufficient ownership in the policies before the assignment to permit her to treat the policy loans as her obligations. Whatever petitioner's equity in the policies before their assignment to her may have been, we can not ignore the fact that petitioner's husband was the person who borrowed on the policies. It was he who had the obligation to pay interest and the obligation continued until the date of assignment to petitioner. Proration must be made as of that date. In , we stated: The statutory deduction for interest (Revenue Act of 1928, sec. 23(b), supra ) is limited to amounts chargeable against the taxpayer qua interest (1440 ) upon his indebtedness. . * * The quoted statement is applicable here. Only those amounts which may be considered interest on petitioner's indebtedness are deductible. The amounts paid by petitioner in the taxable year which were allocable to the period during which the loans were clearly the obligations of her husband are not deductible by petitioner as interest paid. ; ; certiorari denied, . We hold that respondent was correct in disallowing petitioner's deduction of amounts paid to the insurance companies which were attributable to interest accrued on the loans prior to February 29, 1936. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619863/	Frances G. Troy v. Commissioner.Frances G. Troy v. CommissionerDocket No. 44013.United States Tax CourtT.C. Memo 1954-88; 1954 Tax Ct. Memo LEXIS 159; 13 T.C.M. (CCH) 618; T.C.M. (RIA) 54193; June 30, 1954, Filed 159 William S. Duke, Esq., 801 First National Bank Building, Montgomery, Ala., for the petitioner. Homer F. Benson, Esq., for the respondent. JOHNSON Memorandum Findings of Fact and Opinion JOHNSON, Judge: Respondent determined deficiencies of $149 and $152 in petitioner's income tax for the years 1948 and 1949. The issue for each of these years is whether petitioner is entitled to a certain bad debt deduction. Findings of Fact Petitioner, a resident of Montgomery, Alabama, filed her individual income tax returns for the years before us with the collector of internal revenue for the distract of Alabama. In 1926 petitioner was divorced from her husband and was given custody of their five-month old child. Petitioner's husband was ordered to pay her $50 a month for the support of their child. Despite numerous requests by petitioner, her former husband never paid her any money for the support of their child. From time to time petitioner's former father-in-law gave her financial assistance, but in early 1944 he became ill and could no longer continue his contributions for her support. In 1945 and 1946 petitioner earned between $100 and $140 a month as an Alabama state160 employee. At one time prior to 1940 petitioner sought money from her former husband through the Juvenile Court. Even though she was unsuccessful, she did not have him put in jail. In 1944 petitioner was the sole beneficiary of a trust she had created from her own property, and she thought that this trust was irrevocable. The First National Bank of Montgomery, Alabama, was trustee. Petitioner's former husband was in the pulpwood distribution business, and in 1944 he needed money or his business. He asked petitioner to assign the trust for his benefit because he could then use it as security for a loan from the Montgomery Loan and Finance Company. Petitioner, believing that the trust agreement was irrevocable and that the trust assets could not be reached or applied to payment of the indebtedness which Daniel W. Troy owed the Montgomery Loan and Finance Company, made an assignment of the trust assets to that company to secure her husband's debt. She would not have done so had she thought the trust was revocable and that her assignment would be effective and make the assets liable for her former husband's indebtedness. Petitioner's former husband failed to pay the loan to the161 Montgomery Loan and Finance Company, and when the latter sought payment from the trust assets petitioner resisted on the ground that the trust was irrevocable. But the Circuit Court of Montgomery County, Alabama, held the trust to be revocable and the trust assets pledged by petitioner subject to the debt, and petitioner's trust assets were then applied to a partial payment of her former husband's debt to the Montgomery Loan and Finance Company. Immediately after his default, petitioner's former husband left Montgomery for Birmingham, Alabama, and shortly thereafter he moved to New York. Petitioner testified that she had been advised by counsel that she could not recover anything from him. Petitioner claimed that this transaction entitled her to a bad debt deduction. Under section 23(k), I.R.C., she deducted $1,000 in 1944, 1945, 1946, 1947, 1948 and 1949. The notice of deficiency was issued for the last two years. Respondent's explanation for the adjustments to petitioner's income is as follows: "From the information which you have furnished you have stated that no collateral was given you by your former husband to secure you against the risk in pledging162 your trust and further that no efforts were made by you to collect the amount lost. Therefore, from this information it would not be shown that the debtor-creditor relationship existed nor that the proper steps were taken to collect the amount of the indebtedness due to this pledging of the trust as collateral and therefore, this deduction would not qualify as a bad debt deduction under Section 23(k) of the Internal Revenue Regulations. We are, therefore disallowing this deduction in the amount of $1,000.00. "This disallowance and recomputation of your tax results in a tax deficiency of $149.00 plus interest of $31.29 or a total of $180.29." Opinion Petitioner contends that she is entitled to a bad debt deduction under section 23(k). 1 Respondent his disallowed the deduction for 1948 and 1949, contending, first, that there was not a bona fide indebtedness, and, as an alternate contention, that petitioner did not reasonably expect repayment 163 The record developed in this proceeding is wanting in many respects. We received no evidence other than the sole testimony of the petitioner at a thirty-five minute hearing. Part of this time was devoted to statements of counsel, and a good portion of petitioner's testimony was directed to her personal financial problems. Briefly, the facts are that she made some agreement in regard to a loan for her former husband. Petitioner testified somewhat vaguely that her assets in 1944 were diminished by $8,000, $9,000 or $10,000 as the result of the agreement. She said that she had been advised by counsel that she could not recover any money from her former husband. Petitioner then made certain deductions for a nonbusiness bad debt. Respondent adjusted her income for 1948 and 1949 by disallowing the deductions. If petitioner is to prevail she must prove that she was a bona fide creditor and that the debt became "worthless during the taxable year." First, we do not know the value of petitioner's trust. At different times during the hearing the trust was said to be worth $8,000, $9,000 or $10,000. Therefore we do not know the proper value of the alleged debt. Next, what kind of a trust164 was it? We have no way of knowing; nor do we know now it was used in the transaction with petitioner's former husband. Maybe the assignment was a gift; maybe petitioner received some consideration; or maybe she did it as an accommodation. We do not know. Furthermore, the evidence raises a serious question as to whether a bona fide relation of debtor-creditor was established by petitioner's assignment of the trust assets. She testified that at the time she assigned them she thought the trust was irrevocable, and hence her assignment would be of no effect; otherwise she would not have made the assignment. Even if we assume that petitioner were a bona fide creditor, when did the debt become worthless? Did it ever have value? From the evidence it can be inferred that not only was petitioner's former husband unresponsible for his moral obligations, but also he lacked economic resources for his current debts. This might indicate that the alleged debt was worthless when she first entered into the transaction. Furthermore, after his default what did petitioner actually do to determine if she could recover anything on the alleged debt? She testified that she talked to some attorneys. 165 This might have been enough but we do not know what action was taken or what investigations were made by the attorneys. We doubt that worthlessness has been proved. See Ray Crowder, 19 T.C. 329">19 T.C. 329. As deserving as petitioner may be, she has failed to meet her burden of proof and under the law and the evidence respondent must be sustained. Decision will be entered for the respondent Footnotes1. SEC. 23. DEDUCTIONS FROM GROSS INCOME. In computing net income there shall be allowed as deductions: (k)Bad Debts. - (1) General Rule. - Debts which become worthless within the taxable year; * *(4) Non-Business Debts. - In the case of a taxpayer, other than a corporation, if a non-business debt becomes worthless within the taxable year, the loss resulting therefrom shall be considered a loss from the sale or exchange, during the taxable year, of a capital asset held for not more than 6 months. The term "non-business debt "means a debt other than a debt evidenced by a security as defined in paragraph (3) and other than a debt the loss from the worthlessness of which is incurred in the taxpayer's trade or business.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619864/	GERALD O. MADER, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentMader v. CommissionerDocket No. 13022-80.United States Tax CourtT.C. Memo 1982-125; 1982 Tax Ct. Memo LEXIS 626; 43 T.C.M. (CCH) 763; T.C.M. (RIA) 82125; March 15, 1982. Gerald O. Mader, pro se. David Baier, for the respondent. WILESMEMORANDUM FINDINGS OF FACT AND OPINION WILES, Judge: Respondent determined a $ 189 deficiency in petitioner's627 1977 Federal income tax. After concessions, the sole issue for decision is whether petitioner is entitled to a claimed gambling loss deduction. 1FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. Petitioner Gerald O. Mader resided in Hodgkins, Illinois, when he filed his petition in this case. He timely filed his 1977 Federal income tax return, using the cash receipts and disbursements method of accounting, with the Internal Revenue Service Center, Kansas City, Missouri. In 1977, petitioner won $ 680.80 on a $ 2.00 daily double wager he made at the Arlington Park Thoroughbred Racetrack in Arlington Heights, Illinois. Petitioner was not a professional gambler during 1977. On his 1977 return, petitioner did not report any gambling income or claim a gambling loss deduction. Petitioner did not itemize deductions on his 1977628 return because he did not have itemized deductions in excess of the zero bracket amount. In the notice of deficiency, respondent determined that petitioner had additional income of $ 680.80 attributable to his winnings from the daily double wager. 2OPINION Petitioner maintains that he was not required to report any gambling income for 1977 because he incurred gambling losses during that year which offset the income determined by respondent. Section 165(d) 3 allows a deduction for losses from wagering transactions to the extent of the gains from such transactions. Petitioner, however, has the burden of proving that he did in fact sustain gambling losses and the amount thereof. Rule 142(a), Tax Court Rules of Practice and Procedure. Nevertheless, petitioner offered absolutely no substantiation of his gambling losses aside from his self-serving testimony. Surprisingly, petitioner's testimony even failed to indicate the amount of the gambling losses he claims to have incurred during 1977. Instead, petitioner simply asserted that his losses exceeded his winnings629 while admitting that he kept no records of his gambling activities. Moreover, it is clear that petitioner as a non-professional gambler was required to report all of his gambling winnings as gross income under section 61(a) and then claim as an itemized deduction any gambling losses which were deductible pursuant to section 165(d). Since petitioner's itemized deductions did not exceed the zero bracket amount, his asserted gambling losses cannot be used to offset his gambling income. 4 See secs. 62 and 63. Accordingly, since petitioner has not established that he was entitled to deduct any gambling losses, we must sustain respondent's determination. To reflect the630 foregoing, Decision will be entered under Rule 155.Footnotes1. In the petition filed herein, petitioner raised a vague constitutional objection to the income tax. The argument was clearly frivolous and petitioner did not refer to it at any other point in this proceeding. Accordingly, we conclude that petitioner has wisely abandoned any frivolous constitutional claims.↩2. Respondent has stipulated that petitioner only had winnings of $ 678.80 because the wager cost $ 2.00.↩3. Statutory references are to the Internal Revenue Code of 1954, as amended.↩4. Although petitioner stipulated that his itemized deductions did not exceed the zero bracket amount, it is not clear that he treated his claimed gambling losses as itemized deductions for purposes of the stipulation. Nevertheless, since petitioner failed to prove that he incurred any gambling losses during 1977, his treatment of his claimed gambling losses for purposes of this stipulation does not affect our conclusion.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619867/	George H. Brick v. Commissioner.Brick v. CommissionerDocket No. 110149.United States Tax Court1943 Tax Ct. Memo LEXIS 335; 1 T.C.M. (CCH) 1011; T.C.M. (RIA) 43204; April 29, 1943335 Charles Kurz, C.P.A., 285 Madison Ave., New York City, for the petitioner. William G. Ruymann, Esq., for the respondent. DISNEYMemorandum Findings of Fact and Opinion DISNEY, Judge: This proceeding involves the redetermination of an income tax deficiency of $157.24 for the year 1939. The single question presented is whether or not the petitioner was the head of a family during all of the taxable year, and therefore entitled to a credit of $2,500 against net income under section 25 (b)(1) of the Internal Revenue Code. Findings of Fact The petitioner is an unmarried individual residing in New York City, New York. He filed his return for the taxable year with the collector for the third district of New York. Until 1920 the petitioner lived with his father and mother and a sister, Marion, in a home maintained by the father at 267 West 89th Street, in New York City. In that year petitioner's father died. Thereupon the petitioner assumed the burden of maintaining the home for himself and his mother and sister. In about 1925, the family moved to 230 West 79th Street, New York, where the petitioner continued to maintain a home for all of them until February, 1939, when his mother died. 336 Thereafter the petitioner and his sister resided together at the same address until some time in 1941. They then removed to 130 East 75th Street, where they have both continued to reside since then until the present time. After his father's death, the petitioner provided for payment of all household expenses for himself and his mother and sister. The leases for the apartments in which they lived as well as the renewals thereof were decided upon or approved by him. He hired or consented to the hiring of maids for the family, and furnished the money for payment of their salaries. All decisions concerning the running of the home were made with his consent. During his mother's lifetime, he turned over money to her each month for payment of household expenses. Since that time he has followed a similar practice with his sister, giving her $400 a month for that purpose. In the taxable year the petitioner's sister, Marion, was 43 or 44 years of age. She was not under any physical disability, and held full-time employment as a teacher in the public schools of New York City. In that position, she earned $2,514.18 during the year, of which she received in cash about $2,300, the balance being337 deducted and placed to the credit of her account in a teachers' retirement fund maintained by the school system. She owned no property, but did maintain a bank account in which she deposited her salary checks, and the money which her brother gave to her for running of the home. She contributed none of her own earnings toward household expenses in the taxable year, but used it all for the payment of personal expenses. During the last ten months of the year the petitioner turned over to her $4,149, and in addition paid joint expenses for himself and his sister of $1,282.58, and personal expenses for her amounting to $149. During the same period she expended about $3,660 for household expenses, including rent, food, utilities, and servants' salaries, and about $2,300 for purely personal expenses. Of the latter amount, about $360 came from the money which the petitioner had turned over to her, and the balance came from her own earnings, her salary checks during the ten month period having amounted to about $1,920 in the aggregate. Before her death, the petitioner's mother exacted a promise from the petitioner that he would always take care of his sister, Marion. Marion always looked 338 to her brother for advice and guidance, after her father died. She never made a large purchase or took a lengthy trip without his consent. She had one sister, older than she, who was married and lived elsewhere and who made no contribution toward Marion's support. No one other than the petitioner contributed to Marion's support. If Marion needed money, she would ask the petitioner for it and he would give it to her. On all income tax returns filed by him since 1920, the petitioner made claim for personal exemption credit as the head of a family, and, until the taxable year, the claim was always allowed. On his return for the taxable year, similar claim was made for a credit of $2,500. The respondent determined that the amount of credit allowable was only $1,250. Opinion The only question here presented is whether the petitioner is entitled to a personal exemption of $2,500 as the head of a family under section 25(b)(1) of the Internal Revenue Code. The statute itself does not define the term "head of a family," but we have heretofore approved the definition contained in section 19.25-4 of Regulations 103 (see Joseph N. Kallick, 45 B.T.A. 992">45 B.T.A. 992, and 339 cases there cited at pp. 993, 994) as meaning "an individual who actually supports and maintains in one household one or more individuals who are closely connected with him by blood relationship, relationship by marriage, or by adoption, and whose right to exercise family control and provide for these dependent individuals is based upon some moral or legal obligation." It is clear that the petitioner complies with some of the requirements of the definition. The elements of maintenance of the home and close blood relationship unquestionably exist. The petitioner contends that the other essentials also exist. He argues in effect that to the $3,660 spent by Marion for household expenses out of money furnished by the petitioner there must be added the $1,282.58 paid directly by the petitioner for joint expenses of himself and his sister; and that, therefore, total expenses of support of Marion and the share of expenses of home maintenance attributable to her and paid by him was in excess of $2,900, that figure being composed of one-half of the $3,660, one-half of the $1,282.58, all of the $149 paid by him for her personal expenses, and all of the $360 which she spent on herself from money340 furnished by him. It is doubtful whether most of the joint expenses of $1,282.58 paid by petitioner may be considered as expense of maintenance of the home and support of its occupants. Included are such items as fees paid to a golf professional, $90; club dues, $280; entertainment expenses, $430; and flowers, candy, liquor and tobacco, $250. However, we find it unnecessary to pass upon these questions or upon the question whether, on the facts of this case, the petitioner may be said to hold the right to exercise family control necessary to his qualification as head of the family. Assuming, without deciding, that the petitioner's contentions with respect to these controversial questions are proper, we think that the respondent must nevertheless be sustained. As we said in Richard H. Baumbach, 42 B.T.A. 88">42 B.T.A. 88, the applicable section of the regulation "has for its main premise the maintenance by a taxpayer in one household of 'dependent individuals.'" In that case we denied an exemption as head of the family to a taxpayer whose claim was grounded upon maintenance and support of an adult son engaged in the practice of dentistry whose income exceeded341 the expense of maintaining his professional office by less than $150, and who was otherwise maintained and supported by his father in the latter's home. We there said: * * Ordinarily, we do not think of an adult who is mentally and physically sound as a dependent, and to so classify the son in this case would require an abrupt turn in common thought and speech. To hold that an adult individual under the facts here is a dependent would make that term applicable in a variety of situations that were surely not contemplated when the regulation was drafted. To carry the petitioner's view to its logical conclusion would be to say that every adult who continues to reside at the family abode and who does not earn in full a sum equal to his living expenses is a dependent, without regard to mental and physical capacity and the possibility of earning a living in another field of endeavor. Petitioner's view would also involve the application of a highly variable standard, varying according to each individual's ideas as to the sum necessary for his proper support and maintenance. It is our opinion that the word "dependent" in the regulations can not properly be extended to a case like this342 where the individual is an adult, well educated, in good health, engaged in a profession, but simply fails to earn enough in his practice to fully support himself. * * We think the instant proceeding is indistinguishable, in principle, from the Baumbach case. The petitioner, upon brief, places reliance upon the more recent decision of Joseph N. Kallick, supra, in which exemption was allowed. The two cases are not in conflict. The distinction between them is pointed out in the opinion in the latter. In the cited case a son supported his mother, and we pointed out that the respondent has recognized the moral obligation of a son to support a mother. We noticed also the local statute requiring support of a parent unable to support herself. The mother was in a fair state of health. She earned only $170 during the taxable year from insurance premiums, working a few hours a day. We think it clear that the position of the son in the Baumbach case is much more nearly parallel to that of the sister herein, than is that of the mother in the Kallick case. See also Charlotte Hoskins, 42 B.T.A. 117">42 B.T.A. 117. We hold that the*343 petitioner is not entitled to the exemption claimed. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619868/	MIDLAND COOPERATIVE WHOLESALE, A CO-OPERATIVE ASSOCIATION, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Midland Cooperative Wholesale v. CommissionerDocket No. 100612.United States Board of Tax Appeals44 B.T.A. 824; 1941 BTA LEXIS 1269; June 26, 1941, Promulgated 1269 1. A cooperative association, by appropriate resolution of its board of directors, accrued upon its books its earnings, less taxes, interest on its paid-up capital, and an addition to its permanent surplus. A portion of the amounts so accrued was paid over to the members in cash and the remainder was placed in a reserve account. The earnings were all allocated to the members upon the basis of the business transacted by them. No additional corporate action was required to make the amounts, credited to the members, but not withdrawn, available to them. Held, that the amounts credited to the members represented rebates upon the business transacted by them and should not be included in computing the income tax of the cooperative association. Cooperative Oil Association, Inc. v. Commissioner, 115 Fed.(2d) 666, distinguished. 2. The state law under which petitioner was incorporated and petitioner's bylaws limit the amount of interest which may be paid upon its capital stock. Held that such provisions do not constitute a written contract executed by the corporation expressly dealing with the payment of dividends or entitle it to the credit specified1270 in section 26(c) of the Revenue Act of 1936. Helvering v. Northwest Steel Rolling Mills, Inc.,311 U.S. 46">311 U.S. 46; Crane-Johnson Co. v. Helvering,311 U.S. 54">311 U.S. 54. E. J. Pearlove, Esq., and Benjamin Drake, Esq., for the petitioner. H. A. Melville, Esq., for the respondent. MELLOT 825 This proceeding involves the following deficiencies: Income taxExcess profits tax1936$2,322.88$468.8119378,553.001,455.27Petitioner claims that there have been overpayments in its income tax for the year 1936 in the amount of $1,487.23 and for the year 1937 in the amount of $177.23. The issues are: (1) Are the amounts credited to a "Patrons' Equity Reserve Account" for the years 1936 and 1937 in the respective amounts of $5,000 and $29,336.72 deductible from petitioner's gross income? (2) Is petitioner entitled to credits aggregating $18,017.33 for 1936 and $28,051.41 for 1937 under section 26(c)(1) of the Revenue Act of 1936 in computing the surtax on its undistributed profits? FINDINGS OF FACT. The petitioner is a cooperative association, incorporated under the laws of the State1271 of Minnesota. Its principal office is located in Minneapolis, Minnesota, and it is authorized to transact business in both Minnesota and Wisconsin. Its returns for the taxable years were filed with the collector of internal revenue for the district of Minnesota. Under petitioner's charter it has broad powers to conduct a wholesale business on the cooperative plan for buying, selling, and distributing such commodities as are required in the business of operating and maintaining gasoline service stations. It acts as purchasing agent for its members and contracts for petroleum products, automobile accessories and supplies, and other forms of merchandise 826 necessary in the operation of such business. Any cooperative association may become a member by complying with petitioner's articles of incorporation and bylaws and becoming the owner of at least one share of common stock. During the taxable years approximately 180 cooperatives organized under the laws of Minnesota or Wisconsin were stockholders in and members of petitioner and more than 99 percent of all business transacted by petitioner was done with its members. The territory in which petitioner operates is divided1272 into 10 districts. Each district holds quarterly meetings at which matters relating to petitioner are presented for consideration and such action as the district deems proper. Each district is represented upon petitioner's board by one director. Petitioner's authorized capital stock is $250,000, divided into 1,300 shares of preferred of a par value of $100 and 1,200 shares of common of a par value of $100. Dividends on preferred stock are payable when declared by the directors out of earnings, but they can not exceed 5 percent of the par value of such stock and are not cumulative. They are payable before any dividends may be paid on the common stock. The preferred stock may be issued to, and held by, any bona fide cooperative organization or member thereof. It can not at any time exceed the outstanding common stock. The ownership of common stock is limited to cooperative organizations and such stock is to be paid for in cash or out of patronage dividends. Patronage dividends are credited toward the purchase price of common stock until there is one share for every fifty members of the constituent company. Each holder of common stock is limited to one vote. Interest (dividends) 1273 on common stock is payable at the rate of not to exceed 5 percent and is noncumulative. Shares of common stock are transferable only by and with the consent of petitioner. Petitioner's bylaws provide that its annual meeting shall be held on the second Tuesday of June of each year at its principal place of business. Each member association is entitled to one basic vote and one additional vote for each $50,000 worth of business or fraction thereof transacted by it with petitioner during the preceding fiscal year in excess of the first $25,000. The board of directors is authorized to manage the business and affairs of the association and to make all necessary rules and regulations not inconsistent with law or with the bylaws for the guidance of the officers, agents and employees. Article VII of the bylaws reads as follows: The net income of the association, except such amounts as are required to be set aside as a reserve fund, or permanent surplus, or may be set aside by vote of the stockholders, available for distribution among members or patrons, or 827 both, as the case may be, and as may be prescribed by the bylaws, shall be distributed only on the basis of patronage. 1274 There shall be no discrimination as between non-members and member patrons in the payment of patronage dividends or in any other manner. The amount of patronage dividend which shall be due to such non-member patrons shall be credited to their individual accounts and when such credits shall equal the value of a share of stock, a share of stock shall be issued to such non-member patron and he shall thereafter be entitled to the benefits of membership as a stockholder in such association if he is otherwise qualified and eligible for membership therein, and shall assume the responsibilities and obligations attached to such membership as set forth in the articles of incorporation and bylaws of this association. The amount returned, if any, to the patrons at the close of each fiscal period shall be the gross returns from the sales, less the following deductions. a. For current operating expenses. b. For maintenance fund to be used in payment of taxes, insurance, interest and similar maintenance expenses; also for a reasonable reserve for depreciation of the physical property of the association. c. At least ten per cent (10%) of the annual net income shall be set aside1275 as a permanent surplus until such reserves shall equal the paid up capital. d. An educational fund of two per cent (2%) of the annual net income shall be set aside to promote cooperative education. e. For dividends on capital stock. Under the Minnesota law (P7, ch. 382, Laws of 1919, as amended by ch. 23 of the Laws of 1919 and ch. 326 of the Laws of 1923) distribution of the undivided surplus of a cooperative association is required to be made annually on the basis of patronage. The directors are required to present to the stockholders at their annual meeting a report covering the operations of the association during the preceding fiscal year, together with a financial statement of its resources and liabilities which "shall indicate the amount of undivided surplus available for distribution as patronage refund." Interest on the paid-up capital may be paid only when the net income of the association for the previous fiscal year is sufficient and the directors may not at any time authorize the payment of more than 6 percent per annum on the paid-up capital stock. Petitioner's "gross income" for the year 1936, as such term is defined by the Minnesota statutes, supra,1276 was $71,574.36. Pursuant to appropriate resolution of the board of directors interest upon the paid-up capital stock at the rate of 5 percent and amounting to $4,413.26 was authorized and paid and a reserve was set up for income tax in the amount of $3,560. At a regular monthly meeting of the board of directors held on December 18, 1936, it was resolved that $10,000 be set up in permanent surplus, $5,000 be allocated to "Patrons' Equity Account," and the balance of the net earnings be available for distribution. On December 31, 1936, a $5,000 credit was made by petitioner to an account in its general ledger entitled "Patrons' Equity Reserve." 828 In the latter part of May 1937 petitioner allocated its earnings available for distribution to its members on the basis of the business transacted by them, the allocation including both the remaining net earnings aggregating $48,601.10 and the $5,000 in the "Patrons' Equity Reserve" account. It was ascertained that each patron was entitled to receive in cash .1769 times the net profit on its sales and to have set aside for its benefit on the books of the association a portion of the $5,000 placed in the reserve equivalent to1277 .01824 times the net profit on its sales. The first mentioned amounts, aggregating $48,601.10, were paid to the patrons and the last mentioned amounts, aggregating $5,000, were credited to them on petitioner's books. At the annual meeting of the association held on the 8th and 9th of June 1937, the action of the board of directors with relation to the disposition of the 1936 earnings was approved. During December 1937 a form letter was sent to each member patron advising it as to the amount of credit which had been made to its account in connection with the "Patrons' Equity Reserve." Petitioner's "gross income" for the year 1937 as such term is defined by the Minnesota statutes is not shown. Its earnings, after the payment of interest, income tax, and kindred items, were $58,673.43. At the regular monthly meeting of petitioner's board of directors held on November 22 and 23, 1937, it was resolved that petitioner "present at the district meetings for approval of the delegates that 50% of the earnings for 1937 be put in patrons' equity reserve and that the other 50% be applied to patrons' common or preferred stock, based on patronage." Another motion was adopted at this meeting1278 of the board providing that if the contemplated action should not meet with the approval of the delegates to the district meetings then "the management be instructed to set up 50% of the earnings for 1937 in permanent surplus and 50% in common and preferred stock, based on patronage." All of the ten districts, during the month of December 1937, adopted resolutions approving the plan or contemplated action of paying 50 percent of the earnings to the patron members in cash and putting the other 50 percent of the earnings in the "Patrons' Equity Reserve" account. Thereupon, following an audit of petitioner's books and as of December 31, 1937, petitioner set aside in its "Patrons' Equity Reserve" account $29,336.72. During the early months of 1938 petitioner allocated its earnings available for distribution to its members on the basis of business transacted by them, the allocation including both the $29,336.71 payable in cash and the $29,336.72 in the "Patrons' Equity Reserve" account. It was ascertained that each patron was entitled to receive in cash .008 times the grand total of the net business transacted with it 829 and to have set aside on the books of the association, 1279 as its share of the reserve, an additional amount equivalent to .008 times the grand total of the net business transacted with it. The first mentioned amounts, aggregating $29,336.71, were paid to the patrons and the last mentioned, aggregating $29,336.72, were credited to them on petitioner's books. At the annual meeting of the association held on June 14, 1938, the action of the board of directors with relation to the disposition of the 1937 earnings was approved. At the annual meeting on June 14, 1938, the following new bylaw was adopted: ARTICLE VIII (Certificates of Patrons' Equity Reserve) Certificates of Patrons' Equity of the Association reserve may be issued to patrons to evidence the patrons' interest in such earnings of the association, which have been distributed on the basis of patronage and have been annually determined by the Board of Directors or members to be withheld in the assets of the association until such time as the Board of Directors in their discretion may decide to redeem. Such certificates of Patrons' Equity Reserve may contain the following provisions: A. They must be redeemed in order of priority both as to date and number. B. Must be1280 subject to Articles of Incorporation and By-Laws. C. Interest may be paid at the discretion of the Board of Directors but Rate of Interest may not exceed 4 per cent. D. Notice of intention to redeem any certificate must be mailed to each holder, and interest, if any paid, will cease to accrue from date of notice. E. The Association may deposit in trust in any reliable bank or trust company any or all funds provided for redemption of such certificates to be delivered thereto for redemption. F. In case of liquidation, winding-up or dissolution, such certificates shall be paid only after all corporate liabilities (including the liabilities arising from the issuance of Preferred Stock by this association, by [but] excluding its liability arising from the issuance of Common Stock) have been paid in full. On or about December 23, 1938, a form letter was sent to each member patron, advising it of the amount of its credit to the patrons' equity reserve account for the year 1937, and also setting forth the amount of the previous credit for the year 1936. The form letter is as follows: At the annual meeting of the Midland Cooperative Wholesale held in Minneapolis, Minnesota, 1281 June 13-14, 1938, the following resolution pertaining to the distribution of the 1937 net earnings was adopted: "WHEREAS, at the December 1937 Quarterly Meetings of all ten districts of the Midland Cooperative Wholesale approved a resolution of the Midland Board of Directors providing for the disposition of the net earnings for 1937; "THEREFORE, BE IT RESOLVED, that the Board's recommendation be and hereby is adopted by this Twelfth Annual Meeting of the Midland Cooperative Wholesale; viz., that fifty (50) percent of the net earnings be placed in Patrons' Equity Reserve, and the other fifty (50) percent be applied toward patrons' common and preferred stock on the basis of patronage." 830 On the basis of the above action we have set aside as a credit to your account in the Patrons' Equity Reserve - for the year 1937 the amount of $ ;for the year 1936 the amount of $ ;total amount set aside in the Patrons' Equity Reserve $ .The amount due you in the Patrons' Equity Reserve may be issued to you in the form of certificates as provided in Article VIII of the Midland CooperativeWholesale By-Laws. At the time of the hearing most of the1282 amounts which had been credited by petitioner to its members in connection with the patrons' equity reserve were still held by it. In 1939 one of its members was liquidated and in 1940 one was placed in receivership. In each instance request was made that petitioner apply the amount which had been credited to the member against its indebtedness to petitioner. This was done after approval by petitioner's board of directors. Inthe first instance petitioner was thus enabled to collect $1.06 and in the second, $91.99. The remaining amounts credited to the members as shown above are still held by petitioner. Petitioner's books are kept and its returns are filed on the accrual, as distinguished from the cash, basis. OPINION. MELLOTT: The Commissioner determined that the amounts credited by petitioner to its members and held in its "Patrons' Equity Reserve"account are not deductible from its gross income for the taxable years. Whether this determination is or is not correct is the first issue to be determined. Both parties recognize that there is no specific statutory provision for the deduction of patronage dividends from the gross income of a cooperative association. The Treasury1283 Department, however, as pointed out in Fruit Growers Supply Co.,21 B.T.A. 315">21 B.T.A. 315, 326; affd.,56 Fed.(2d) 90, with "great liberality", has allowed such deductions "to the end that substantial justice may be done to an association which is engaged in cooperative marketing or purchasing work but which may not be exempt from taxation." The justification for the ruling rests upon the fact that the so-called dividends are in reality rebates upon the business transacted by the association with its members rather than true income to the association. Respondent, in determining the deficiency, correctly allowed the deduction of the amounts paid in cash by petitioner to its members, based upon the business transacted by them in each year, though payment was not made of such amounts until the following year. Heconcedes that a definite liability to make such payments - clearly a 831 prerequisite to their deduction - arose during the taxable years. HomeBuilders Shipping Association,8 B.T.A. 903">8 B.T.A. 903; 1284 Anamosa FarmersCreamery Co.,13 B.T.A. 907">13 B.T.A. 907; Farmers Union Cooperative Association,13 B.T.A. 969">13 B.T.A. 969; Farmers Union State Exchange,30 B.T.A.1051, 1066. As to the amounts credited by petitioner to its members upon its books and not paid over to them during the following year respondent takes a different position. Pointing to some of the corporate records received in evidence, especially the minutes of the directors' meetings and the minutes of the annual meetings, he argues that they show petitioner was in need of working capital and that the members recognized the necessity of either borrowing it or raising it among themselves; that this could be, and was, accomplished by the members leaving a substantial portion of their dividends with petitioner; that the so-called reserve was not a true reserve, but an allocation of a part of petitioner's undivided surplus made in the hope of avoiding income tax; that setting aside a portion of its income in such an account "was contrary to, or at least not provided for by, the state law, petitioner's Articles of Incorporation and its by laws"; and that additional corporate action is required to be taken before1285 petitioner becomes under any liability to pay to its members the amounts set aside. The evidence does indicate that petitioner was in need of working capital and that the membership desired to aid it in getting out of debt by leaving a portion of their dividends with it. It is also true that at least petitioner's directors knew all earnings placed in "permanent surplus" would be included in its gross income in computing the amount of its income tax. The motive of petitioner and its members does not seem to be very material to the present controversy. It is important to determine, however, whether the action taken was in violation of state law or charter provisions and whether additional corporate action is required before petitioner is under any definite liability to make payment; so these questions will now be considered. Petitioner's articles of incorporation and bylaws follow quite closely the provisions of the Minnesota state law. Both provide for the deduction of operating costs, the setting aside of a reserve for depreciation, and the creation of a reserve against other possible losses. Both require that there be deducted an amount sufficient to pay interest on the paid-up1286 capital of the association. The by laws provide for the payment of interest at not to exceed 5 percent per annum. The state law authorizes the payment of interest at a rate not in excess of 6 percent per annum. There may also be deducted and set aside such amounts as may be required to provide for the 832 erection of new or additional buildings or for additional machinery or equipment. Provision is also made for "creating a reserve for permanent surplus." The balance of the net income, in the language of the state statute, is to "be considered and termed as 'undivided surplus' for such fiscal year and shall be available for distribution among the members of such cooperative association on the basis of patronage." Distribution of the undivided surplus is required to be made annually on the basis of patronage during the preceding fiscal year. It is true that neither the state law nor petitioner's articles of incorporation and bylaws, at least prior to the annual meeting of 1938, specifically referred to a patrons' reserve account. The "undivided surplus," however, clearly belonged to the members or patrons and, both under the law of the state and under petitioner's bylaws, 1287 was required to be distributed to them annually on the basis of patronage. While the setting aside of a portion of such amount is not specifically authorized, there is nothing in the state statute or the bylaws prohibiting such action being taken. We are therefore of the opinion that when petitioner, with the consent and knowledge of its members, set aside a portion of its earnings in a reserve account and allocated it among them, it did not violate any provision of the state law or actin violation of its charter provisions. The next question is whether additional corporate action is required to be taken before petitioner becomes under a definite liability to pay to its members the amounts set aside to their credit. Petitioner points out that the amounts to be paid forth with to its members in cash and the amounts to be held in reserve were both authorized at the same time and by the adoption of one resolution; that both were allocated to the members at the same time and entered upon the corporate ledger as credits; and that both were computed upon the business transacted with the association. It argues, therefore, that both were properly accrued as liabilities upon its books. 1288 We agree with petitioner. In our opinion all necessary steps were taken in the taxable years to obligate petitioner to pay the earnings over to its members. The resolutions of the board of directors recognized that the entire amounts - $53,601 in 1936 and $58,673.43 in 1937 - belonged to the members. The statutes and the bylaws so provide. If any other disposition of such earnings had been made - other than putting them in permanent surplus - the directors would have committed an unlawful act, which under the statutes of Minnesota would have been "cause for the cancellation of the charter." The amounts in question were not put in permanent surplus. They were allocated to the members, though held in reserve. Moreover, though perhaps wholly unnecessarily, the directors sought and secured the approval of the membership 833 at the annual meetings of their action in withholding the portion of the earnings which had been set aside for them, and, in connection with the earnings for 1937, such approval was also secured during the month of December and before the end of the taxable year of the action then contemplated - i.e., that 50 percent be paid in cash at once and 50 percent1289 be placed to the credit of the members and be held in reserve. Respondent places considerable reliance upon the new by law adopted at the annual meeting in 1938 which, he says, indicates that petitioner was under no definite liability to pay the amounts credited upon its books to its members unless it should choose to do so. Herelies particularly upon the last sentence of the bylaw, which provides that "in case of liquidation, winding up or dissolution, such certificates shall be paid only after all corporate liabilities (including the liabilities arising from the issuance of preferred stock but excluding its liability arising from the issuance of common stock) have been paid in full." This, he says, indicates that unless some definite corporate action is taken prior to the liquidation or dissolution of petitioner, the members will receive the credits which have been made to their respective accounts only in the event all corporate liabilities shall have been paid and all preferred stock redeemed. Petitioner, in its reply brief, argues that the new bylaw is immaterial to the present issue and that no corporate action taken during a succeeding year can add to, or detract from, 1290 the rights and obligations of the petitioner and its members which had come into being by virtue of corporate action previously taken. There is considerable substance to petitioner's argument. We are of the opinion, however, that if the bylaw is to be considered, still it does not have the effect that respondent contends it has. It recognizes that the amounts set aside and credited to the members belong to them, that interest must hence forth be paid, and, in the event of liquidation or dissolution of the cooperative, that the members shall have the rights of general creditors. No additional action is required to be taken by the corporation to create such liability. It is apparent we are of the opinion respondent erred in holding that the amounts credited to the members must be included in petitioner's income. One additional reason for so holding may be given. Petitioner's books were kept upon an accrual, as distinguished from a cash, basis. All events occurred within the taxable years determining the liability of petitioner to its members and the amounts thereof. 1291 United States v. Anderson,269 U.S. 422">269 U.S. 422. The fact that the entries could not be made upon petitioner's books until its audit of the year's business was completed is unimportant and does not deprive it of its right to accrue all proper items in closing its books 834 for the year. It accrued upon its books, and showed as accounts payable upon its balance sheet, the amounts credited to its members. This action was in accordance with the corporate resolutions adopted by it in December of each year. The amounts so credited, in our opinion, could have been withdrawn by the members at any time. In at least two instances they were, in effect, withdrawn. As shown in our findings, they were applied by petitioner in liquidation of the members' accounts. Respondent cites an unpublished memorandum opinion of this Board holding that amounts set aside in an account entitled "Reserve for Working Capital" by a cooperative association organized under the laws of Idaho are not deductible as patronage dividends. Thecited decision has now been affirmed by the Circuit Court of Appealsfor the Ninth Circuit. 1292 Cooperative Oil Association, Inc. v. Commissioner, 115 Fed.(2d) 666. An examination of the opinion of the court discloses that the taxpayer, as provided in its bylaws, had set-aside a substantial portion of its earnings "to create a reserve or reserve funds necessary to provide working capital." In the letter to its members it stated that "as rapidly as our reserves accumulate these earnings will be released and disbursed to you as patronage dividends." The reserve established by the taxpayer in the cited case was similar to the "permanent surplus" set aside by petitioner in the instant proceeding rather than to the amounts set aside by it in the patrons' equity reserve account and credited to its members. Additional corporate action was required before it was available to them. This fact distinguishes the cited case from the present. We are of the opinion and hold that respondent erred in including the amounts in issue in petitioner's income. Petitioner claims an overpayment for each of the years based upon its present assertion that it should be allowed a credit of $18,017.33for the year 1936 and $28,051.41 for the year 1937 under section 26(c)(1) of the1293 Revenue Act of 1936. The petition alleges that these amounts equal the excess of the adjusted net income over the aggregate of the amounts which petitioner could distribute within the taxable years as dividends (for purposes of the surtax on undistributed profits imposed by section 14 of that act) without violating state statutes and the provision of a written contract executed prior to May 1, 1936. The returns were not introduced in evidence. The deficiency notice indicates that the credits now sought were not claimed in the returns. The basis upon which they are claimed is that under the laws of Minnesota petitioner was prohibited from paying dividends in excess of 6 percent per annum and under its charter it was prohibited from paying dividends in excess of 5 percent per annum. 835 Since the filing of briefs the Supreme Court has settled the question now before us. It held that the section relied upon by petitioner "referred to routine contracts dealing with ordinary debts and not to statutory obligations", and that the mere fact that a corporation was prohibited by state law or charter provisions from distributing a portion of its earnings did not entitle it to1294 the credit specified in section 26(c). Helvering v. Northwest Steel Rolling Mills, Inc., 311U.S. 46; Crane-Johnson Co. of North Dakotav. Helvering, 311U.S. 54. While the cited cases completely dispose of petitioner's contention that it is entitled to the credit specified in section 26(c), there are other equally soned reasons why it can not be allowed. The statute merely limits the amount of interest which may be paid upon the paid-up capital. Such interest, for some purposes, is, no doubt,a dividend; but it is questionable, to say the least, whether a statutoryprovision making specific reference to "interest" could be construed to include "dividends." It is also not inappropriate to point out that petitioner's contention that the "net income" of a corporation is being "distributed", if sustained, would deprive it of the deduction of the amounts paid to its members or allocated to them upon its books; for such deductions may be allowed only upon the theory that the distributions were rebates upon the business of the members rather than income of the association. Petitioner's claim for the credit it denied. No overpayment in tax has been established. 1295 Other adjustments made by the respondent and not contested by petitioner are approved. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619869/	J. N. Flowers v. Commissioner.Flowers v. CommissionerDocket No. 3539.United States Tax Court1944 Tax Ct. Memo LEXIS 144; 3 T.C.M. (CCH) 803; T.C.M. (RIA) 44263; August 7, 1944144 J. N. Ogden, Esq., 104 St. Francis St., Mobile, Ala., for the petitioner. James L. Backstrom, Esq., for the respondent. TURNER Memorandum Findings of Fact and Opinion TURNER, Judge: The respondent determined deficiencies in income tax against the petitioner of $105.19 and $485.88 for 1939 and 1940, respectively. The only issue presented is whether the petitioner is entitled to deductions of $900 and $1,620 taken by him in those years as traveling expenses. Findings of Fact The petitioner resides at Jackson, Mississippi, and filed his 1939 and 1940 income tax returns with the Collector in that city. The petitioner is an attorney and during the taxable years was employed by the Gulf, Mobile & Northern Railroad and its successor, the Gulf, Mobile & Ohio Railroad. He began the practice of law in Mississippi in 1896. In 1903 he moved to Jackson where he served as assistant attorney general of the State of Mississippi until 1906, when he resigned to enter a law firm in Jackson. Sometime after terminating that connection, he formed a law firm which conducted business in Jackson and which, since 1922, has been known as Flowers, Brown & Hester. The petitioner began representing the 145 predecessors of the Gulf, Mobile & Ohio Railroad in 1906, and from that time until about 1918 or 1920, he "tried cases up and down the road," practically all of them being in Mississippi. His connection from about 1918 or 1920 until 1927 was that of special counsel in Mississippi in which state was located from 80 percent to 90 percent of the company's properties. In 1927 he was elected to the position of general solicitor for the Gulf, Mobile & Northern Railroad by its board of directors. He continued to be elected to that position each year until 1930 when he was elected general counsel. There-after he was annually elected general counsel until September 1940, when, upon completion of the merger of the properties of the Mobile & Ohio Railroad with those of the Gulf, Mobile & Northern and the formation of the Gulf, Mobile & Ohio, he was elected vice president and general counsel. Since 1903 the petitioner and his family have resided in Jackson. They have resided on the same site since 1912, the petitioner having in 1917 and 1918, built the house in which they now reside. The principal office of the Gulf, Mobile & Ohio Railroad is in Mobile where the principal office of the Gulf, 146 Mobile & Northern was also located. When petitioner was offered the position of general solicitor in 1927, he was not willing to accept it if his acceptance required him to move to Mobile. He had established himself in the practice of law in Jackson, had built his own home and had his personal and business connections there and did not desire to move away. Because of that situation, he requested, before accepting the position of general solicitor, that an arrangement be made whereby he could continue his residence in Jackson. As a consequence, an understanding was entered into between him and the railroad company by which he could continue to make his home in Jackson on condition that he pay his traveling expenses between Mobile and Jackson and pay his living expenses in both Mobile and Jackson. This arrangement, which permitted the petitioner to determine for himself the amount of time he would spend in each of the places, continued through the taxable years involved herein, though at times there has been some complaint about the fact that he did not spend more time in Mobile where his office as general counsel in 1939, and as vice president and general counsel in 1940, was located. 147 The petitioner's name has been continued in the name of his law firm but he has not participated in the conduct of its business nor shared $ in its income. The firm has been and continues as division counsel for the railroad company, and the members of the firm discussed with him, when he was in Jackson, any questions relating to railroad business or other matters in which they were interested. The petitioner's employment by the railroad company as general solicitor, and later as general counsel and as vice president and general counsel, did not prohibit him from accepting other legal employment. For a few years following 1927, he had a substantial amount of such employment, but afterwards it became only occasional, and during the taxable years in controversy he had none. While the railroad company provided petitioner with an office in Mobile, it did not provide him with one in Jackson. His law firm furnished him with office space in Jackson, and he used his own office furniture and fixtures, except a typewriter and a desk for his secretary, which were furnished by the railroad company. The petitioner continued to own an interest in the law firm's library, which he used. The railroad148 company furnished petitioner's Jackson office with telephone service, and paid the expenses, while in Jackson, of petitioner's secretary, who usually accompanied him to that city. Before the merger, as well as afterwards, the greater portion of the railroad company's properties was located in Mississippi, and the bulk of the litigation in which the company was involved was conducted in that state. Most of the legal business of the company in Mississippi $ was centered in or conducted from Jackson, but this business was handled by local counsel for the railroad, petitioner's participation being advisory only and no different from his participation in similar business handled by local attorneys for the railroad in other areas and localities. The following is a statement by months during the taxable years in controversy of the approximate number of days petitioner spent in Jackson, in Mobile, and elsewhere, together with the number of trips made from Jackson to Mobile, and from Mobile to Jackson: Trips fromJacksonDaysto MobileinDays Daysand fromJack-inElse-Mobile to1939sonMobilewhereJacksonJanuary20381February162102March111554April1317May14176June132151July155114August2832September21273October2476November133141December15793Total2036696331940January25332February18923March17775April811115May84192June18124July155113August137112September68162October136123November141517December131532Total1681029640149 Generally speaking, the petitioner performed his principal work for the railroad company at its main office in Mobile. However, during 1939 and 1940, he devoted practically all of his time to matters relating to the merger of the properties of the Gulf, Mobile & Northern and the Mobile & Ohio, and since it was left to him where he would do his work, he spent most of his time in Jackson. In connection with the merger, one of the companies was involved in certain litigation in the Federal court at Jackson. and petitioner participated in that litigation. There was no direct route between Mobile and Jackson. Petitioner nearly always went through New Orleans in making the trip between the two points, and at times spent the night there. As he had a railroad pass he paid no train fare but did have to pay seat or berth fare. The railroad company paid all of petitioner's traveling expenses when he went on business trips to points other than Jackson or Mobile, but it paid none of his expenses in traveling between these two points150 or while he was at either of those two points. The petitioner's salary as general counsel in 1939 was $17,000, and as vice president and general counsel in 1940 was $25,536.40. In his income tax returns for 1939 and 1940, the petitioner deducted $900 and $1,620, respectively, as traveling expenses incurred in making trips between Jackson and Mobile, and living expenses while in Mobile. In determining the deficiencies involved herein, the respondent disallowed the deductions. Opinion The only issue involved is whether, under the circumstances presented, the deductions taken by petitioner in the respective taxable years as traveling expenses between Jackson and Mobile and living expenses while in Mobile, come within the provisions of and are allowable under section 23(a)(1) of the Internal Revenue Code, or fall within the provisions of section 24(a)(1), and were properly disallowed by the respondent. Section 23(a)(1), supra, provides for the allowance as a deduction of "traveling expenses (including the entire amount expended for meals and lodging) while away from home in the pursuit of a trade or business," while section 24(a)(1), supra, provides that no deduction shall151 be allowed in respect of "Personal, living, or family expenses." The position of the petitioner is that, for whatever reason that appealed to him, he was free to make his home wherever he saw fit, and he made it at Jackson; that it was necessary for part of his work to be done in Jackson and part of it in Mobile; that this required him to travel between the two places and in doing so he was traveling on business; that under these circumstances the expenditures incurred in traveling between the two cities and for meals and lodging while in Mobile constituted the kind of expenses which section 23(a)(1), supra, provides shall be deductible. Since 1927 the headquarters of petitioner's employers have been at Mobile, where, during that time, they furnished petitioner with an office for the performance of his duties. Having provided him with an office at headquarters, they did not furnish one elsewhere. During this period his employers did not require him to make his home in Mobile and perform all of his work at the office they furnished him, but permitted him to make his home in Jackson and do part of his work there under a special arrangement entered into at petitioner's request 152 and under which petitioner paid his traveling expenses between the two cities and his living expenses while in each. Apparently the employers regarded such traveling expenses as personal expenses of the petitioner which properly should be borne by him since he preferred to continue making his home in Jackson and do part of his work there instead of moving to Mobile and doing all his work at the office which they were providing at their headquarters. So far as disclosed, the petitioner would have been required to bear the expenses of his own meals and lodging if he had moved to Mobile. So apparently his employers considered that since he continued to reside in Jackson, it was proper that he should pay for his meals and lodging while in both Mobile and Jackson. When petitioner traveled on business for his employers to points other than Mobile and Jackson, they paid his traveling expenses. Petitioner's intimation that his employers required him to travel between Jackson and Mobile on business for them at his own expense is refuted by his testimony to the effect that if he had been in Mobile and a matter came up in Jackson requiring him to go there after which he would have had to return153 to Mobile, his employers would have been charged with the expenses of the trip. In support of his position, the petitioner relies strongly on Coburn v. Commissioner, 138 Fed. (2d) 763, and Harry F. Schurer, 3 T.C. 544">3 T.C. 544, in which the taxpayers were allowed deductions for traveling expenses and meals and lodging while away from home. Those cases do not aid the petitioner. The facts in them were materially different from those presented here. In each of those cases the taxpayers had for long periods of years maintained homes and resided in the cities in which they had followed their trade or business. During the taxable years involved, they accepted several short-term or temporary employments at places other than the cities in which they resided which employments required their absence from home. The total time spent away from home in each case was substantially less than a year. The petitioner contends that since he was elected to his employment for only a year at a time, his employment is likewise to be regarded as only short-term or temporary. We think the answer to this is to be found in the fact that he had only one154 period of employment each year and that was for a full and continuous period of twelve months, and he makes no claim that in accepting the positions which he held with the railroad from and after 1927 he did not in fact look upon it as being continuous in character. The situation presented in this proceeding is, in principle, no different from that in which a taxpayer's place of employment is in one city and for reasons satisfactory to himself he resides in another. In such a situation, expenditures incurred by the taxpayer in traveling between the two cities is a personal expense and not deductible. Frank H. Sullivan, 1 B.T.A. 93">1 B.T.A. 93; Mort L. Bixler, 5 B.T.A. 1181">5 B.T.A. 1181; Jennie A. Peters, 19 B.T.A. 901">19 B.T.A. 901; Walter M. Priddy, 43 B.T.A. 18">43 B.T.A. 18. Since, during the taxable years involved herein, the petitioner had no employment aside from that of the railroad companies, and rendered no service to his law firm or to others in Jackson entitling him to income therefrom, we must conclude that the expenditures involved in the instant proceeding represented personal or living expenses, 155 the deduction of which is prohibited by section 24(a)(1), supra. Decision will be entered for the respondent. Footnotes. The days spent elsewhere than in Jackson or Mobile represent time spent in Washington, New York, New Orleans, Baton Rouge, Memphis, and Jackson, Tennessee.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619871/	JOANNE L. SHARON, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent; LISA E. SHARON, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentSharon v. CommissionerDocket Nos. 17288-88; 17410-88United States Tax CourtT.C. Memo 1989-478; 1989 Tax Ct. Memo LEXIS 478; 57 T.C.M. (CCH) 1562; T.C.M. (RIA) 89478; August 31, 1989Harry J. Kaplan, for the petitioners. Jeffrey Heinkel, for the respondent. DINANMEMORANDUM FINDINGS OF FACT AND OPINION DINAN, Special Trial Judge: These consolidated cases were heard pursuant to the provisions of section 7443A(b) of the Internal Revenue Code of 1986 and Rules 180, 181 and 182. 1Respondent determined the following deficiencies in and additions to petitioners' Federal income taxes: TaxableAdditions to TaxDocket No.Year DeficiencySection 666117288-881985$ 861.00 -0-1986$ 7,530.20$ 1,882.5517410-881985$ 877.00 -0-1986$ 7,532.40$ 1,883.10480 The issues for decision are: (1) whether petitioners owned an interest in various properties for Federal income tax purposes, and (2) whether petitioners are liable for additions to tax for substantial understatements of income tax under section 6661. Some of the facts have been stipulated. The stipulations of fact and accompanying exhibits are incorporated by this reference. FINDINGS OF FACT Both petitioners resided in Saratoga, California, at the time they filed their petitions. Petitioner Lisa Sharon was born December 7, 1966. Petitioner Joanne Sharon was born April 20, 1968. Petitioners are sisters. In the early 1970's, petitioners' father, Joel Sharon (hereinafter Mr. Sharon) embarked on a plan to transfer wealth from himself to his minor daughters. His intent was to build up a portfolio for them which they could use for their benefit later in life. The first asset Mr. Sharon transferred to his daughters was a percentage of his interest in 11-12 Realty Co., a partnership (hereinafter the partnership). The partnership owns a warehouse and trucking terminal in Brooklyn, New York. Mr. Sharon's father managed the partnership. Mr. Sharon, as well as his brother, 481 originally obtained their partnership interests from their father. Initially, Mr. Sharon had a 1/8 interest in the capital and net profits of the partnership. On December 31, 1970 Mr. Sharon assigned to each of his two daughters 1/4 of his interest in the partnership. On January 1, 1971, Mr. Sharon assigned his remaining interest in the partnership to his daughters. The method Mr. Sharon chose to assign his interest in the partnership to his daughters was to assign the interest to himself as the natural guardian of their property. Mrs. Sharon, petitioners' mother, consented to the transfers. 2482 After the January 1, 1971, assignment, each petitioner held a 1/16 interest in the 11-12 Realty Co. partnership. The partnership generated income over the years including the taxable years in issue. The following table shows how much income each petitioner reported from the partnership on her Federal income tax returns (each petitioner reported an identical amount): TaxableOrdinaryTaxableOrdinaryYearIncomeYear Income1973$ 1,703.001980$ 3,139.001974$ 1,217.501981$ 3,045.001975$ 2,049.001982$ 3,022.001976$ 2,336.001983$ 3,537.001977$ 2,137.001984$ 5,380.001978$ 2,338.001985$ 7,018.001979$ 2,295.501986$ 2,034.00In addition, petitioners each reported a net section 1231 gain of $ 63,578 and a taxable capital gain of $ 25,431 for the taxable year 1986 from the partnership. Income for the years 1971 and 1972 are not listed because returns were not prepared for those years. Mr. Sharon deposited his daughters' partnership income in separate bank accounts opened for them. The bank accounts were in Mr. Sharon's name. As the funds began to accumulate in the bank accounts, Mr. Sharon used some483 of the funds to purchase real property. The first property purchased was an apartment building referred to as "Fairchild Drive." It was purchased in December 1976 at a cost of $ 196,137. Mr. Sharon purchased the property 2/3 with petitioners' money and 1/3 his own. The deed was in Mr. Sharon's name. The Fairchild Drive property was sold in January, 1978 for $ 268,773.65 resulting in a gain of $ 72,636.65. Each petitioner reported a gain of 1/3 of that amount or $ 24,212.22 as a long-term capital gain on their 1978 returns. The next real property purchased was referred to collectively as the "Chiquita properties." The Chiquita properties consisted of three parcels; two were single family residences, 290 Chiquita and 310 Chiquita, and the other was a 12-unit apartment building, 300 Chiquita. These three properties were purchased in April, 1978. Mr. Sharon purchased the properties with petitioners' money, his own money and money from two additional investors, George Leder and Tod Spieker. George Leder had a 1/16 interest in the properties, Tod Spieker had a 1/8 interest in the properties, and petitioners each had a 27.0833 percent interest, as did Mr. Sharon. Mr. Sharon was484 the only investor listed on the deed. The three Chiquita properties were sold separately. The 310 Chiquita property was sold in June, 1980. Its basis was $ 25,543. The amount realized from the sale was $ 83,711, resulting in a gain of $ 58,168. Petitioners each reported 27.0833 percent of that amount or $ 15,753 on her 1980 return, as long-term capital gain. The 12-unit apartment, 300 Chiquita, was sold in December, 1980. Its basis was $ 153,259. The amount realized from the sale was $ 337,060 for a gain of $ 183,801. Petitioners reported this as a long term capital gain on the installment method. 3 Accordingly, petitioners each reported a long-term capital gain of $ 12,431 for the taxable year 1980. Petitioners continued to report income from this sale in later years. The remaining Chiquita property, 290 Chiquita, was sold in February, 1981. Its basis was $ 12,772. The amount realized from the sale was $ 59,038 resulting in a gain of $ 46,266. Petitioners each reported a gain of 27.0833 percent of that amount or $ 12,530 as a long-term capital485 gain. The next property purchased was the "Pamela properties" in 1981. Petitioners each had a 1/3 interest in them, as did Mr. Sharon. However, in 1982 Mr. Sharon adjusted the ownership interests in the properties to reflect the fact that he paid for additional improvements to the properties. After the adjustment, petitioners each had a 22.54 percent interest and Mr. Sharon had a 54 percent interest. The Pamela properties were sold in 1984. Their basis was $ 524,512. The amount realized from the sale was $ 760,520 resulting in a gain of $ 236,008. Petitioners each reported 22.54 percent of that amount or $ 53,149 on their 1984 Federal income tax returns as a long-term capital gain. In 1984 another property was purchased, the "Elm property." Petitioners each had a 25-percent interest in the property and Mr. Sharon had a 50-percent interest. Petitioners claimed proportional operating losses from this property during the years in issue. The property generated the following gains (losses) during the taxable years in issue: 19851986Rents Received$ 114,878 $ 82,968 Expenses(122,249) (150,706) Depreciation(78,492) (82,780) Gain (Loss)($ 85,863) ($ 150,518)Petitioners' ProportionalShare (Each)($ 21,466) ($ 37,630) 486 Petitioners also reported a gain from the sale of a Chiquita property during the taxable year 1985. Petitioners reported on their Federal income tax returns that the Chiquita property was purchased in January, 1983 and had a basis of $ 46,369. Petitioners further reported that the property was sold in December, 1985 and that the amount realized was $ 84,500, resulting in a gain of $ 38,131. Petitioners each reported 27.0833 percent of that amount or $ 10,327 as a long-term capital gain. The Chiquita property also generated income during taxable year 1985 in the following amounts as reported on petitioners' returns: 1985Rents Received$ 19,156 Expenses(10,612) Depreciation(3,780) Gain (Loss)$ 4,764 Petitioners' ProportionalShare (Each)$ 1,191 Because the property was purchased during a different year from the other Chiquita properties, we assume that it was a separate transaction. Mr. Sharon followed the same procedure in purchasing all the properties described herein. He used funds from petitioners' bank accounts along with his own funds to purchase the properties. As previously stated, the funds in petitioners' bank487 accounts initially originated from the earnings of the partnership, but later included profits realized from the sales of the properties. Mr. Sharon was the only owner of the properties listed on the deeds. However, after he purchased the properties, he would assign to petitioners their proportional interests. The method he used to do this was the same as the method he used when transferring his partnership interest to petitioners. He would assign the properties to himself as the natural guardian of his daughters' properties. Mr. Sharon testified that he did not include his daughters' names on the deeds because, as minors, their names on the deeds could cause title problems. Mr. Sharon kept records concerning the bank accounts and the real properties. Unfortunately, most of the records were destroyed in a fire that consumed his and Mrs. Sharon's home in September, 1987. Mr. and Mrs. Sharon never converted the funds held for petitioners to their own use. In fact, in all respects Mr. and Mrs. Sharon treated those funds as petitioners' separate properties. Petitioners used the funds for private high school and private college tuition, camps, foreign travel and other items. 488 Mr. and Mrs. Sharon both testified that petitioners were free to spend the money as they saw fit. Had they not attended the more expensive private schools instead of public schools, petitioners could have used the savings for other expenditures. OPINION Respondent, in his statutory notice of deficiency, determined that petitioners did not own any interests in the Elm property and accordingly disallowed the losses petitioners claimed from it. Respondent further determined that petitioners did not own any interests in the Chiquita property and accordingly disallowed both income generated by it and the gain they reported from its sale. Respondent's determination in his statutory notice of deficiency is presumed correct. Petitioners bear the burden of proving that respondent erred in his determination. Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933); Rule 142(a). The first issue we must decide is whether petitioners owned any interests in the Elm property and Chiquita property for Federal income tax purposes. As a general rule, income is taxed to the person who earns it. Lucas v. Earl, 281 U.S. 111">281 U.S. 111 (1930). With respect to property, he who owns489 it is taxable on the income produced from it. Helvering v. Horst , 311 U.S. 112">311 U.S. 112 (1940). In determining ownership for Federal income tax purposes, we are "not so much concerned with the refinements of title as * * * [we are] with actual command over the property taxed -- the actual benefit for which the tax is paid." Corliss v. Bowers, 281 U.S. 376">281 U.S. 376, 378 (1930). Further, an assignor who "retains sufficient power and control over the assigned property" is treated as the owner thereof for tax purposes. Commissioner v. Sunnen, 333 U.S. 591">333 U.S. 591, 604 (1948). Keeping these general rules in mind, we note that a line of cases has developed holding that a parent, as custodian for his minor child, may accept and hold property in that capacity without being charged as the owner thereof for Federal income tax purposes. In Frank v. Commissioner, 27 B.T.A. 1158">27 B.T.A. 1158 (1933), the taxpayer established brokerage accounts in the names of each of his daughters. Stock which previously had been given to his daughters by the taxpayer and his wife along with subsequent gifts of stock were deposited into the accounts. The taxpayer managed his490 daughters' accounts but never used the accounts other than for the daughters' benefit. Our predecessor, the Board of Tax Appeals, recognizing the common law rule that "when a gift is made to a child the father as natural guardian may take possession and exercise complete dominion and control over the property for his child," 4 found that the taxpayer "was the natural and legal guardian of his minor daughters and his possession and control of the subject matter of the gifts constituted possession and control by the daughters." Frank v. Commissioner, supra at 1164. For that reason the Board did not hold him to be the owner of the accounts for tax purposes. Similarly, in Heller v. Commissioner, 41 B.T.A. 1020">41 B.T.A. 1020 (1940), the Board found that custodial accounts set up by the taxpayer for his minor491 children were the properties of the children. The Board, in reaching that conclusion, stated that a minor is a competent donee and that "it is wholly consistent for a father to look after the property for minor children." Heller v. Commissioner, supra at 1030. In Pettus v. Commissioner, 45 B.T.A. 855">45 B.T.A. 855 (1941) the taxpayer husband and father gave shares of stock to each of his children by endorsing stock certificates over to his wife as their natural guardian. The children were referred to as the "minor donees." He later tried to place their shares in trust. The Commissioner determined that the taxpayer was the owner of the stock. However the Board held that the initial gifts were complete and therefore the trusts were never formed. To reach that conclusion, the Board examined the elements of a gift, inter vivos, which are: (1) A donor competent to make the gift; (2) a donee capable of accepting a gift; (3) a clear and unmistakable intention on the part of the donor to divest himself of title, dominion, and control over the subject matter of the gift; (4) an irrevocable transfer by the donor to the donee, or to someone acting as trustee492 or agent for the donee; and (5) an acceptance of the gift by or on behalf of the donee. [Pettus v. Commissioner, supra at 860 citing Swope v. Commissioner, 41 B.T.A. 213">41 B.T.A. 213 (1940).] The Board, reiterating its rule stated in Heller v. Commissioner, supra, found that the children were capable of taking and accepting a gift and that the mother as natural guardian could accept the gift on their behalf. The Board also stated that whether the donor intended to divest himself of title, dominion and control over the property is a question of fact. The Board then found that the taxpayer had in all respects intended to part with his property. Accordingly, they held he had parted with control. The Board further found that the transfer was irrevocable because the property was to be turned over to the daughters upon their reaching majority. Pettus v. Commissioner, supra at 860. We have reached a similar result in cases where property given to minors is held by a custodian under the Uniform Gifts to Minors Act. In Anastasio v. Commissioner, 67 T.C. 814">67 T.C. 814 (1977) affd. without published opinion493 573 F.2d 1287">573 F.2d 1287 (2d Cir. 1977), the taxpayer, who was one year shy of majority, won $ 100,000 in the New York State Lottery. The proceeds were paid to petitioner's parents under the Uniform Gifts to Minors Act (New York). The taxpayer argued that he was not taxable on the lottery proceeds in the year of receipt because he did not enjoy the benefits of ownership until he reached majority. We held that the taxpayer under the Uniform Gifts to Minors Act was the owner of the lottery proceeds for Federal income tax purposes. Anastasio v. Commissioner, supra at 818. These cases are distinguishable from Helvering v. Clifford, 309 U.S. 331">309 U.S. 331 (1940), because in these cases the custodian or natural guardian held the property for the benefit of the minor and the property became that of the minor upon reaching majority. In Helvering v. Clifford, supra, the Supreme Court held that the settlor of the trust was the owner thereof for tax purposes because he had retained so much control over the res that he never really parted with it. Therefore in order for a transfer of property to a custodian for the benefit of a minor to494 be taxed to the minor, the custodian must regard the property as that of the minor in all respects. In other words, the custodian must do in substance what he is obligated to do in form. See Estate of Applestein v. Commissioner, 80 T.C. 331">80 T.C. 331, 350-351 (1983). Furthermore, it is settled law that a trust set up by a parent for the benefit of minor children will not shift the incidents of taxation to the extent that the income therefrom is used to discharge his obligation of support. Helvering v. Stokes, 296 U.S. 551">296 U.S. 551 (1935). The Court in Helvering v. Stokes reversed the decision of the Third Circuit per curiam based on its decision in Douglas v. Willcuts, 296 U.S. 1">296 U.S. 1 (1935). The Court in Douglas held that the taxpayer was taxable on a trust set up for the benefit of his ex-wife as required in their divorce decree. Finding that the taxpayer had a legally enforcable support obligation to his ex-wife, the Court reasoned that the taxpayer had not altered the situation by forming a trust to satisfy his support obligation. The Court, in so holding stated: The creation of a trust by the taxpayer as the channel for the application495 of the income to the discharge of his obligation leaves the nature of the transaction unaltered. Burnet v. Wells [289 U.S. 670">289 U.S. 670 (1933)]. In the present case, the net income of the trust fund, which was paid to the wife under the decree, stands substantially on the same footing as though he had received the income personally and had been required by the decree to make the payment directly. [Douglas v. Willcuts, supra at 9.] With regard to gifts to minors, other than a transfer by means of a trust, we think that the principle of Douglas still applies -- namely, that a parent who owes a legally enforceable obligation of support to his children cannot escape taxation on property by transferring it to his children and then using income from the property to discharge his support obligation. To the extent so used, the transfer will be disregarded and the incidents of taxation with respect to the property will remain with the parent. See Miller v. Commissioner, 2 T.C. 285">2 T.C. 285, 288 (1943). See also Estate of Chrysler v. Commissioner, 44 T.C. 55">44 T.C. 55, 68 (1965) revd. without reaching this issue 361 F.2d 508">361 F.2d 508 (2d Cir. 1966)496 (where we held that to the extent custodial property could be used to discharge the decedent's support obligation it was includable in his gross estate under section 2036(a)). Turning to the cases before us, we must decide whether petitioners owned an interest in property that respondent determined they did not. In deciding whether petitioners owned any interests in the Elm property and Chiquita property, we will analyze all the properties bought and sold because the two properties in issue are but a part of a whole series of transactions. The method used to purchase all the properties was the same and the funds came from the same sources, the partnership and the properties previously sold. It is interesting to note that respondent disallowed petitioners' ownership in the Elm property and the Chiquita property but did not for either year in issue reduce the interest generated by the bank accounts or the income or capital gains generated by the partnership even though all those assets were held for petitioners by Mr. Sharon in a similar arrangement. Prior to 1984, there was in effect in California the Uniform Gifts to Minors Act, Cal. Civ. Code section 1154497 et seq. (West 1982). 5 Among other things, that Act allowed an adult person to make a gift of a security not in registered form to a minor by delivering it to an adult person other than the donor, a guardian of the minor or to a trust company, accompanied by a statement that the gift was given to the minor under the California Uniform Gifts to Minors Act. Cal. Civ. Code section 1156(a)(2) (West 1988). A security includes an interest in a partnership. Cal. Civ. Code section 1155(o) (West 1982). A similar rule applies to a gift of real estate. Cal. Civ. Code section 1156(a)(5) (West 1982). In the instant case, Mr. Sharon made no effort to comply with the Uniform Gifts to Minors Act. Indeed, with regard to the partnership interest, a donor cannot donate the property to himself as custodian for the minor. Cal. Civ. Code section 1156(a)(2) (West 1982). Furthermore, he could not have transferred498 the property to himself as guardian of the minors because the term "guardian" in Cal. Civ. Code section 1156(a)(2) does not mean natural guardian. 1966 Uniform Gifts to Minors Act, comment to section 1(h), 8A U.L.A. 317 (1983). The California Uniform Gifts to Minors Act is not the exclusive method for making gifts to minors. Cal. Civ. Code section 1163(b) (West 1982). In California, a parent is the natural guardian of his children. In Re Rose, 171 Cal. App. 2d 677">171 Cal. App. 2d 677, 340 P.2d 1045">340 P.2d 1045 (1959),; Turner v. Turner, 167 Cal. App. 2d 636">167 Cal. App. 2d 636, 334 P.2d 1011">334 P.2d 1011 (1959). As such, a parent can accept property on behalf of his child. Spitler v. Kaeding, 133 Cal. 500">133 Cal. 500, 65 P. 1040">65 P. 1040 (1901). In the present case, Mr. Sharon transferred his partnership interest to his daughters by accepting the interests as their natural guardian. He held the property for their exclusive benefit. Neither he nor his wife ever converted the income from the partnership to their own use. Mr. Sharon then used the money from the partnership to purchase properties on behalf of petitioners, again holding the property himself as natural499 guardian for his daughters. The process continued throughout the purchase and sale of many properties. After each sale of property, Mr. Sharon would split the profits according to each person's ownership interest. He deposited petitioners' proportionate profits into bank accounts held for them. He also used the profits to purchase additional properties for petitioners. It was Mr. Sharon's intent to build a portfolio for his daughters. The purchase and sale of these properties along with the partnership income is the means he used to accomplish this goal. Mr. Sharon dutifully reported petitioners' share of the income and gains on petitioners' Federal income tax returns from taxable year 1973 up through the taxable years in issue. Mr. Sharon testified that he did not put petitioners' names on the deeds because that could cause problems with marketable title. This is a well-founded fear because a person can generally disaffirm contracts made during minority. If Mr. Sharon had wanted a fiduciary to manage petitioners' property without burdensome legal restrictions and wanted to avoid marketable title problems, he should have utilized the Uniform Gifts to Minors Act. However, 500 he did not. He instead held the property for his daughters as their natural guardian. We have recognized the right of a father to do so. Pettus v. Commissioner, supra.Based on the foregoing we find that Mr. Sharon did not retain "control" over petitioners' interest in the properties such that he would be deemed the owner thereof for Federal tax purposes. Accordingly, petitioners owned their interest in the properties in question for Federal income tax purposes. Our analysis is not yet complete. We must now decide whether petitioners used any of the funds in question for support items. To the extent the property transferred from Mr. Sharon to petitioners was used for support, Mr. Sharon will be viewed as the owner thereof. Douglas v. Willcuts, supra.What constitutes support is necessarily a state law question because it is state law which creates the support obligation of parent to minor child. In California "The father and mother of a child have an equal responsibility to support and educate their child in a manner suitable to the child's circumstances, taking into consideration the respective earnings or earning capacities501 of the parents." Cal. Civ. Code section 196(a) (West Supp. 1989) [formerly section 196 (West 1982)]. This duty continues for any unmarried child until that child reaches age 19 or completes the 12th grade, whichever occurs first. Cal. Civ. Code section 196.5 (West Supp. 1989). 6 A civil action may be maintained on behalf of the child to enforce a parent's support obligation. Cal. Civ. Code section 196a (West 1982). Neither the Civil Code nor case law defines exactly what are support items. Clearly, college tuition expenses are not support items because the support obligation does not extend past the 12th grade. See Jones v. Jones, 179 Cal. App. 3d 1011">179 Cal. App. 3d 1011, 225 Cal. Rptr. 95">225 Cal. Rptr. 95 (1986). Furthermore, we do not think that items which are clearly luxury items, such as European teen tours, are support items. However, whether private high school tuition is a support item is a much closer question. In Stone v. Commissioner, T.C. Memo. 1987-454, affd. without502 published opinion 867 F.2d 613">867 F.2d 613 (9th Cir. 1989), we considered whether a private high school education was an item of support in California. 7 We concluded that the California courts used the following factors in determining whether a parent is obligated to send his child to a private high school: If a child had special needs that would only be met by a private school, that would be an item of support. Similarly, if a child had been attending a private high school prior to a divorce, continuing the private education could be an item of support. Also important in determining whether private high school tuition is a support item are the parents' financial ability to pay tuition and the background, values, and goals of parents and child. In the instant case, Mr. Sharon transferred the partnership interests to petitioners when they were infants. The property503 transactions continued throughout petitioners' childhood. The bank accounts generated interest throughout petitioners' childhood. It cannot be said that Mr. Sharon transferred the property for the specific purpose of using it to pay petitioners' private high school tuition. In fact, Mr. Sharon testified that the money was petitioners' to do with as they pleased. Had they not used the money for private high school tuition, they could have used it for other things. There is no indication that Mr. Sharon ever used petitioners' money for basic support items such as food, clothing, shelter, etc. It appears that petitioners spent the money on luxury items. Petitioners also spent the money on expensive private high school tuition. For the foregoing reasons, and based on the facts and circumstances peculiar to these cases, we find that in these cases petitioners' money was not used to discharge Mr. and Mrs. Sharon's obligation of support. Accordingly, no part of the income from petitioners' interests in the properties will be deemed to be that of the parents. The income and loss from petitioners' interests in the Elm property and Chiquita property are properly taxable to them. *504 The second issue we must decide is whether petitioners are liable for an addition to tax for substantial understatement of income tax under section 6661. Section 6661 provides for an addition to tax of 25 percent of the amount of underpayment attributed to a substantial understatement of income tax for any taxable year. Pallottini v. Commissioner, 90 T.C. 498">90 T.C. 498 (1988). There is an understatement of tax if the amount of tax required to be shown on the return exceeds the amount of tax actually shown on the return. An understatement is substantial if it exceeds the greater of 10 percent of the tax required to be shown on the return, or $ 5,000. In these cases the addition to tax does not apply because we have found petitioners did not understate their tax liability. Decisions will be entered under Rule 155. Footnotes1. All subsequent section references are to the Internal Revenue Code of 1954, as amended and in effect for the years in issue, unless otherwise indicated. All Rule references are to the Tax Court Rules of Practice and Procedure.↩2. The following is the language and form Mr. Sharon used in the assignment documents (from the 12/31/70 assignment): Now, therefore, I do hereby give, transfer and assign one-fourth (1/4) or twenty-five percent (25%) of my abovementioned partnership interest in 11-12 Realty Co. to myself as the natural guardian of the property of my daughter Lisa Ellen Sharon; and I do hereby give, transfer and assign one-fourth (1/4) or twenty-five percent (25%) of my abovementioned partnership interest in 11-12 Realty Co. to myself as the natural guardian of the property of my daughter, Joanne Lara Sharon. Dated: December 31, 1970 /s/ Joel A. Sharon Donor - Assignor I hereby accept these gifts, assignments and transfers. Dated: December 31, 1970 /s/ Joel A. Sharon, Guardian Donee - Assignee I hereby consent to these gifts, assignments and transfers. Dated: December 31, 1970 /s/ Ann L. Sharon↩3. We express no opinion as to whether petitioners properly elected to report this gain on the installment method.↩4. Citing: Haynes v. Gwin, 137 Ark. 387">137 Ark. 387, 209 S.W. 67">209 S.W. 67 (1919); Richardson v. Emmett, 61 A.D. 205">61 A.D. 205, 70 N.Y.S. 546">70 N.Y.S. 546 (1901); Spitler v. Kaeding, 133 Cal. 500">133 Cal. 500, 65 Pac. 1040 (1901); Tucker v. Tucker, 138 Iowa 344">138 Ia. 344, 116 N.W. 119">116 N.W. 119 (1908); Moores v. Commissioner, 3 B.T.A 301↩ (1926).5. This act was repealed by Stats. 1984, c. 243, Section 1 and replaced with the California Uniform Transfers to Minors Act, Cal. Probate Code section 3900 et seq.↩ (West 1988).6. Cal. Civ. Code section 196.5↩ was added by Stats. 1985, c. 379 section 1, effective July 30, 1985.7. See also Braun v. Commissioner, T.C. Memo. 1984-285↩ where we held that under the law of New Jersey since a parent had an obligation to send his child to college he also had an obligation to send his child to a private high school if it was appropriate in light of the surrounding circumstances.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619874/	Bernhard Altmann, Petitioner, v. Commissioner of Internal Revenue, RespondentAltmann v. CommissionerDocket No. 26558United States Tax Court20 T.C. 236; 1953 U.S. Tax Ct. LEXIS 171; April 30, 1953, Promulgated 171 Decision will be entered under Rule 50. Petitioner lost his textile plant and the realty in Vienna in 1938 when it was confiscated under Nazi decree during the Anschluss. In 1945, the plant was looted at various times and machinery and merchandise were taken. In 1947, petitioner instituted legal proceedings before the Austrian Restitution Commission to have title to the plant restored. In May 1949, a decree was entered directing the person who had obtained title to the plant to restore it to petitioner in the same condition as it had been on July 31, 1946. Final decree was entered in June 1949, and on September 23, 1949, title to the realty was recorded in the name of the firm of Bernhard Altmann, Ltd. Held, petitioner has failed to prove that under Austrian law the effect of the decree of the Austrian Restitution Court in May 1949 restored petitioner's title to the realty, plant, fixtures, and properties ab initio to March 1938; that petitioner has failed to prove that he owned the realty and plant in question in 1945, as well as the property which was taken from the plant in 1945; and that, therefore, a claimed loss deduction of $ 313,838.87 from 1945 income is 172 not allowable under either section 23 (e), or section 117 (j) of the Code. J. O. Kramer, Esq., and Edward Wallace, Esq., for the petitioner.Charles M. Greenspan, Esq., for the respondent. Harron, Judge. HARRON 236 The respondent has determined a deficiency in income tax for 1945 in the amount of $ 128,324.67. Respondent disallowed a loss deduction taken in the return in the amount of $ 150,000. Petitioner has made claim for deduction in an increased amount, and he now claims that he sustained in 1945 losses in the aggregate amount of $ 313,838.37, resulting from theft and confiscation of property in 1945, located in Vienna, Austria. Petitioner claims that he is entitled to loss deductions under either section 23 (e), or section 117 (j) of the Code.237 The principal issue is whether petitioner was the owner, in 1945, of the property in question. If it is held that petitioner was the owner of the property in question, further issues must be decided which relate to the amount of the loss which is deductible.FINDINGS OF FACT.The facts which have been stipulated are found, and the stipulation is incorporated herein by reference.Petitioner came to the United States in 1941174 as an Austrian refugee and he has resided here continuously since then. He became an American citizen in May 1948. In 1945 he resided in New York and his income was derived principally from executive salaries and earnings of capital invested in the textile manufacturing and distributing business. He filed his Federal income tax return for 1945 with the collector for the third district of New York.In his 1945 income tax return, petitioner took a deduction for a loss from casualty or theft of "merchandise and machinery stolen from plant in Vienna by Russians during the occupation of that city -- estimated -- $ 150,000." The phrase, "plant in Vienna," means a textile manufacturing plant, hereinafter referred to as Texplant, which petitioner built in 1922, and which he operated until March 13, 1938, manufacturing hosiery, sweaters, and other textiles. In his return for 1945, petitioner did not report any income from the operations of Texplant, and he did not claim any losses or deductions in connection with the operation of Texplant other than the alleged $ 150,000 casualty loss which is at issue in this proceeding.In his income tax return for 1950 petitioner, with respect to Texplant, 175 reported deferable income for the years 1946 to 1949, inclusive, pursuant to mimeograph 6475, 1950-1 C. B. 50. He did not report deferable income from the operation of Texplant for 1945.On or about November 24, 1941, petitioner, as a national of a foreign country acquiring residence in the United States after a particular date, executed Report Form TFR-300, Series A, purporting to be an inventory of certain property owned by him. He did not make any reference in the Report Form to Texplant property, or to any portion thereof. The petitioner filed Form TFR-300 with the Secretary of the Treasury of the United States whose function with respect to alien property was subsequently taken over by the United States Department of Justice.Petitioner has been engaged in the business of manufacturing textiles since 1902. When this proceeding was tried he owned textile knitting plants in Texas, United States; Bradford, England; and Vienna, Austria.238 On March 13, 1938, in an act of aggression known as the Anschluss, Austria was occupied and annexed by Hitler and German troops. Petitioner is of the Jewish faith. He departed from Austria in 1938, 6 hours176 before the arrival of the German troops, crossing over the border into Hungary. At that time he left in Austria certain of his property including Texplant.The petitioner's property in Austria was confiscated under the Nazi decree issued in August 1938, confiscating Jewish property in Austria. The property which was confiscated included the realty on which Texplant is located. Two German citizens, Kurt Bagusat and Alfred Boehme, were placed in charge of Texplant in 1938, and they were instructed by the Nazis to operate Texplant in furtherance of the best interests of the Reich. In the discharge of such functions, Bagusat and Boehme were known as "Aryanizers". Boehme left Texplant sometime in 1941.Texplant at all times here material, with such variations as are hereinafter noted, consisted of several parcels of real estate, the factory buildings erected thereon, and the machinery, equipment, materials, and merchandise which were employed in the operation of the plant.Under Austrian law, with exceptions not here applicable, title to real estate may not effectively be transferred without making an appropriate entry in the official, Austrian real estate register known as the Grundbuch. 177 1 Entries were made in the official Grundbuch, with respect to the Texplant realty, insofar as here material, as are set forth hereinafter in the English translation of the entries. These entries show that on August 23, 1938, the right of ownership of Texplant was recorded in favor of the State of Austria; that on January 29, 1942, the right of ownership was recorded in favor of the German Reich; that on July 4, 1942, the right of ownership was recorded in favor of Bagusat; that on March 27, 1946, there was recorded the appointment of a public administrator of Texplant; and that on September 23, 1949, entry was made that on the basis of the decision of May 20, 1949, of the Restitution Commission of Vienna, ownership was entered for the firm of Bernhard Altmann, Ltd. The material entries relating to Texplant, in the Grundbuch, are as follows:DateEntryNot givenOwnership entered in favor of Bernhard Altmann soleowner (purchase contract of November 30, 1921).August 23, 1938Pursuant to the decree of the Secret State Police (GestapoMain Office, Vienna, of June 13, 1938, II E-B#IX 204/38 the right of ownership is entered in favorof the State of Austria.January 29, 1942Pursuant to Article 12, Section 1 of the 1st Ordinancefor the Carrying out of the Ostmark law of June 10,1939, (Law Gazette of the German Reich I, p. 995)and pursuant to Article 2, Section 3 of the 9th Ordinancefor the Carrying Out of the Ostmark Law ofMarch 23, 1940 (Law Gazette of the German Reich I,p. 545) the right of ownership is entered in favor ofthe German Reich (Reich Finance Department).July 4, 1942Pursuant to the purchase contract of April 27, 1942 theright of ownership is incorporated in favor of the firmof Wiener Wollwaren-Werke Kurt Bagusat.March 27, 1946Pursuant to the two decisions of the State Office forIndustry, Commerce, Trade and Traffic, both datedJune 4, 1945, unnumbered, the appointment of a publicadministrator and of a public substitute administratoris entered in connection with this realty.September 8, 1949On the strength of the decision of Federal Ministry forthe Preservation of Property and Economic Planningof July 4, 1949, Number 106,001-6/49 the O Z 5 entryhas been deleted. (Notice of appointment of PublicAdministrator -- March 27, 1946).September 23, 1949On the strength of the partial decision of the RestitutionCommission at the Court for ZRS Vienna of May20, 1949, 52 RK 184/47-23 and the notarial corporatecharter of June 30, 1949, together with the power ofattorney attached hereto of June 17, 1949, the ownershipof property is entered for the firm of BernhardAltmann, Ltd.178 239 Bagusat entered into a contract with the German Reich for the purchase of Texplant on April 27, 1942. He paid 888,000 Reichsmarks for the realty and plant. He paid the consideration for the purchase by the assumption of debts incurred by the Reich in the amount of 888,000 Reichsmarks. On July 4, 1942, Bagusat's purchase was recorded in the Grundbuch as has been set forth above. On October 14, 1944, an entry was made in the Grundbuch indicating the existence of mortgages on Texplant in favor of three relatives of Bagusat. Other liens which had been recorded in the Grundbuch against Texplant in 1942 were canceled by appropriate entries in 1942 and 1944.From the time Texplant was abandoned by petitioner on March 13, 1938, until on or about April 7, 1945, the factory was in active operation. Throughout179 this period production consisted mainly of the manufacture of knitwear and women's ready-made clothes. During the latter part of 1944 and the early part of 1945 some war materials were produced at Texplant. As of a short time prior to April 1, 1945, about 500 persons were employed at Texplant. During the time that Texplant was being operated by Bagusat, machinery was installed in the plant which had not been there as of March 13, 1938.240 In April 1945, Russian troops captured Vienna. On April 5, 1945, Bagusat fled from Vienna. On or about April 9, 1945, the German troops withdrew from the Fifth District of Vienna, in which Texplant is located. As a result of heavy fighting in the vicinity, Texplant closed down completely on April 7, 1945, and it was deserted after April 7 by all but the families of a few employees who occupied living quarters which were provided in one of the factory buildings.On or about April 10, 1945, Josef Kadlec, who had been employed at Texplant since July 11, 1922, and had been its technical manager at all times since 1938, revisited the plant. He noted that substantial quantities of merchandise were being looted from the premises by the civilian180 population and he requested a Russian officer to prevent further pilfering. Sentries were immediately posted and further looting was prevented. On April 11, 1945, Waldemar Benedict, an employee of Texplant since 1941, revisited the factory. On or about that date, Benedict and Kadlec agreed to take steps to recruit the former employees of Texplant and to resume manufacturing operations. They consulted the police commissioner for the Fifth District of Vienna, in which Texplant was located, and were advised to arrange a meeting of employees for the purpose of electing workers' representatives. On May 9, 1945, a meeting of several hundred employees was held at the office of the police commissioner, and eleven workers' representatives were elected. These representatives decided that Benedict and Kadlec should direct the administration of Texplant, and the names of Benedict and Kadlec were formally submitted to the District Chairman, the Austrian Department of Industry and Commerce, the Association of Textile Manufacturers, and a local labor union. In letters sent to the Department of Industry and Commerce and to the District Chairman it was stated that appointment of Benedict and181 Kadlec as public administrators was proposed "until the return of the lawful proprietor Bernhard Altmann."On June 4, 1945, pursuant to the provisions of the Austrian law concerning the appointment of public administrators, 2182 Benedict and Kadlec were appointed public administrator and deputy public administrator, respectively, by the Ministry of Commerce. Their appointments were not recorded in the Grundbuch until March 27, 1946. They continued to act in these capacities until July 4, 1949. Under Austrian law the appointment of public administrators has 241 no effect on the title of the property being administered. 3 Public administrators are directly answerable to the Austrian Government and are required to submit semiannual reports to the Ministry of Trade and Commerce. Receipts of the business during the period of public administration are retained in the business until permanent ownership is determined at which time an accounting is made by the administrators, who incur no personal liability for losses incurred during the period of administration so long as they exercise the diligence of a prudent merchant. 4On or about May 15, 1945, about 70 sewing machines and about 16 automatic knitters used in the manufacturing of stockings were taken from Texplant by the Russians. By the early part of June 1945, Texplant was back in operation. Between June 15 and June 25, 1945, the Russians took additional machinery from the plant. During this period employees were excluded from the premises. As the machinery being removed was heavy, 10 days were required for dismantling and packing. The Russians took about 2,000 dozen woolen stockings which were used for packing machinery. Sometime thereafter an undetermined sum of Austrian Schillings was received by Texplant from the Russians. Benedict and Kadlec protested to the Association of Textile Manufacturers and to the Ministry of Commerce against the Russians' seizure of machinery and merchandise hereinabove mentioned. They were advised by both organizations that nothing could be done about the matter. Benedict and Kadlec were requested183 by Russian officers to authorize the seizure of machinery in writing. Both refused to do so. In July 1945, the Russian troops withdrew from the Fifth District of Vienna. It became, later, a part of the British zone of occupation.After the petitioner left Austria in 1938, he was entirely out of communication with Texplant and with the persons in control thereof until approximately October 1945, when letters passed between petitioner and Benedict and Kadlec. Petitioner advised Benedict and Kadlec that he desired to have production in Texplant begin again; and he requested the making of samples with the idea of selling products in the United States. Petitioner was advised that Texplant lacked the necessary raw materials for production and, also, that employees and their families were greatly in need of food supplies. In 1946 petitioner began sending food supplies and materials to Vienna.Sometime in 1947 petitioner, acting through a Viennese attorney, commenced an action before the Austrian Restitution Commission 5 for the purpose of having title to Texplant restored to him and of 242 recovering from Bagusat damages for alleged losses sustained by Texplant while it was 184 in the possession of Bagusat. This proceeding was brought pursuant to the provisions of the Austrian Third Restitution Law enacted February 6, 1947, by the Austrian National Council. This statute is also known in the English translation as Federal Law, dated 6th February 1947, concerning the Nullity of Acts of Dispossession of Property. It comprises 31 principal articles. The English translation is incorporated herein by this reference. Particularly pertinent articles thereof are as follows:Article 1.Section 1: The subject matter of the present Federal Law is the property of which, during the German occupation of Austria, the owner (beneficiary) -- hereinafter referred to as the "owner" -- has been dispossessed in connection with the accession to power of National-Socialism, either arbitrarily or in virtue of laws or of other measures, especially by law-business or by any other legal transaction.Article 2.Section 1: Dispossession of property within the meaning of #1, subpara (I) shall, in particular, be deemed to have taken place where the owner was liable to persecution by National-Socialism on political grounds, and the transferee fails to show that the transfer185 would have taken place anyhow, independently of the accession to power of National-Socialism.Article 3.Section 1: Acts of dispossession of property (#1, subpara (1) are null and void. Except as otherwise provided in the present Federal Law the rules of the civil law, especially those regarding the nullity of contracts because of unjust and substantial intimidation shall apply.Article 6.Section 3: Without prejudice to the provisions of #5, subpara (2), the dispossessed property shall be restored at least to the extent and in the condition in which it was on the 31st July 1946.Article 15.Section 1: Restitution Board shall have exclusive jurisdiction to decide on any claims arising from anullity [sic] of acts of dispossession of property under the present Federal Law, including indemnity claims between several transferees.Section 2: A Restitution Board shall be established at each of the provincial Courts in charge of the administration of justice in civil matters. The territorial jurisdiction of such Board shall cover the Federal Province in which the Provincial Court is situated. For Vienna, Lower Austria and the Burgenland the Board shall be established186 in Vienna Provincial Civil Court. The jurisdiction of the Board established at the North Provincial Court shall coincide with the territorial jurisdiction of the said Court.243 Section 3: Appelate [sic] jurisdiction shall be exercised by Superior Restitution Boards which shall be established at each of the Superior Provincial Courts of Justice. The territorial jurisdiction of the said Board shall coincide with that of the Provincial Superior Court of Justice at which they are established.Section 4: On a second appeal the Supreme Restitution Board of the Supreme Court of Justice shall decide.In January 1949, petitioner returned to Vienna for the first time since his flight in 1938. His restitution action was then still pending. Petitioner was very anxious to have all clouds on his title to the Texplant property removed as quickly as possible. He therefore instructed his attorney in Vienna to waive the claim for damages against Bagusat so that the desired187 judgment respecting title could be expedited. On May 20, 1949, the Restitution Board in Vienna entered an interlocutory decree designated 52 RK 184/47/20. The translation of this interlocutory decree is incorporated herein by this reference, and the decree will hereinafter be referred to as "the part decision." Pursuant to the part decision Bagusat was directed to restore, -- "restitute" --, Texplant to petitioner, together with all interior equipment, machines, and stores, in the same condition as it had been in on July 31, 1946. Bagusat was further ordered to effect a transfer of the title to the Texplant realty by appropriate entries in the Grundbuch; and to return the property to the petitioner in the same condition as it existed on July 31, 1946. Finally, the part decision directed Bagusat to cancel his name from the commercial register as owner of Texplant, to reenter the name of petitioner as sole proprietor, and to take all other necessary steps in connection with transfer of ownership. The part decision provided that upon Bagusat's failure to comply within a specified time the decree would become self-executing. Pending final settlement of the case, however, petitioner's188 authority with respect to Texplant was limited to that of a public administrator.On June 29, 1949, a final decree was entered by the Restitution Board in Vienna, which decree is hereinafter referred to as the "final decision." The English translation of the final decision is incorporated herein by this reference. Among other things the final decision ordered the cancellation of all mortgages which Bagusat had placed upon Texplant in favor of members of his family. Petitioner's claim against Bagusat for damages was dismissed.On July 4, 1949, the appointment of Benedict and Kadlec as public administrators of Texplant was rescinded and the public administration was withdrawn.On August 9, 1949, the Restitution Commission vacated the limitation imposed upon petitioner restricting his authority over Texplant to that of a public administrator.244 After expiration of the time for taking an appeal from the part and final decisions petitioner applied to the Restitution Commission for a declaratory judgment which would in effect adjudge all title to Texplant, which had its origin in the 1938 confiscatory decree of the Gestapo, to be null and void ab initio. In a decision of 189 the Supreme Restitution Commission, dated March 11, 1950, designated and hereinafter referred to as Rkv 110/50, petitioner's appeal from denial of his motion for such declaratory judgment was dismissed. The English translation of Rkv 110/50 is incorporated herein by this reference. A portion of Rkv 110/50 is set forth in the margin. 6190 On July 26, 1946, the Government of Austria promulgated a new law on public administrators to replace the law rescinded on February 1, 1946. The law of July 26 was not retroactive, but persons appointed public administrators under the rescinded law were permitted to act until the effective date of the new law.On January 5, 1943, the Allied Powers, including the United States and Russia, issued the so-called London Declaration against acts of Nazi dispossession whether in "the form of open looting or plunder, or of transactions apparently legal in the form, even when they purport to be involuntarily effected."The London Declaration was a political declaration of intent which has not been carried out by the Government of Austria because of political and economic difficulties not here material.At the time, on or about April 11, 1945, when Benedict and Kadlec conferred with regard to the future operations of Texplant, both had heard of the London Declaration and in reliance thereon intended to operate Texplant until such time as active control was resumed by petitioner. As of that time Benedict had neither met, spoken to, nor otherwise communicated with petitioner. Under Austrian191 law neither the acts nor the intent of Benedict and Kadlec were effective either to extinguish the title of Bagusat or to restore to petitioner his earlier title.245 The actual fighting in Europe ended on May 7, 1945, with the surrender of Germany. No peace treaty has been signed with Germany to date. The United States never declared war on Austria.Austria was occupied by the Allied Powers (the United States, the Union of Soviet Socialist Republics, France, and Great Britain), following the defeat of Germany. Each power occupied a separate zone, with Vienna being governed by the Joint Allied Commission, which supervises the acts of the Austrian Government. After the defeat of Germany, supreme legislative, judicial, and executive authority and powers within the territory occupied by the Allied Forces were vested in the Supreme Commander of such forces. On January 7, 1946, the Austrian Government was recognized by the United States, but the supervisory authority of the Allied Commission was not disturbed.As the allied military forces took possession of Austrian territory during April and May of 1945, the allied military government issued, progressively, the so-called Ordinance192 No. 4, entitled "Abrogation of Nazi Law" which became effective as of the date such areas became occupied by allied forces. Ordinance No. 4 specifically abrogated the law pursuant to which petitioner's Austrian property was confiscated. Ordinance No. 4 had only prospective effect.Under Austrian law, Bagusat owned the title to Texplant from July 4, 1942, until September 23, 1949. On September 23, 1949, the title to Texplant became vested in Bernhard Altmann upon the recording of title to Texplant in the official record of titles, the Grundbuch. The entry, above described, recited that Texplant having been restored to petitioner pursuant to the part decision, title was entered for the firm of Bernhard Altmann, Ltd., at petitioner's request.The cancellation of mortgages placed upon Texplant by Bagusat in 1942 was ordered by the final decision pursuant to the express provisions of Article 10 of the Third Restitution Law. 7193 Petitioner lost title to Texplant, the contents, and the realty in 1938.The effect of the Third Restitution Law of February 6, 1947, and of the decrees entered in 1949 and 1950 in the proceeding instituted by the petitioner in 1947 under the Restitution Law, was to hold that the vesting of title to Texplant, the contents, and the realty in other persons than the petitioner in 1938 and thereafter, was voidable rather than void ab initio, so that the order in 1949 to restore the property to petitioner did not revest title in him retroactively to 1938, or to any other point of time before or during 1945.246 The provisions of Article 6 (3) of the Third Restitution Law and the part decision, to the effect that Texplant should be restored to petitioner to the same extent and in the same condition as it was in on July 31, 1946, did not, under Austrian law, have the effect of restoring title as of that date but merely fixed that date as a criterion in determining the quantum of the estate to be restored.Title to Texplant, the realty, and the contents of the plant was not, under Austrian law, revested in petitioner at any time during, or prior to, 1945 by reason of the appointment194 of public administrators, or the acts of petitioner, or his agents, or of any person purporting to act on his behalf.Title to Texplant, the contents, and the realty were revested in petitioner after 1945, under the Restitution Law, the decrees entered in 1949 and 1950 in petitioner's suit, and applicable Austrian law, and petitioner was not the owner of the property at any time after August 1938, until 1949.Petitioner did not own in 1945, under Austrian law, the machinery and merchandise in question, which were taken from Texplant in 1945. He did not sustain losses in 1945 of the property in question of the alleged value of $ 313,838.87.OPINION.The chief question is whether the petitioner was the owner of property in 1945 for which he now claims a loss deduction of $ 313,838.87. The loss is claimed under either section 23 (e) (1), or (3), or section 117 (j) of the Code. The applicable provisions of the Code are printed in the margin. 8195 247 The petitioner contends that four classes of property located in Texplant in Vienna were taken or lost in 1945, and that he was, in law, the owner of the properties, so that he sustained the losses in question. The four classes of property and the amounts of the alleged losses are as follows:Class of propertyAmount of loss(a) Pre-1938 machinery allegedly taken by Russians in May,June, 1945$ 74,344.51(b) Machinery acquired after 1938 by Bagusat with funds ofpetitioner allegedly seized by Bagusat by RussiansMay, June, 194552,255.26(c) Merchandise in Texplant taken by Russian in 194520,000.00(d) Merchandise taken by civilians who looted the plantin 1945167,239.10$ 313,838.87Briefly, the petitioner contends that machinery and merchandise in the above amounts were located in Texplant in the spring of 1945, that they were stolen or confiscated by either the Russians who occupied Vienna, or by civilians, that he owned the properties, and that he was not compensated by insurance or otherwise. The petitioner lost Texplant in 1938 but those who had control of Texplant carried on manufacturing operations and made merchandise. 196 Petitioner contends that the records of Texplant contain information from which he can trace back the facts relating to the acquisition of the machinery in question, and the production of the merchandise in question. Upon alleged facts to the effect that the machinery and merchandise were part of the whole property referred to herein as Texplant, and that such machinery and equipment were located in Texplant before the alleged seizures and thefts in 1945, the petitioner devotes a major part of his argument to the proposition that he became revested, retroactively, with the title to Texplant, to the realty upon which it is located, to the fixtures and machinery in the plant, and to inventories of goods in the plant so that he was the owner throughout 1945, and, therefore, is entitled to make claim for loss deductions in 1945 for the purpose of his United States income tax liability. The petitioner makes other contentions which will be referred to hereinafter.248 The broad question whether petitioner owned Texplant and its contents in 1945 depends upon whether under Austrian law a revesting of title to the property in petitioner occurred, and whether under Austrian law the197 revesting of title was retroactive to some point of time before or during 1945. The petitioner has the burden of proof under all issues presented in this proceeding, including the questions relating to Austrian law. Questions of foreign law are questions of fact to be proved by the taxpayer under such issue as is presented here. See: W. J. Burns, et al., 12 B. T. A. 1209, 1224; Columbian Carbon Co., 25 B. T. A. 456, 465; Morris, "Law and Fact," 55 Harv. L. Rev. 1303">55 Harv. L. Rev. 1303; 9 Wigmore on Evidence (3d ed.) par. 2572.If the petitioner is unable to establish by competent proof that he owned the property in 1945 for which he claims loss deductions in 1945, it is unnecessary for us to consider other questions. Therefore, the first issue to be considered is the issue relating to ownership of properties under Austrian law.The respondent contends under the chief issue that the petitioner, under Austrian law, did not own the property in question in 1945 at the time it was taken. He argues that the petitioner has failed to prove the requisite ownership. He claims that under Austrian law, Bagusat was the198 owner of Texplant from the time he purchased it in 1942 until he was ordered to restore it to petitioner under the 1949 decrees. Briefly, the respondent's argument is as follows: That there can be no doubt that in 1938 petitioner lost all his Austrian property, a part of which he now claims he lost in 1945, and that petitioner's loss of property was effective and complete in the year 1938. The respondent points out that the petitioner himself represented in effect that he had abandoned the property, for, in inventorying all his assets wherever situated on Report Form TFR-300, Series A, filed with the United States Treasury Department on November 24, 1941, the petitioner did not report the property located in Austria. The respondent relies upon the rule that the transaction evidencing a loss is completed when property is seized, regardless of the prospects for a future recovery, citing United States v. S. S. White Dental Manufacturing Company of Pennsylvania, 274 U.S. 398">274 U.S. 398. Respondent points out that after Texplant had been confiscated in 1938, it was sold by the German Reich to Kurt Bagusat for 888,000 Reichsmarks, and he argues that under Austrian199 law, Bagusat was the owner of the property during 1945. Under this argument, respondent relies upon the testimony of an expert on Austrian law, Dr. Steefel, whom respondent called as a witness in this proceeding. The respondent argues, further, that Bagusat did not lose ownership of the property in question until 1949 pursuant to the restitution decree.249 The evidence under the ownership issue consists chiefly of English translations of the Third Austrian Restitution Law, of selected excerpts taken from the Austrian Law on Public Administrators, of the Austrian Code of Commerce, of the Austrian Civil Code, of numerous decisions handed down by Austrian administrative agencies which are vested with the function of adjudicating rights and liabilities under the Third Restitution Law and related statutes, and the testimony of expert witnesses, who gave their opinions on questions of Austrian law and the effect of the decrees under the Restitution Law in the litigation instituted by petitioner in 1947. Petitioner called two expert witnesses and respondent called one expert witness. See Havana Electric Railway, Light & Power Co., 29 B. T. A. 1151.200 The narrow question to be decided under the ownership issue is whether the several decrees, entered in 1949 by the Austrian Restitution Commission in the proceeding which petitioner instituted in 1947 under the provisions of the Third Restitution Law of February 6, 1947, had the effect, under Austrian law, of rendering the title of Bagusat, or any other person, to Texplant and to the realty, fixtures, machinery, merchandise, and other property comprising Texplant, void ab initio, or merely voidable.After careful consideration of all of the evidence, we are of the opinion that, under Austrian law, the title to Texplant and to the property comprising Texplant which, between August 23, 1938, and September 23, 1949, was held successively by the State of Austria, the German Reich (Reich Finance Department), and Kurt Bagusat, was a voidable title which effectively cut off petitioner's right of ownership until 1949, when title was restored to petitioner by order in a judicial determination and by the recording of title in petitioner in the record of titles.Texplant was taken away from petitioner pursuant to a confiscatory decree, dated June 13, 1938, which had the full force and effect201 of an Austrian statute. The divestiture became effective as to both the real and personal property comprising Texplant when an appropriate entry was made in the Grundbuch under date of August 23, 1938. Under this entry, title was recorded in the name of the State of Austria. Upon the occurrence of this event, petitioner's loss of title to Texplant was complete and effective for income tax purposes. United States v. S. S. White Dental Manufacturing Company of Pennsylvania, supra.Pursuant to subsequent entries in the Grundbuch, title to Texplant was effectively transferred under Austrian law to the German Reich, and to Bagusat. Against this background the effect of the Third Restitution Law and the several decrees, entered pursuant thereto in the proceedings brought by petitioner, upon ownership of Texplant may be better understood.250 The Third Restitution Law provided that acts of dispossession of property perpetrated in Austria under German occupation are null and void. However, as stated in the decision of the Austrian Supreme Restitution Commission, herein referred to as Rkv 110/50, the nullity of such acts of dispossession is not202 absolute but relative. We understand this to mean that titles acquired through these acts of dispossession are not void ab initio, as petitioner contends, but are voidable. This is made clear in several ways. First, title remains in the "wrongful dispossessor" or those holding title through him, unless and until an appropriate proceeding is brought by the dispossessed owner before the Restitution Commission. Second, the Restitution Commission is vested with discretion to determine ownership in each case brought before it, and, also, to decide claims for damages, mesne profits, and counterclaims for value added to property. When the Restitution Commission determines the various issues before it, it enters a decree which speaks prospectively and not retroactively.The part and final decisions entered in petitioner's proceeding are illustrative of this fact. These decrees ordered Bagusat to restore Texplant to petitioner within a given time in the future and made no mention of any retroactive effect to be given to the decrees. Third, when petitioner sought a declaratory judgment for the purpose of having the title of Bagusat and others holding adversely to petitioner declared203 void ab initio, this relief was denied. Finally, the Civil Code still being the law of the land, title was not restored to petitioner until an entry accomplishing that purpose was made in the Grundbuch. Our conclusions find support both in the testimony of Dr. Steefel, and in the numerous decisions and other authoritative sources of Austrian law to which we have been referred.Dr. Steefel pointed out in his testimony that nothing in the Third Restitution Law or the part and final decrees speaks of retroactive effect. July 31, 1946, is referred to both in the Law and the part decree as the date as of which the quantum, extent, and condition of the property to be restored shall be determined. Clearly this does not mean that Bagusat shall not be deemed owner of Texplant after July 31, 1946, but rather that he is to restore to petitioner following entry of the part decree the same amount of property as that which comprised Texplant on July 31, 1946. Equally clear, we think, is the fact that the merchandise and machinery taken from Texplant in 1945, never having been physically restored to Texplant at any time thereafter, cannot be deemed to be included among the property which204 comprised Texplant as of July 31, 1946. As a corollary, the part decree did not order restoration to petitioner of either the property taken from Texplant in 1945, or its value, the Restitution Commission having expressly denied petitioner's claim for damages.251 Petitioner, on brief, seeks to attack the conclusion expressed by Dr. Steefel, that neither the part decision nor the final decision was retroactive in effect, on the ground that Dr. Steefel allegedly conceded on cross-examination that with respect to the 1942 mortgages placed on Texplant by Bagusat, the final decision had retroactive effect to as far back as 1942. We disagree with petitioner's argument. The sense in which the witness used the word "retroactive" in connection with the ordered cancellation of the 1942 mortgages was not that which petitioner seeks to ascribe to him. Actually, all Dr. Steefel said was that in ordering cancellation of the mortgages, the final decision restored Texplant to petitioner in the same condition, insofar as encumbrances were concerned, as it had been in as of 1938, when the property had been confiscated. The cancellation of the 1942 mortgages was ordered prospectively and205 not retroactively. The final decision refers to Article 10 (2) of the Third Restitution Law as authority for such cancellation. Article 10 (2), in turn, expressly states such "rights in rem" shall cease to exist. This is far from saying that such rights shall be deemed never to have existed.Other questions raised by petitioner under the ownership issue are as follows: (1) Whether the London Declaration of 1943 had the effect of repealing retroactively to the date of enactment, the respective Nazi and Austrian Statutes pursuant to which petitioner's property was purportedly confiscated. (2) Whether Ordinance No. 4, promulgated by the Allied Military Government for the Fifth District of Austria on or about April 10, 1945, was effective prospectively or retroactively insofar as it proclaimed certain confiscatory laws to be null and void. (3) Whether certain acts of Benedict and Kadlec, allegedly performed in behalf of petitioner on or about April 10, 1945, and thereafter, were effective to restore ownership to petitioner prior to the occurrence of the alleged losses.With respect to the London Declaration of 1943, respondent's position, we believe, is well taken. On the record, 206 we have found that the London Declaration was a political declaration of intent on the part of the Allied Powers, including the United States and Russia, which has not been carried out by the Government of Austria. Moreover, we think it clear that Ordinance No. 4 was entirely prospective in effect and in no way nullified transfers of title to Austrian property which were effected pursuant to the Nazi confiscatory laws prior to their abrogation by Ordinance No. 4. If the situation were otherwise it would have been unnecessary for former owners of confiscated property, such as the petitioner, to bring an action under the restitution laws in order to regain title.Property rights are of course generally determined by the law of the place where the property is located. It may therefore be appropriate 252 to observe that in arguing before this Court that the property rights of Bagusat should be disregarded and treated as nonexistent, petitioner is in substance asking us to deny effect to the statutes and decrees of a foreign state relating to matters within the territorial limits of such state. The parties have not argued, on brief, this aspect of the petitioner's contentions, 207 and we find it unnecessary to consider it at any length in arriving at our decision of the general issue. However, we are aware of the doctrine of noninquiry into the validity of acts and laws of foreign states under which it is doubtful whether we can properly fail to give effect, in deciding the question in this proceeding, to the laws and statutes of Austria relating to rights in property in Austria, such as those under which petitioner was divested of title to his property. See Bernstein v. Van Heyghen Freres Societe Anonyme, 163 F.2d 246">163 F. 2d 246, passim (C. A. 2, 1947), certiorari denied 332 U.S. 772">332 U.S. 772; Oetjen v. Central Leather Co., 246 U.S. 297">246 U.S. 297; Ricaud v. American Metal Co., 246 U.S. 304">246 U.S. 304. But see State of Netherlands v. Federal Reserve Bank of New York, 99 F. Supp. 655">99 F. Supp. 655 (S. D. N. Y. 1951); 57 Yale L. J. 108; 47 Col. L. Rev. 1061; and 23 N. Y. U. L. Q. Rev. 311.As an alternative argument, petitioner argues that he was in reality the owner208 of the property in question in 1945 because he had, "effective control." In support of this contention petitioner relies on Rozenfeld v. Commissioner, 181 F. 2d 388. He contends that even though he did not have record title to Texplant in 1945, he "had actual possession and control through his employees, Benedict and Kadlec, at the time of the Russian seizures." The Rozenfeld case is wholly inapposite. There the taxpayer was seeking as a deduction from gross income the amount of an alleged war loss pursuant to section 127 (a) (2) of the Internal Revenue Code. The Court of Appeals for the Second Circuit, in holding the taxpayer not entitled to the deduction, pointed out that although record title at the critical date was in the taxpayer, he had lost effective control which was a prerequisite to ownership. The situation in this proceeding is reversed. Petitioner not only did not have record title at the critical date, but from March 13, 1938, up to and including the last date of the alleged seizures by the Russians, petitioner had not had any contact or communication whatsoever with either Kadlec or Benedict through whom he claims to have established209 "effective control" over Texplant. On the facts, petitioner's contention that he owned the property taken in 1945, under the theory of "effective control" cannot be sustained. Cf. Ervin Kenmore, 18 T.C. 754">18 T. C. 754.The expert witnesses of petitioner disagreed sharply with respondent's expert witness in his conclusions on the point of the retroactivity of the part decree under the Restitution Law. It is their view that 253 Bagusat's title was rendered void ab initio. Consideration has been given to all of the evidence. We come to the conclusion that the opinion of respondent's witness, Dr. Steefel, on the crucial question under the Restitution Law and other Austrian law is well supported by the authorities which he cited.It is held that petitioner did not own machinery and merchandise which was taken from Texplant in 1945 in the alleged value of $ 313,838.87, and that, consequently, he did not sustain losses under either section 23 (e) or 117 (j) of the Code. It follows that other issues presented need not be decided.Decision will be entered under Rule 50. Footnotes1. Article 431, Austrian Civil Code: For the transfer of title of real property it is necessary that the transaction is entered into the public books provided therefor. Such entry is termed "intabulation."↩2. The official documents appointing Kadlec and Benedict as Public Administrators include the following language: "Your attention is drawn to the applicable provisions of the Law regarding the appointment of public administrators and superintendents dated May 10th, 1945, for the rights and obligations arising out of your appointment as Public Administrator." The Law therein referred to was promulgated by the provisional government of Austria. However, it failed to obtain the sanction of Allied Control Commission. As a result, by a special statute dated February 1, 1946, published in the Official Gazette of the Republic of Austria of May 15, 1946, the May 1945 Law was rescinded.↩3. Vol. 22, Official Reports, Supreme Court of Austria, Decisions Nos. 39 and 44 (1949).↩4. OLG, Vienna, June 28, 1949, 2-R-273.↩5. Created pursuant to the Third Restitution Law.↩6. Though it is true that the nullity of deprivations of property as pronounced in Section 3 of the Third Restitution Law, is not absolute, but merely relative, and therefore, conditioned on rescinding of the transaction or action, it is ordinarily not necessary to declare such nullity in the decision made by the Restitution Commission, as repeatedly decided by the Supreme Restitution Commission (R k v 71/48, 78/48 Heller -- Rauscher 81.87), because-aside from the fact that the question of nullity is a preliminary question -- by said decision itself the restitution of the transferred property is already ordered on the basis of the established nullity of the transaction or action.In the case at Bar petitioner was given back, under the interlocutory and the final decisions, all the property he had been deprived of; therefore, he is in a position to acquire possession of the property taken away from him and is not any more interested in such declaration.If petitioner states in addition, that the declaratory judgment with respect to the nullity of the deprivation of property be necessary for reason of legal aspects on matters of duties, taxes and trade-regulations, such opinion cannot be accepted, because the nullity of the deprivation of property is clearly recognizable to the respective authorities by reason of the affirmative decision on restitution.↩7. After providing that certain types of liens, not applicable to the Bagusat mortgages, shall continue in force, Article 10 (2) provides: "(2) All the other rights in rem↩ entered in a priority ranking between the time of dispossession and of restitution shall cease to exist." (Emphasis supplied.)8. SEC. 23. DEDUCTIONS FROM GROSS INCOME.In computing net income there shall be allowed as deductions:* * * (e) Losses by Individuals. -- In the case of an individual, losses sustained during the taxable year and not compensated for by insurance or otherwise -- (1) if incurred in trade or business; or * * (3) of property not connected with the trade or business, if the loss arises from fires, storms, shipwreck, or other casualty, or from theft. * SEC. 117. CAPITAL GAINS AND LOSSES. * * (j) Gains and Losses From Involuntary Conversion and From the Sale or Exchange of Certain Property Used in the Trade or Business. -- (1) Definition of property used in the trade or business. -- For the purposes of this subsection, the term "property used in the trade or business" means property used in the trade or business of a character which is subject to the allowance for depreciation provided in section 23 (l), held for more than the 6 months, and real property used in the trade or business, held for more than 6 months, which is not (A) property of a kind which would properly be includible in the inventory of the taxpayer if on hand at the close of the taxable year, or (B) property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business, or * *(2) General rule. -- If, during the taxable year, the recognized gains upon sales or exchanges of property used in the trade or business, plus the recognized gains from the compulsory or involuntary conversion (as a result of destruction in whole or in part, theft or seizure, or an exercise of the power of requisition or condemnation of the threat or imminence thereof) of property used in the trade or business and capital assets held for more than 6 months into other property or money, exceed the recognized losses from such sales, exchanges, and conversions, such gains and losses shall be considered as gains and losses from sales or exchanges of capital assets held for more than 6 months. If such gains do not exceed such losses, such gains and losses shall not be considered as gains and losses from sales or exchanges of capital assets. For the purposes of this paragraph: (A) In determining under this paragraph whether gains exceed losses, the gains and losses described therein shall be included only if and to the extent taken into account in computing net income, except that subsections (b) and (d) shall not apply.(B) Losses upon the destruction, in whole or in part, theft or seizure, or requisition or condemnation of property used in the trade or business or capital assets held for more than 6 months shall be considered losses from a compulsory or involuntary conversion.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619876/	PAUL A. AND SUSAN G. ACQUISTO, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentAcquisto v. CommissionerDocket No. 6124-90United States Tax CourtT.C. Memo 1991-293; 1991 Tax Ct. Memo LEXIS 339; 62 T.C.M. (CCH) 44; T.C.M. (RIA) 91293; July 2, 1991, Filed 339 Decision will be entered for the respondent. Paul A. Acquisto, pro se. Randall B. Pooler, for the respondent. PETERSON, Chief Special Trial Judge. PETERSONMEMORANDUM OPINION This case was heard pursuant to the provisions of section 7443A(b) and Rules 180, 181, and 182. All section references are to the Internal Revenue Code as amended and in effect for the years in issue. All Rule references are to the Tax Court Rules of Practice and Procedure. Respondent determined a deficiency in petitioners' Federal income tax for the year 1986 in the amount of $ 3,236.00. The issues for decision are (1) whether petitioners are entitled to report a lump sum payment of unused sick leave in the amount of $ 22,729.00 under the 10-year (now 5-year) averaging provisions of section 402(e)(1), and if not, (2) whether the unused sick leave was taxable to petitioner in the year it was earned. Some of the facts have been stipulated. The stipulation of facts and the attached exhibits are incorporated herein by this reference. At the time the petition was filed, petitioners resided in Fort Myers, Florida. Paul Aquisto (petitioner) was employed as a school teacher by the School Board of Lee340 County (School Board) from August of 1967 until his retirement in June of 1986. As an employee of the School Board, he participated in the Florida State Retirement System (State System). Upon his retirement, petitioner received retirement benefits from the State System. In addition to the State System benefits, he received a terminal pay benefit in the amount of $ 22,729.00 from the School Board. Employees of the School Board working over 4 hours a day, or over 20 hours a week, are eligible to accrue sick leave at a rate of one day per month. This may only be used on days when the employee is absent due to sickness or other specified reasons. To the extent an employee does not use the accrued sick leave, it is accumulated and, if the employee is eligible, he or she may receive the unused sick leave as a lump sum payment upon termination from service with the School Board. The terminal pay benefit petitioner received was a lump sum payment of the unused sick leave he had earned over the course of his employment with the School Board. The School Board has two requirements that must be met before an employee is eligible to receive unused sick leave as a terminal pay benefit. 341 First, the employee must be vested in the State System. An employee becomes vested in the State System after 10 years of employment with the School Board or other agency that participates in the State System. Second, if the employee is vested in the State System, the employee must also have worked for the School Board at least 3 years. The School Board did not maintain a separate fund into which it made a contribution on behalf of employees for sick leave they accrued. The School Board accounted for this obligation as a budgetary item to be met out of the general wage fund. Petitioner reported the terminal pay benefit he received on a Form 4972 as a lump sum distribution from a qualified retirement plan. He computed the tax due on the amount using the 10-year averaging method provided for under section 402(e). Respondent, in his statutory notice of deficiency, determined that this distribution was not from the exempt trust of a qualified plan and that 10-year averaging was not available to petitioner. Section 402(e)(1) provides that certain lump sum distributions received by a taxpayer may be taxed under a 10-year averaging method. To be eligible for this treatment, the lump342 sum distribution must be paid from the exempt trust of a plan qualified under section 401, or from a plan qualified under section 403(a). Sec. 402(e)(4). Petitioner contends that the terminal pay benefit was a distribution from an exempt trust which is part of a plan qualified under section 401. Respondent contends that the benefit was not a distribution from an exempt trust, but rather a distribution of compensation earned by petitioner. On the record before us, we find for respondent. The School Board did not maintain a separate fund for the payment of these benefits and there was no trust into which the School Board made contributions. According to Mr. Ronald Fraser, the director of the School Board's payroll services department, the terminal pay benefits are paid out of the funds budgeted for general wage payments. Mr. Fraser also testified that the terminal pay benefit is not part of the benefits received under the State System's qualified plan. The only relationship between the two benefits is that the School Board requires its employees be vested in the State System before they are eligible for the terminal pay benefit. Petitioner has presented no evidence beyond his343 own assertion that the lump sum payment he received was a distribution from the exempt trust of a qualified plan. Because the terminal pay benefit was not a distribution from a qualified plan, petitioner was not entitled to use the 10-year averaging provided by section 402(e). Petitioner contends in the alternative that if 10-year averaging is not available, then the sick leave he accrued should have been taxed as it was earned. Because it was not taxed as earned, petitioner asserts that he is due a refund of part of the tax he paid on the distribution in 1986. Petitioner bases this contention on two theories. First, petitioner contends that the sick leave he earned was property actually transferred to him in connection with the performance of services and, pursuant to section 83, taxable in the year of transfer. Second, petitioner argues that the sick leave was taxable under the doctrine of constructive receipt. Respondent contends that the unused sick leave was taxable when received as a lump sum distribution. We agree with respondent. Under either of petitioner's theories the unused sick leave was not taxable to petitioner until he actually received it. There was no transfer344 of property as provided in section 83. The unused sick leave was not transferred to petitioner until the year he retired. The doctrine of constructive receipt, as codified in section 451, is inapplicable because the unused sick leave was not "credited to his account, set apart for him, or otherwise made available so that he [could] draw upon it at any time, or so that he could have drawn upon it during the taxable year if notice of intention to withdraw had been given." Sec. 1.451-2(a), Income Tax Regs.Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619877/	William S. Baglivo, et al. 1 v. Commissioner. Baglivo v. CommissionerDocket Nos. 62457, 62458.United States Tax CourtT.C. Memo 1960-229; 1960 Tax Ct. Memo LEXIS 61; 19 T.C.M. (CCH) 1281; T.C.M. (RIA) 60229; October 27, 1960William S. Baglivo, pro se, 264 North Lansdowne Avenue, Lansdowne, Pa., Albert Squire, Esq., for respondent. FISHERMemorandum Findings of Fact and Opinion FISHER, Judge: Respondent has determined deficiencies of income tax and additions to tax in the following amounts. 2IncomeSec.Sec.YearTax293(b)294(d) 1946$ 6,742.34$3,371.17$1,119.32194710,478.905,239.451,737.3919487,375.083,687.541,247.5719492,144.701,072.35429.1019505,726.102,863.05975.5719516,628.423,314.211,213.3319521,319.58659.79400.1919533,819.901,909.95262.0362 The following issues are presented: (1) Whether the income tax returns for the years 1946 to 1950, inclusive, were false and fraudulent with intent to evade tax. (2) Whether all or part of the deficiency for each of the years 1946 to 1953, inclusive, is due to fraud with intent to evade tax. (3) Whether petitioners omitted gross income in excess of 25 per cent of the amount stated on their joint return for 1950. (4) Whether assessment and collection of deficiencies determined for each of the years 1946 to 1950, inclusive, are barred by the statute of limitations. (5) The extent to which error has been established in respondent's determination of deficiencies for each of the respective years in issue. (6) Whether the addition to tax for failure to file declarations of estimated tax under section 294(d)(1)(A), Code of 1939, is to be applied for each of the years 1946 to 1952, inclusive. (7) Whether the addition for substantial underestimation of estimated tax under section 294(d)(2), Code of 1939, is to be applied63 for each of the years 1946 to 1953, inclusive. Findings of Fact For the years 1946 and 1947, William S. Baglivo, hereafter referred to as petitioner, filed individual income tax returns with the then collector of internal revenue for the first district of Pennsylvania. For each of the years 1948 to 1953, inclusive, petitioner and his wife, Isabella Baglivo, filed joint returns. The returns for 1948-1951, inclusive, were filed with the then collector of internal revenue for the first district of Pennsylvania. The returns for 1952 and 1953 were filed with the district director of internal revenue, Philadelphia, Pennsylvania. Respondent did not determine that petitioner's wife had any personal income. She is a party because of the joint returns for the years 1948-1953. Net Worth Petitioner filed no income tax returns for the years 1916 to 1939, inclusive. For the year 1940 he filed a return showing no tax due. For the years 1941 to 1945, inclusive, he filed returns showing the following amounts as his income tax liabilities YearIncome Tax1941$ 20.901942120.361943346.841944424.111945306.20Petitioner began his licensed practice of dentistry64 in 1925 in Philadelphia. During all of the taxable years in question he maintained a dental office at 2031 Snyder Avenue, Philadelphia, Pennsylvania. From 1948 to 1953, inclusive, petitioner also maintained an office in the Medical Arts Building. Beginning in 1926 or 1927 and in each of the years involved herein, petitioner taught classes at Temple University in the dental field. He reported income from this source on his returns for the years 1947-1953, inclusive. Petitioner received no property by gift or inheritance. Petitioner's wife received no gifts, but inherited about $5,000 from her parents in 1936 or 1937. On February 13, 1951, petitioner presented a financial statement to a bank in order to procure credit. This statement listed no cash on hand. When interviewed by respondent's agents on November 30, 1954, petitioner stated that his cash on hand was about $300, since, in recent years he was concerned about thievery. Petitioner stated that he kept more cash on hand in earlier years but did not attempt to approximate the sum. Petitioner opened the following savings accounts in the Philadelphia Savings Fund Society (P) and in the Beneficial Savings Fund Society (B) on65 the dates shown: DateAccountOpenedBankNumberTitle of Account4- 8-29P.C-18,894Dr. William S. Baglivo9-20-35P.C-49,974William S. Baglivo in trust for IsabellaBaglivo (Wife)4- 1-36B.S-8751Dr. William S. Baglivo4- 1-36B.S-8752Dr. William S. Baglivo in trust fordaughter, Isabella4- 1-36B.S-8753Dr. William S. Baglivo in trust forson, Dominick4-12-38P.C-63936William S. Baglivo in trust for Mrs.Carmella Baglivo (Mother)4-12-38P.C-63937William S. Baglivo, in trust for Dr.Domenico A. Baglivo (Father)3- 8-39B.S-12741William S. Baglivo in trust for MissGemma Baglivo (Sister)7- 9-41B.S-17265William S. Baglivo, in trust for son,Felix St. Elma BaglivoAs of the end of each of the years 1929 to 1941, inclusive, petitioner's total savings account balances were as follows: PhiladelphiaSavingsFundFundBeneficialSocietySocietySavingsDateAccountsAccountsTotal12-31-29$ 1,533.33$ 1,533.3312-30-302,563.832,563.8312-31-3194.4394.4312-31-321,044.681,044.6812-31-333,055.933,055.9312-31-345,620.505,620.5012-31-359,421.879,421.8712-31-3610,705.96$ 2,937.0513,643.0112-31-3712,814.766,213.4919,028.2512-31-3816,232.546,885.3623,117.9012-31-3917,409.047,948.0925,357.1312-31-4017,757.168,140.6825,897.8412-31-4118,112.2810,687.3628,799.6466 From September 10, 1930, to December 31, 1945, petitioner withdrew a total of $49,526.83 from his savings bank accounts. The date and amount of each withdrawal are as follows: AccountAmountDateNo.WithdrawnSept. 10, 1930C-18,894$ 2,300.00May 8, 1931C-18,894900.00Oct. 21, 1931C-18,8943,306.83Apr. 6, 1932C-18,894220.00Apr. 3, 1934C-18,894200.00June 22, 1942C-18,8947,000.00June 23, 1943C-18,8943,000.00Dec. 8, 1943S-87513,300.00Dec. 8, 1943S-87522,200.00Dec. 8, 1943S-87532,200.00Dec. 8, 1943S-12741700.00Dec. 8, 1943S-172652,200.00Dec. 20, 1943C-639361,800.00Jan. 5, 1944C-18,8941,900.00Jan. 5, 1944C-49,9742,600.00Jan. 5, 1944C-639371,800.00July 11, 1944S-8752500.00July 11, 1944S-8753500.00July 11, 1944S-172651,500.00Oct. 31, 1945S-8751290.00June 15, 1945S-8752200.00June 15, 1945S-8753200.00June 15, 1945S-172652,000.00Oct. 31, 1945S-87522,540.00Oct. 31, 1945S-172652,530.00Nov. 1, 1945S-87533,640.00Total49,526.83At the end of each of the years 1945 to 1953, inclusive, petitioner had balances on deposit67 in the following banks in the amounts shown: Dec. 31,Dec. 31,Dec. 31,Dec. 31,Cash in Banks1945194619471948Central-Penn National$11,538.48$3,965.73$ 917.19$1,382.79BankPhiladelphia Savings1,490.11446.69453.39460.18Fund SocietyBeneficial Savings125.31127.02128.73294.58Fund SocietyTotal$13,153.90$4,539.44$1,499.31$2,137.55Dec. 31,Dec. 31,Dec. 31,Dec. 31,Dec. 31,Cash in Banks19491950195119521953Central-Penn National$1,121.21$5,431.72$ 325.81$1,383.91$3,405.73BankPhiladelphia Savings467.06474.05524.09534.533,062.12Fund SocietyBeneficial Savings298.76303.09359.64366.983,407.39Fund SocietyTotal$1,887.03$6,208.86$1,209.54$2,285.42$9,875.26As of the end of the years 1948 and 1949, petitioner owned the following stock for which he paid the amounts shown: No.Dec. 31,Dec. 31,SecuritiesShares19481949Amer. Broadcasting Co.100$ 900.00$ 900.00Commonwealth & Southern Corp.100308.30Kerr McGee Oil Ind. Inc.1001,100.00New England Elec. System50509.41Armour & Co.100800.74Rexall Drug Inc.100573.49Totals$1,208.30$3,883.6468 In 1941 or 1942, petitioner began to invest in mortgages. He received interest income from this source in each of the years involved herein. As of the end of each of the years 1945 to 1953, inclusive, petitioner owned mortgages with total principal balances due him in the amounts as follows: DateMortgages12-31-45$ 70,423.3612-31-4696,249.2712-31-47125,800.0012-31-48137,650.6112-31-49146,828.1412-31-50163,293.0912-31-51177,935.8812-31-52154,021.8512-31-53156,732.77With the exception of one mortgage at 4.8 per cent, all petitioner's mortgages were at the interest rate of 5 and 6 per cent. As of the end of each of the years 1945 to 1953, inclusive, petitioner owned the following real estate, which cost him the amounts shown: 1945194619471948Real EstateDec. 31,Dec. 31,Dec. 31,Dec. 31,2031 Snyder Avenue$7,000$7,000$7,000$7,0002501 South 20th Street264 North LansdowneAvenueTotal$7,000$7,000$7,000$7,00019491950195119521953Real EstateDec. 31,Dec. 31,Dec. 31,Dec. 31,Dec. 31,2031 Snyder Avenue$7,000$7,000$ 7,000$ 7,000$ 7,0002501 South 20th Street12,40012,40012,400264 North LansdowneAvenue30,00030,000Total$7,000$7,000$19,400$49,400$49,40069 Petitioner had no liabilities as of the end of the years 1945 to 1953, inclusive. For the year 1946, petitioner filed an individual income tax return reporting income tax of $397.18. He paid $253.38 with the return filed in March 1947, and took credit for $143.80 of estimated tax previously paid. On his individual return for 1947 and joint returns for 1948-1953, inclusive, petitioner reported the following income, deductions, and income tax: 194719481949Salary - Temple University$ 850.00$ 650.00$ 350.00Interest income1,794.721,705.251,561.01Rental income (net)275.00Net capital gain91.00Net profit from dentistry: Total receipts8,925.308,207.509,065.37Less - deductions6,071.034,403.053,760.30Net profit$2,854.27$3,804.45$5,305.07Adjusted gross income$5,498.99$6,159.70$7,582.08Less - Standard deduction500.00615.97758.20Net income$4,998.99$5,543.63$6,823.88Less - Exemptions3,000.003,000.003,600.00Income subject to tax$1,998.99$2,543.63$3,223.88Income tax$ 379.81$ 422.24$ 537.161950195119521953Salary - Temple University$ 350.00$ 350.00$ 350.00$ 350.00Interest income2,860.503,952.644,596.604,980.84Rental income (net)Net capital gain141.00Net profit from dentistry: Total receipts7,402.978,228.008,149.00 7,341.52Less - deductions4,383.774,062.293,991.603,723.42Net profit$3,019.20$4,165.71$4,157.40$3,618.10Adjusted gross income$6,370.70$8,468.35$9,104.00$8,948.94Less - Standard deduction637.07846.83910.4089489Net income$5,733.63$7,621.52$8,193.60$8,054.05Less - Exemptions3,600.003,000.003,000.003,000.00Income subject to tax$2,133.63$4,621.52$5,193.60$5,054.05Income tax$ 371.24$ 954.88$1,181.62$1,147.3070 Petitioners are the parents of five children whose ages were 38, 33, 28, 26, and 18 at the time of trial. At the time this case was heard one son was in his final year of dental studies at Temple University. Tuition at Temple was $400over per semester. This son had previously attended St. Joseph's College. Although his son earned some money, petitioner paid part of his expenses during the time he attended college and dental school. One of petitioner's daughters also attended college and was a trained dental hygienist. A second son attended Lincoln College Preparatory School in 1946 and petitioner paid his tuition and fees of $420. In 1952 petitioner moved to Lansdowne, Pennsylvania, where he purchased a home for $30,000. Petitioner purchased rugs costing over $1,000, but under $5,000, silverware, and other housefurnishings including 21 or 22 mahogany pieces before and at the time of his moving. Petitioner made the following Federal income tax payments in the years indicated: YearAmount1946$ 100.001947253.381948379.811949422.241950537.161951371.241952954.8819531,781.62Respondent's computations of petitioner's net income and71 understatements thereof for the years 1946 to 1953, inclusive, using the net worth and expenditures method may be summarized in the following Schedule A. So far as necessary to our own conclusions, we find it supported by the record except to the extent of adjustments noted in our opinion. SCHEDULE A Summary of Respondent's Determination of Net Income and Understatements thereof using the Net Worth Method. 4Assets12-31-4512-31-4612-31-47Cash on hand$ 2,500.00(a)$ 2,000.00(a)$ 1,500.00(a)Cash in banks13,153.904,539.441,499.31Stocks000Mortgages70,423.3696,249.27125,800.00Real Estate7,000.00(s)7,000.00(s)7,000.00(s)Automobile000Total Assets$93,077.26$109,788.71$135,799.31Less: Liabilities(0)(0)(0)Net Worth$93,077.26$109,788.71$135,799.31Less: prior year's net worth(93,077.26)(109,788.71)Increase in net worth$ 16,711.45$ 26,010.60Add: Nondeductible paymentsLiving expenses5,200.00(a)5,500.00(a)Fed. Income Tax Payments100.00253.38379.81Total$ 22,011.45$ 31,763.98Less: Depreciation(140.00)(140.00)50% of long-term capital gain(0)(0)Adjusted gross income$ 21,871.45$ 31,623.98Less: Maximum standard deduction(500.00)(500.00)Net income received$ 21,371.45$ 31,123.98Less: Net income reported5,582.184,998.99Understatement of net income$ 15,789.27$ 26,124.9972 Assets12-31-4812-31-4912-31-50Cash on hand$ 1,000.00(a)$ 500.00(a)$ 300.00Cash in banks2,137.551,887.036,208.86Stocks1,208.303,883.640Mortgages137,650.61146,828.14163,293.09Real Estate7,000.00(s)7,000.00(s)7,000.00(s)Automobile000Total Assets$148,996.46$160,098.81$176,801.95Less: Liabilities(0)(0)(0)Net Worth$148,996.46$160,098.81$176,801.95Less: prior year's net worth(135,799.31)(148,996.46)(160,098.81)Increase in net worth$ 13,197.15$ 11,102.35$ 16,703.14Add: Nondeductible paymentsLiving expenses5,800.00(a)6,100.00(a)6,400.00(a)Fed. Income Tax Payments422.24537.16371.24Total$ 19,376.96$ 17,624.59$ 23,640.30Less: Depreciation(140.00)(140.00)(140.00)50% of long-term capital gain(0)(91.00)(39.69)Adjusted gross income$ 19,236.96$ 17,393.59$ 23,460.61Less: Maximum standard deduction(1,000.00)(1,000.00)(1,000.00)Net income received$ 18,236.96$ 16,393.59$ 22,460.61Less: Net income reported5,543.636,823.885,733.63Understatement of net income$ 12,693.33$ 9,569.71$ 16,726.98Assets12-31-5112-31-5212-31-53Cash on hand$ 300.00$ 300.00$ 300.00Cash in banks1,209.542,285.429,875.26Stocks000Mortgages177,935.88154,021.85156,732.77Real Estate19,400.00(s)49,400.00(s)49,400.00(s)Automobile1,600.00(u)1,600.00(u)1,600.00(u)Total Assets$200,445.42$207,607.27$217,908.03Less: Liabilities(0)(0)(0)Net Worth$200,445.42$207,607.27$217,908.03Less: prior year's net worth(176,801.95)(200,445.42)(207,607.27)Increase in net worth$ 23,643.47$ 7,161.85$ 10,300.76Add: Nondeductible paymentsLiving expenses6,700.00(a)7,000.00(a)7,300.00(a)Fed. Income Tax Payments954.881,781.62Total$ 30,714.71$ 15,116.73$ 19,382.38Less: Depreciation(140.00)(140.00)(140.00)50% of long-term capital gain(0)(0)(0)Adjusted gross income$ 30,574.71$ 14,976.73$ 19,242.38Less: Maximum standard deduction(1,000.00)(1,000.00)(1,000.00)Net income received$ 29,574.71$ 13,976.73$ 18,242.38Less: Net income reported7,621.528,193.608,054.05Understatement of net income$ 21,953.19$ 5,783.13$ 10,188.3373 On February 7, 1951, petitioner submitted a signed statement of his financial condition to the Central-Penn National Bank of Philadelphia for credit purposes, stating therein that his annual net profit was between $12,000 and $15,000. He also stated that he owned a Buick automobile worth $1,600. Two real estate agents, Joseph Campbell and F. B. Cortese, handled the collections of interest on almost all of petitioner's mortgages. On November 30, 1954, petitioner told respondent's agents he made such collections himself and did not use real estate agents for this purpose. It was not until the agents interviewed the mortgagors of record that they learned of Campbell and Cortese. Cortese and Campbell each kept records of their collections from petitioner's mortgagors. Both turned their records over to Jacob M. Sakim, petitioner's accountant. Sakim used these records to prepare a schedule of mortgage balances and then turned the schedule over to George D'Angelo, petitioner's attorney. D'Angelo voluntarny turned the schedule over to a representative of the Internal Revenue Service in an attempt to reconcile differences in petitioner's disputed tax liability. Schedule B of each of74 the returns for the years 1950 to 1953, inclusive, is entitled, "Income from Interest." Space is provided therein for the taxpayer to report the details of interest income and to name the payor thereof. Petitioner showed no details and no payors. He reported only one lump sum for interest in each of these years describing the amount as "Various mortgages." Petitioners' return for the year 1950 was filed March 15, 1951. The notice of deficiency for that year was mailed to petitioners on February 27, 1956, less than five years from the date the return was filed. Petitioners reported gross income on the 1950 return as follows: Salary - Temple University$ 350.00Interest income2,860.50Total receipts from dentistry7,402.97Capital gain: Long-term$168.75Short-term125.00293.75Total$10,907.22Petitioner filed no declarations of estimated tax for the years 1947 to 1952, inclusive. Petitioner filed a declaration of estimated tax for the year 1946 declaring an estimated tax of $143.80. Petitioners filed a declaration of estimated tax for the year 1953 in which they declared estimated tax of $600. Petitioner's cash on hand did not exceed75 the following amounts on the following dates: 12/31/45 - $10,000; 12/31/46 - $8,000; 12/31/47 - $6,000; 12/31/48 - $5,000; 12/31/49 - $4,000; 12/31/50 - $3,000; 12/31/51 - $1,000; 12/31/52 - $300; 12/31/53 - $300. The income tax returns filed by petitioner for each of the years in issue except 1946 were false and fraudulent with intent to evade taxes. Some part of the deficiency for each of the years in issue except 1946 was due to fraud with intent to evade taxes. Opinion Fraud Issues In addition to the question of additions to tax under section 293(b), the issue of fraud relates to the question of limitations. In the absence of fraudulent returns, the years 1946 to 1949, inclusive, will be barred by limitations. See Section 276. 5 The year 1950 will likewise be barred in the absence of fraud unless section 275(c) applies. Use of Net Worth and Expenditures Method76 Respondent has the burden of proving fraud by clear and convincing evidence. In his effort to meet this burden, respondent has reconstructed petitioner's income for the years 1946-1953, inclusive, using the net worth and expenditures method. We have discussed frequently the propriety of the use of the net worth and expenditures method in comparable cases. The record as a whole in the instant case demonstrates so clearly that the use of the net worth and expenditures method is not only proper, but the only reasonable approach by respondent, that we deem detailed discussion wholly unnecessary to justify the overall application of the method. We turn therefore to the specific items which merit discussion. Cash on hand Petitioner received no gifts or inheritances. His wife received no gifts but inherited $5,000 in 1936 or 1937. Petitioner testified that he began working at an early age in his father's metals business. He then worked in the jewelry business, as a dental mechanic, and as a dentist, both prior to and after receiving his license to practice dentistry. He also worked for newspaper circulation departments and various other enterprises. He sold students' notes, drawings, 77 and dental materials in addition to haberdashery. Petitioner stated that as a young man he was known as "Moneybags" and was from time to time offered various business opportunities for which he possessed the needed capital. Petitioner stated that he practiced and taught dentistry from 1925 to 1941 or 1942 when in addition to his practice he began investing in mortgages. In an application for bank credit dated February 7, 1951, petitioner stated that he had no cash on hand. When interviewed by respondent's agents in 1954, petitioner stated that he had kept only about $300 cash on hand for the past several years since he had become afraid of thievery, but that he used to keep more cash on hand. Petitioner argues that prior to the time he became afraid of thievery he kept a good deal of cash at home and deposited the money needed for each of his mortgage investments into his checking account prior to any given transaction. At no time has petitioner estimated the amount of cash he kept on hand during the years preceding his fear of thievery. Petitioner told respondent's agents in 1954 that he had withdrawn his money from banks during the depression and kept that money at home. The78 records of petitioner's bank accounts are in evidence, and they indicate that petitioner's withdrawals prior to 1942 total only about $6,000. It is respondent's contention that the money used by petitioner for his mortgage investments came from savings account withdrawals and current income. The following schedule compares petitioner's mortgage investments with his savings account withdrawals for the years 1941 to 1945, inclusive: AmountAmount ofDateof MortgageDateWithdrawal10-27-41$ 2,000.004-25-42500.005-21-421,000.006-22-42$ 7,0007-31-42500.0011- 5-421,196.0111- 5-421,376.3511-20-421,201.0012-30-421,200.006-21-431,500.006-23-433,0006-24-436,000.0012- 8-431,200.0012- 8-433,30012- 8-43700.0012- 8-432,20012- 8-432,20012- 8-4370012- 8-432,20012-20-431,800.0012-20-431,8001- 5-441,9001- 5-442,6001- 5-441,8007-11-445007-11-445007-11-441,5007-27-443,800.008-30-441,400.008-30-441,650.008-30-441,650.0012-11-444,000.001- 2-45500.001- 9-453,850.005- 8-454,300.005-18-454,800.006-15-452006-15-452006-15-452,0006-29-451,100.007-13-452,500.009-18-454,700.0010- 6-451,000.0010-31-4529011- 8-454,000.0010-31-452,54011-13-454,500.0010-31-452,53011-13-45500.0011- 1-453,64011-30-452,000.0012- 5-452,000.0012-14-452,000.00Total$70,423.36$42,60079 The above schedule indicates some correlation between mortgage investments and withdrawals from savings during the years 1941 to 1945, inclusive, but obviously does not demonstrate a complete correlation. Respondent has introduced in evidence an assessment list covering petitioner's returns and payments for the years 1916-1945, inclusive, showing that no returns were filed prior to 1939; a return was filed for 1940 showing no tax liability; and returns for 1941 to 1945, inclusive, were filed showing the following liabilities and payments: YearAmount1941$ 20.901942120.361943346.841944424.111945306.20Using these payments respondent has reconstructed petitioner's maximum net income for the period 1916 to 1945, inclusive. Although such computations may not in all instances be sufficiently precise to prove petitioner's income for each of these years with exactitude, they are clearly adequate on the present record to demonstrate the absence of prior income sufficient to accumulate a cash hoard of any significant size. See , rehearing denied . Since the reconstruction80 is directed to the calculation of maximum income, any deviation from actual income would tend to be favorable to petitioner. The reconstruction of petitioner's maximum net income from 1916 to 1945, inclusive, shows $82,500 for the period 1916 to 1940, inclusive, $3,848.33 for 1941; $3,700.33 for 1942; $4,607.33 for 1943; $5,170.55 for 1944; and $4,581.00 for 1945, or a total of $104,407.58 for the entire period. It should be remembered in this connection that during this period petitioner maintained and educated a large family and built up a net worth of approximately $90,000. Based upon the afore-mentioned circumstances, respondent has recommended that petitioner be allowed the following amounts of cash on hand: DateAmount12-31-45$ 2,50012-31-462,00012-31-471,50012-31-481,00012-31-4950012-31-5030012-31-5130012-31-5230012-31-53300Upon our own consideration of the facts, while we cannot say that respondent's recommended allowances are demonstrably too small, we prefer, on the fraud issue, to resolve any possible doubt in petitioner's favor. We therefore make allowances of cash on hand for the purpose of the fraud issue, 81 in the following amounts: DateAmount12-31-45$10,00012-31-468,00012-31-476,00012-31-485,00012-31-494,00012-31-503,00012-31-511,00012-31-5230012-31-53300It is our view upon analysis of all of the relevant evidence that there was no occasion for accumulation of cash in excess of the amounts we have allowed, and that cash on hand on the various dates in question did not, in fact, exceed our allowances. We may add that petitioner has not enlightened us in relation thereto, and has not gone forward with the presentation of any evidence to the contrary. Cash in banks Respondent has introduced in evidence copies of petitioner's bank record cards in order to show the amount of cash in banks for the years 1945 to 1953, inclusive. Petitioner has introduced no evidence which would show the existence of any other accounts. Respondent's agent checked the records of all banks in which petitioner stated that he had accounts in the preparation of the net worth schedule. Respondent has correctly determined cash in banks for each of the years 1945 to 1953, inclusive. Stocks Respondent has introduced in evidence the records of the securities82 dealer handling petitioner's account in order to prove ownership of stocks for 1948 and 1949. No evidence was introduced to show that these records were in any way incomplete or incorrect. Respondent correctly determined the basis of petitioner's stocks as of December 31, 1948, and December 31, 1949. Real estate Petitioner has admitted in his pleadings that the basis of his real estate was correctly determined by respondent. Automobile Respondent determined that petitioner had an automobile at the end of each of the years 1951, 1952, and 1953. The record merely discloses that petitioner listed an automobile, the value of which was $1,600 in an application for credit dated February 7, 1951. Respondent has failed to prove that this automobile was owned by petitioner at the end of the years alleged or that the automobile was acquired in 1951. Mortgages By far the greatest asset item on respondent's net worth schedule is the mortgages item. Respondent has revised this item on the basis of a schedule of mortgages (Schedule S) prepared by Sakim, petitioner's accountant. Sakim's schedule, consisting of 89 itemized mortgages, was prepared from information supplied by the two83 real estate men, Campbell and Cortese. Some data was supplied by petitioner's attorney, Leonard DeNote, and some by petitioner himself. Petitioner knew of the existence of this schedule. Sakim presented the schedule to George D'Angelo, petitioner's attorney, after the death of DeNote. D'Angelo, in the course of representing petitioner at a conference with respondent's agents, voluntarily turned Sakim's schedule of mortgages over to the Internal Revenue Service in an attempt to reconcile petitioner's stand on the mortgages with that of respondent. The schedule was received in evidence, petitioner's only objection being that it was a confidential communication. We accept the facts as set forth in Schedule S. Liabilities Petitioner's pleadings admit that he had no liabilities at the end of any of the years in question. Living expenses Respondent has determined that petitioner's nondeductible living expenses totaled $5,200 in 1946 and increased $300 per year for each of the taxable years involved. This determination is based on the fact that petitioner had to support his wife and either three or four children for each of the years involved. Petitioner also helped bear the cost84 of educating one of his daughters to be a dental hygienist and his son's undergraduate and dental education. Another of petitioner's sons attended a preparatory school in 1946. Petitioner purchased a home in 1952 and furnished it. Petitioner testified to the fact that all his children worked or did jobs around the home. He further stated that his family lived frugally. When asked to approximate his cost of living at the time of trial petitioner did not name a specific sum, but stated that it was under $10,000 per year. In the light of the facts discussed above, viewed from the perspective of the fraud issue, it is our opinion that petitioner's living expenses for the years 1946 to 1953, inclusive, were not less than the following amounts: YearAmount1946$4,50019474,80019485,00019495,30019505,50019516,00019526,50019536,500Federal Income Tax Payments Petitioner's pleadings admit the correctness of respondent's amounts of Federal income tax payments for the years 1948 to 1952, inclusive. Respondent's assessment list shows that $100 was paid in 1946, and that $253.38 was paid in 1947. As for 1953, petitioner admits payment of85 $1,181.62, which represents total payment of 1952 tax. Respondent's assessment list shows that petitioner also paid $600 of estimated 1953 tax in 1953. Miscellaneous Respondent has agreed that petitioner be allowed $140 depreciation on his real estate at 2031 Snyder Avenue for the years 1946 to 1953, inclusive. Petitioner's pleadings also request allowance of depreciation of the 2501 South 20th Street property for the years 1952 and 1953, although the returns for these years claimed no such depreciation. We shall not discuss this item since it is in no way determinative of the fraud issue. Petitioner's pleadings also request depreciation on an automobile, but since we have held that respondent did not affirmatively prove that said auto belonged on the net worth schedule, we need not pass upon its depreciation. The items of long-term capital gain for 1949 and 1950, are too inconsequential to have any effect on the fraud issue. Petitioners used the standard deduction for the years 1947 to 1953, inclusive, and did not itemize deductions. In his computation respondent has, therefore, correctly allowed petitioner the maximum standard deduction. Established Items Summarized in86 Net Worth Statement Using the form of a net worth statement, our determinations as to proved items may be summarized in the following Schedule B: SCHEDULE B Summary of Proved Items of Net Worth and Recomputation of Net Income Assets12-31-4512-31-4612-31-4712-31-4812-31-49Cash on hand$ 10,000.00$ 8,000.00$ 6,000.00$ 5,000.00$ 4,000.00Cash in banks13,153.904,539.441,499.312,137.551,887.03Stocks0001,208.303,883.64Mortgages70,423.3696,249.27125,800.00137,650.61146,828.14Real Estate7,000.007,000.007,000.007,000.007,000.00Total Assets$100,577.26$115,788.71$140,299.31$152,996.46$163,598.81Liabilities00000Net Worth$100,577.26$115,788.71$140,299.31$152,996.46$163,598.81Less: Prior year's net100,577.26115,788.71140,299.31152,996.46worthIncrease in net$ 15,211.45$ 24,510.60$ 12,697.15$ 10,602.35worthNondeductiblepaymentsLiving expenses4,500.004,800.005,000.005,300.00Federal income100.00253.38379.81422.24tax paymentsTotal$ 19,811.45$ 29,563.98$ 18,076.96$ 16,324.59Less: Depreciation(140.00)(140.00)(140.00)(140.00)50% of long-term000(91.00)capital gainAdjusted gross$ 19,671.45$ 29,423.98$ 17,936.96$ 16,093.59incomeLess: Maximum standard(500.00)(500.00)(1,000.00)(1,000.00)deductionNet income$ 19,171.45$ 28,923.98$ 16,936.96$ 15,093.59receivedLess: Net income5,582.184,998.995,593.636,823.88reportedUnderstatement of$ 13,589.27$ 23,924.99$ 11,393.33$ 8,269.71net income87 Assets12-31-5012-31-5112-31-5212-31-53Cash on hand$ 3,000.00$ 1,000.00$ 300.00$ 300.00Cash in banks6,208.861,209.542,285.429,875.26Stocks0000Mortgages163,293.09177,935.88154,021.85156,732.77Real Estate7,000.0019,400.0049,400.0049,400.00Total Assets$179,501.95$199,545.42$206,007.27$216,308.03Less: Liabilities0000Net Worth$179,501.95$199,545.42$206,007.27$216,308.03Less: Prior year's net worth163,598.81179,501.95199,545.42206,007.25Increase in net worth$ 15,903.14$ 20,043.47$ 6,461.85$ 10,300.78Nondeductible paymentsLiving expenses5,500.006,000.006,500.006,500.00Federal income tax payments537.16371.24954.881,781.62Total$ 21,940.30$ 26,414.71$ 13,916.73$ 18,582.40Less: Depreciation(140.00)(140.00)(140.00)(140.00)50% of long-term capital gain(39.69)000Adjusted gross income$ 21,760.61$ 26,274.71$ 13,776.73$ 18,442.40Less: Maximum standard deduction(1,000.00)(1,000.00)(1,000.00)(1,000.00)Net income received$ 20,760.61$ 25,274.71$ 12,776.73$ 17,442.40Less: Net income reported5,733.637,621.528,193.608,054.05Understatement of net income$ 15,026.98$ 17,653.19$ 4,583.11$ 9,388.3588 Fraud - Fraudulent Returns 1946 Respondent has not introduced petitioner's 1946 individual income tax return in evidence. He has introduced an assessment list showing that $397.18 in tax was listed and paid by petitioner. Respondent has recomputed petitioner's maximum net income by allowing petitioner seven exemptions and arriving at a net income amount of $5,582.18 which would correctly match petitioner's payment of tax. Under the circumstances, and on the authority of , affd. per curiam , (C.A. 3, 1959), we hold that respondent has failed to establish by clear and convincing evidence that petitioner's return for 1946 was false and fraudulent with intent to evade taxes. In , we said (p. 863): The narrow question is whether respondent has carried his burden of proving that a fraudulent return was filed so as to avoid the statute of limitations under the circumstances of this case, including the fact that he is unable to show what return was filed in the first place. This is not a case where the contents of the return have been demonstrated by secondary evidence. The89 only thing shown is the amount of tax due as entered on the collector's assessment list. If this indicated, even by inference, the gross income and deductions entered upon the return, there might be some validity to respondent's argument that the burden should shift to petitioner. But the complications of setting out deductible items, subtracting them from gross income, giving effect to available credits, and then computing and entering the net tax due are too well known to permit a valid inference that the tax shown by the return is of itself sufficient measure either of gross income actually reported or of deductions properly taken. Here we regard the failure to produce adequate evidence of the contents of the returns, upon whose falsity respondent relies, as fatal. * * We accordingly hold that the year 1946 is barred by limitations. 1947-1953 Petitioner has furnished no leads or suggestions as to any possible nontaxable sources of income other than his wife's $5,000 inheritance in the 1930's and the suggestion to an agent of respondent that he had made bank account withdrawals in the depression. Our discussion of the cash on hand item, supra, has allowed petitioner90 certain cash on hand for the beginning of the taxable years in question which far exceeds his bank withdrawals. The deficiencies in net income proved by respondent must have come from taxable sources for each of the years involved, namely petitioner's dental practice and mortgage interest. Respondent has affirmatively proved a consistent pattern of large understatements of net income for the years 1947 to 1953, inclusive. The consistency, and size of the understatements when compared with reported net income, may alone indicate fraud and not mere unintentional omissions. (C.A. 8, 1959) [Appeal dismissed nolle pros.]. See also , rehearing denied . However, consistently large understatements are not the only evidence of fraud present. Petitioner held almost 90 mortgages at five and six per cent. The following amounts of interest income were declared by petitioner in his returns for the years 1947 to 1953, inclusive, as compared to the total mortgage balances outstanding: InterestIncomeMortgageYearDeclaredBalance1947$1,794.72$125,800.0019481,705.25137,650.6119491,561.01146,828.1419502,860.50163,293.0919513,952.64177,935.8819524,596.60154,021.8519534,980.84156,732.7791 In each of the years involved the understatement of interest income is obvious and is far too great to indicate a mere act of inadvertence. Upon careful consideration of the entire record, we think it inescapable that each of the returns for the years 1947 to 1950, inclusive, were false or fraudulent, filed with intent to evade tax and that none of these years are barred by limitations. (Since we have found that a false or fraudulent return was filed for 1950, we need not pass upon the 275(c) issue for that year.) Upon the same basis, we conclude that a part of each of the deficiencies for the years 1947 to 1953, inclusive, was due to fraud with intent to evade tax. Deficiency Issues Deficiencies for the year 1946 are barred by limitations. Subject to the modifications set forth infra, petitioners have not proved error in the deficiencies determined by respondent for the years 1947 to 1953, inclusive. Since the burden of proving these determinations erroneous lies with petitioners, they must stand. The modifications referred to arise (a) from Schedule S (mortgage schedule) which respondent had adopted, and which we have found to be correct and (b) cash on hand. As to cash92 on hand, for the purpose of deficiencies, we accept respondent's recommendation, so far as here material, allowing cash on hand in the following amounts as of the following dates: 12/31/46 - $2,000; 12/31/47 - $1,500; 12/31/48 - $1,000; 12/31/49 - $500; 12/31/50 - $300; 12/31/51 - $300; 12/31/52 - $300; 12/31/53 - $300. These amounts are less than those which we took into account in determining the fraud issue, where, since the burden was on respondent, we gave petitioner the benefit of any possible doubt. On the issue of deficiencies, however, the burden of proof of error is upon petitioner. On the basis of the meager testimony offered by petitioner, we might well be justified in holding that he has proved no more than an approximate $300 in cash in any of the years involved, but since respondent, wisely, we think, has recommended amounts larger than $300 for several of the years involved (set forth supra), we accept and apply his recommendation. Additions to Tax All additions to tax allowed are subject to recomputation under Rule 50 in the light of adjustments required in this Opinion of respondent's original determination of deficiencies. Additions for 1946 are barred by93 limitations. 294(d)(1)(A) Respondent's determination of additions for failure to file declarations of estimated tax for the years 1947 to 1952, inclusive, under section 294(d)(1)(A) of the 1939 Code, must stand since we have found that no declarations were filed for these years and petitioners have not shown that such failure to file was due to reasonable cause. 294(d)(2) Respondent concedes that additions to tax for substantial underestimation of estimated tax for the years 1947 to 1952, inclusive, are not proper where declarations of estimated tax were not filed and additions under section 294(d)(1)(A) were imposed. . Petitioners filed a declaration of estimated tax for 1953 declaring $600 in estimated tax. Their 1953 tax paid was $1,147.30. Petitioners' 1952 tax paid was $1,181.62. Petitioners have not shown that the provisions of section 294(d)(2) of the 1939 Code are inapplicable, and respondent's determination is approved. 293(b) The additions to tax for fraud with intent to evade tax under section 293(b) 6 of the 1939 Code for the years 1947 to 1953, inclusive, are proper for reasons set forth in our discussion94 of the fraud issue, supra. Decisions will be entered under Rule 50. Footnotes1. The following proceeding is consolidated herewith: William S. Baglivo and Isabella Baglivo, Docket No. 62458.↩2. Docket No. 62457 covers the individual return of William S. Baglivo for 1946 and 1947. Docket No. 62458 covers the joint return of William S. Baglivo and Isabella Baglivo for the years 1948 through 1953, inclusive.↩. Respondent's statutory notice of deficiency did not allocate the total section 294(d) additions determined as between section 294(d)(1)(A) and 294(d)(2).↩4. The following explanatory symbols are used: (a) requiring adjustment discussed in Opinion; (s) admitted in pleadings; (u) unsupported by affirmative evidence.↩5. SEC. 276. SAME - EXCEPTIONS. (a) False Return or No Return. - In the case of a false or fraudulent return with intent to evade tax or of a failure to file a return the tax may be assessed, or a proceeding in court for the collection of such tax may be begun without assessment, at any time. * * ↩6. SEC. 293. ADDITIONS TO THE TAX IN CASE OF DEFICIENCY. * *(b) Fraud. - If any part of any deflciency is due to fraud with intent to evade tax, then 50 per centum of the total amount of the deficiency (in addition to such deficiency) shall be so assessed, collected, and paid, in lieu of the 50 per centum addition to the tax provided in section 3612(d)(2).↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619878/	Charles D. Canterbury and Diane M. Canterbury, et al., 1 Petitioners v. Commissioner of Internal Revenue, RespondentCanterbury v. CommissionerDocket Nos. 38037-87, 31477-88, 31478-88, 31479-88, 10551-89, 13576-89, 14540-89, 14849-89, 15037-89, 15038-89, 16033-89United States Tax Court99 T.C. 223; 1992 U.S. Tax Ct. LEXIS 64; 99 T.C. No. 12; August 17, 1992, Filed 64 Decisions will be entered under Rule 155 in docket Nos. 38037-87, 31478-88, 31479-88, 13576-89, and 15038-89. An appropriate order will be issued in docket Nos. 31477-88, 10551-89, 14540-89, 14849-89, 15037-89, and 16033-89. Ps purchased existing McDonald's restaurant operations, including McDonald's franchise rights, from McDonald's franchisees. In each instance, the purchase price was in excess of the value of the tangible assets purchased. Ps allocated the portion of the purchase price which exceeded the value of the tangible assets to the franchise. Ps amortized the amount which they attributed to the franchise pursuant to sec. 1253(d)(2)(A), I.R.C. R determined that Ps allocated too much of the cost of intangible assets to the franchise, that most of the cost of intangible assets should be allocated to nonamortizable intangible assets such as goodwill, and that the value to be allocated to the franchise, for purposes of sec. 1253(d)(2)(A), was limited to the amount which the franchisor charged the original franchisee. Held: With the exception of a relatively small allocation to going-concern value, the remainder of the purchase price attributable to the intangible65 assets associated with each restaurant is properly allocable to the franchise. The entire portion of the purchase price allocable to the franchise may be amortized pursuant to sec. 1253(d)(2)(A). N. Jerold Cohen and J.D. Fleming, Jr., for petitioners.Jack E. Prestrud and J. Scott Broome, for respondent. Ruwe, Judge. RUWE224 Ruwe, Judge: Petitioners are McDonald's franchisees in the San Diego, California, and Cleveland, Ohio, areas. Petitioners each acquired their franchises as part of the purchase of an existing McDonald's restaurant operation from either a McDonald's franchisee or from one of McDonald's wholly owned subsidiaries, collectively referred to as McDonald's Operating Co. (McOpCo). 266 These purchases were made during the period 1972 to 1984. Petitioners each allocated a portion of the purchase price to the tangible assets which they purchased. They allocated the remaining purchase price to the McDonald's franchise and deducted a portion of that amount pursuant to section 1253(d)(2)(A). 3 The parties agree that petitioners properly identified and valued the tangible assets associated with each restaurant and that the remainder of the purchase price is allocable to intangible assets. The parties also agree that the amounts properly allocable to the franchises are amortizable under section 1253(d)(2)(A); the parties disagree over what that amount is. We must decide what portion of the purchase price of each McDonald's restaurant is to be allocated to the franchise for purposes of amortization under section 1253(d)(2)(A). 467 FINDINGS OF FACTSome of the facts have been stipulated and are so found. The stipulation of facts, first and second supplemental stipulation of facts, and attached exhibits are incorporated herein by this reference.225 A McDonald's franchise encompasses the rights to occupy and operate a McDonald's restaurant at a specific location owned or controlled by McDonald's Corp., to utilize all attributes of the McDonald's system, including the trademarks and other identifying features which belong to McDonald's Corp., and to receive ongoing advice and support from McDonald's Corp. with regard to the McDonald's restaurant business, in return for the payment of certain fees and conformance with certain rules established by McDonald's Corp. The franchise agreement between McDonald's and the franchisee is embodied in the franchise letter agreement to which a license agreement and an operator's lease are attached and incorporated by reference. The license agreement and operator's lease for a restaurant are always for the same term.The following table identifies the McDonald's restaurants that petitioners purchased, the date of purchase, the purchase price, and petitioners' allocation68 of the purchase price between tangible assets and the franchise.PurchasePurchase-Tangible=FranchiseRestaurant locationdatepriceassetsvalueClark Ave.,Cleveland, Ohio4/15/78$ 453,418$ 52,951$ 400,467Detroit Ave.,Cleveland, Ohio4/1/79450,00065,072384,928Mayfield Rd.,Mayfield Hts., Ohio7/1/79460,00072,100387,900Richland Ave.,Athens, Ohio6/30/72330,000120,000210,000Bealle Ave.,Wooster, Ohio11/21/75398,35178,439319,912High Street,Wadsworth, Ohio11/21/75564,851127,160437,691Mira Mesa Blvd.,Mira Mesa, Cal.12/22/80398,42274,000324,422Cuyamaca St.,Santee, Cal.9/30/78340,00080,000260,000Lake Murray Blvd.,San Diego, Cal.12/1/81324,750290,00034,750Garnet Ave.,San Diego, Cal.10/31/78235,000-0-235,000Broadway,Lemon Grove, Cal.12/29/81365,000125,000240,000Fletcher Pkwy.,El Cajon, Cal.3/31/82272,372110,259162,113Mira Mesa Blvd.,Mira Mesa, Cal.1/31/83734,74353,000681,743Main Street,Ramona, Cal.12/31/84386,717181,786204,931Cuyamaca St.,Santee, Cal.1/23/83473,60576,629396,976Lake Murray Blvd.,San Diego, Cal.1/21/83346,18093,781252,39969 226 I. The History and Philosophy of McDonald's Franchising SystemMcDonald's Corp. (McDonald's or the company) was started by Ray Kroc in 1955. Prior to beginning the company, Mr. Kroc observed the restaurant franchising industry first hand as a vendor for multimixer malt machines. Mr. Kroc believed that the restaurant franchising industry was flawed in a number of respects. The most serious flaws stemmed from the franchisors' focus on quick up-front profits that resulted in the franchisors' failure to work for the long-term success of their franchisees. The restaurant franchising industry was in the practice of charging significant up-front franchise fees for large territorial franchises while, at the same time, assuming few, if any, ongoing obligations toward the franchisees after the sale. Mr. Kroc felt that when a franchisor made significant profit prior to a restaurant's opening, there was little incentive to oversee or monitor its franchisees' operations.Mr. Kroc also believed that high up-front franchise fees could prevent franchisees from making a reasonable profit. The initial franchise fee charged by McDonald's was $ 950 until 1960, $ 12,500 between 70 1960 and 1987, and $ 22,500 since 1987. McDonald's has not increased its initial franchise fee to reflect increased sales. For instance, while the franchise fee remained $ 12,500 between 1960 and 1987, the average gross sales of McDonald's restaurants in those years rose from $ 249,099 to $ 1,350,000.Another problem Mr. Kroc perceived with the restaurant franchising industry was the franchisor's practice of requiring the franchisee to buy equipment and products from the franchisor. Mr. Kroc believed that the franchisor created a conflict by profiting from the sale of goods to franchisees. In addition, Mr. Kroc felt that the practice of selling to franchisees encouraged franchisors to concentrate their efforts on equipment and product sales rather than on the 227 performance of their restaurants. Consistent with this belief, McDonald's has never sold equipment or products to its franchisees.Mr. Kroc believed that the sale of territorial franchises would lead to loss of control over the quality of McDonald's restaurants. If a marginal or poor franchisee operated numerous McDonald's restaurants in a given area, the impact on the company and its other franchisees would 71 be magnified and could be disastrous. Since 1969, every franchise granted has been limited to operations at a specific street address. By franchising one restaurant at a time (as opposed to granting territorial franchises), McDonald's has retained the right to choose the franchisee who operates each restaurant, without limiting its opportunity to expand in a given geographical area.When Mr. Kroc opened the first McDonald's restaurant in Illinois in 1955, he had in mind the type of person he wanted to become partners with and whom he hoped to attract to the McDonald's franchising system (the system). Mr. Kroc believed that the company's success depended upon its franchisees' being hands-on operators who would expect to earn their livelihood at the business and devote full time to protecting their investments. Those willing to give up their jobs, invest their life savings, and borrow money for the chance to own their own businesses would also be willing to devote the time necessary to run a profitable McDonald's restaurant. The people Mr. Kroc sought were not wealthy investors. McDonald's maintains a corporate policy requiring its franchisees to be hands-on operators, rather 72 than passive investors.Mr. Kroc believed that he could establish a restaurant-franchising system that would succeed where others had failed. Central to his vision were the concepts that McDonald's would enter into a mutually beneficial relationship with each of its franchisees to strive for uniformity and quality in food products and service, and that if its franchisees became financially successful, McDonald's success would follow.228 II. The McDonald's SystemA. An OverviewMcDonald's is the exclusive owner of the McDonald's system, the trade name McDonald's, the Golden Arches trademark, and all other trademarks, service marks, and other intellectual property rights associated with McDonald's restaurants. 5 The McDonald's system is a comprehensive and detailed plan for operating a McDonald's restaurant and includes:a. Site selection and construction of the physical plant;b. designs and color schemes for the restaurant and signs;c. owner/operator, manager, and crew training;d. equipment layouts;e. food formulas and specifications; 6f. operation specifications, assistance, and monitoring;g. inventory accounting and bookkeeping methods;h. product research73 and development; andi. advertising and promotional materials.Under the franchise arrangement between McDonald's and its franchisees, the franchisees are obliged to adhere to all aspects of the McDonald's system during the terms of their franchises.B. Site Selection and Construction of the Physical PlantSince the 1950s, McDonald's has believed that it could better control its destiny if it purchased or leased the sites for new restaurants, constructed the restaurants, and then leased the restaurants to franchisees. McDonald's develops new restaurants in accordance with a master growth plan, which is developed at the regional level and approved by central management.After deciding to build74 a new restaurant, McDonald's real estate specialists search for appropriate restaurant sites in the region. The real estate specialists consider factors such as population density, traffic patterns, market statistics, proximity of shopping centers, schools and competing restaurants, 229 accessibility of utility and public services, and ease of access to foot and auto traffic in determining whether a particular site is appropriate. Sites are selected to minimize competition with existing McDonald's restaurants. Based on their analysis, McDonald's real estate specialists are able to predict with great accuracy whether a restaurant will succeed at a particular site.Once McDonald's regional management approves the site selected by the real estate specialists, it then decides the type of building to erect on the site. Although most McDonald's restaurants bear the same distinctive features, such as the Golden Arches motif, brick and glass construction, and the mansard roof line, 7 differences such as lot size and shape, projected market size, land elevation, sign restrictions, store visibility, and set-back requirements influence the exact restaurant structure that is ultimately75 erected. For instance, projected market size influences dining room size, and lot size and shape affect store and parking lot configurations. McDonald's has several building plans from which it chooses when deciding the type of structure to build on a particular site. The plans are very detailed and complete. The plans are the product of McDonald's experience in building restaurants.It is McDonald's policy to purchase or lease the land for each of its new restaurants and construct the buildings and site improvements, such as parking lots, grading, and utility hookups. The buildings contain no kitchen equipment or dining room furnishings. Except in the case of a business facilities lease, discussed infra, the franchisee is responsible for equipping and furnishing the restaurant. McDonald's provides the specifications and a list of approved equipment suppliers to the franchisee. 76 McDonald's and the franchisee execute an operator's lease under which McDonald's grants the franchisee the right to use the restaurant premises during the term of the franchise. McDonald's charges its franchisees both monthly rent and a service fee for which McDonald's provides considerable assistance to its franchisees during the operation of their franchises. McDonald's believes that this assistance ensures 230 that its franchisees maintain uniform standards and protects the integrity of the entire franchise system. Between 1982 and 1985, the license agreement executed by McDonald's and its franchisees obligated a franchisee to pay McDonald's 3 percent of total gross sales per month in consideration of the ongoing services provided by McDonald's, while the operator's lease required a minimum percentage rental payment of 8.5 percent of gross sales per month. 8 In the rare instances in which a McDonald's restaurant does not meet expected sales volume, McDonald's will assist the operator by providing a reduction in the monthly rental payments.77 C. Application and Training for a FranchiseMcDonald's franchise applicants go through a rigorous selection process and training program prior to becoming eligible to obtain a franchise. Applicants initiate the selection process by submitting a written application to the regional office. The regional licensing manager reviews completed applications and invites promising candidates for a personal interview to further assess their potential as a franchisee. McDonald's believes that the following qualifications, among others, are essential: Entrepreneurial spirit, a strong business background, willingness to devote full time to the restaurant, and willingness to participate in the 2-year training program. Also, McDonald's generally requires prospective franchisees to meet certain minimum financial requirements. 9Applicants who satisfy the requirements78 of the initial screening and interview are subjected to an on-the-job evaluation in which the applicant works in a McDonald's restaurant for a short period of time, typically 2 or 3 days. This gives McDonald's the opportunity to evaluate applicants in a restaurant environment and also gives the applicant an opportunity to obtain greater familiarity with McDonald's. After the on-the-job evaluation, if both McDonald's and the 231 applicant agree, the applicant enters the formal training part of the application process.Formal training consists of a 2-year training and evaluation program in which applicants typically work 15 to 20 hours a week, without compensation, either in McDonald's restaurants or attending McDonald's training courses. McDonald's devotes significant time and resources to its highly regarded training program. The program is designed to educate applicants in all aspects of operating a McDonald's restaurant and evaluate their potential as a franchisee. The training program proceeds in several phases.In the first phase the applicant works at a McDonald's restaurant and obtains hands-on experience with the daily operations of the restaurant. The applicant79 typically participates in crew jobs (i.e., basic food preparation, waiting on customers, etc.) and progresses to management activities. Applicants receive a manual, "Management Development Program Volume I", which provides basic training on various topics related to operating a McDonald's restaurant. In addition, they receive an operations and training manual, which covers the details of each operation done in the store. The operations and training manual provides the basic standards of quality, service, and cleanliness (QSC), which are an essential foundation of the McDonald's system. The first phase usually lasts from 6 to 9 months and involves several hundred hours of uncompensated work and culminates in a week-long course (the basic operations course), which is held at the regional office. This course covers the basic subjects of operations, including quality, service, sanitation, training, personnel, opening and closing the store, floor control, and basic maintenance.After the initial phase is successfully completed, the applicant is interviewed by McDonald's regional licensing manager to determine whether to register the applicant. If the applicant is approved, he pays80 a $ 4,000 deposit and is placed on the registered applicants list. The registered applicant continues to work, without compensation, in a McDonald's restaurant and continues the formal training program."Management Development Program Volume II" accompanies the second phase of the training program. This phase focuses on further development of basic management skills. 232 Covered subjects include: Recruiting, interviewing, and hiring employees; orientation and training of new employees; inventory control; operations reporting; equipment and utility maintenance; labor control; and time management. During this phase, the registered applicant also completes the licensee accounting and financial development program. In this program, the registered applicant receives instruction on bookkeeping, accounting and tax information, the financial statements used in a McDonald's restaurant, the significance of these statements, and the franchisee's role in the preparation and use of the statements. The second phase culminates in a second 1-week course at the regional office known as the intermediate operations course."Management Development Program Volume III" accompanies the third81 phase of training. This phase continues to expand the coverage of managerial issues in greater detail. Topics include: Planning and scheduling, use of profit and loss statements, energy management, crew recruitment, people management, administration and development of managers, store security, and sales building. The registered applicant also takes a 1-week applied equipment course at the regional office, which covers all aspects of equipment operation in a McDonald's restaurant.After completing the third phase of the training program, the registered applicant attends a 2-week advanced operations course. This course is held on the campus of Hamburger University, a sophisticated $ 40 million training facility located at McDonald's headquarters in Oak Brook, Illinois. Hamburger University was established in 1963 and currently has the enrollment capacity of 750 students. Hamburger University has a 30-member faculty, each of whom has worked for a number of years in a McDonald's restaurant. Hamburger University is the only school in the quick-service restaurant industry that offers courses that are university accredited. The advanced operations course at Hamburger University 82 concludes the required formal training program.The McDonald's training program is comprehensive, covering all aspects of the McDonald's system in detail. The program includes seminars, conferences, and one-on-one sessions with McDonald's corporate personnel, as well as considerable independent study and hundreds of hours of hands-on training 233 in a McDonald's store. By carefully screening prospective franchisees and rigorous training and indoctrination into the McDonald's system, McDonald's assures that its franchisees will be highly motivated individuals who fully understand the McDonald's system and are capable of applying it in their franchised operations.After completing the formal training program, applicants and managers continue to receive additional training as they continue to work with McDonald's. For example, "Management Development Program Volume IV" assists in the transition to store manager, as well as assists owner/operators in training their store managers. It includes a 9-month series of planned activities, which provide further development of management skills. It also includes a practical section for problem solving, as well as a section entitled83 "Green and Growing", which provides avenues for further education and contributes to the continued development and understanding of the McDonald's system.McDonald's continues to provide resources for ongoing training and assistance to franchisees and their employees throughout the period of operation of the restaurant. Adherence by the franchisees and their employees to the methods of the McDonald's system ensures uniformity, which, among other things, attracts customers to McDonald's restaurants.D. Product and Equipment Research and DevelopmentMr. Kroc believed from the inception of the company, and extensive experience has confirmed, that McDonald's restaurants would achieve the desired level of uniformity and high quality only if McDonald's provided its franchisees with detailed specifications for each food item served, and assumed the responsibility of locating food and equipment suppliers that would adhere to McDonald's standards. Early McDonald's restaurants had a 10-item menu, with its most popular meal consisting of a hamburger, french fries, and a milkshake. McDonald's set out to develop these food items in such a way that they could be consistently produced by84 its franchisees. Illustrative of this process is the extent to which McDonald's went to find a way to consistently produce crisp, golden french fries and which ultimately led to changes in the potato-growing industry.234 In its first 10 years of business, McDonald's spent about $ 3 million on developing its french fries. This included extensive field and laboratory research to determine the optimum temperature and time for cooking and the precise level of sugar, starch, and solids content that would optimize the texture and quality of the product. McDonald's invented an electrical sensor that determined when a batch of french fries was perfectly cooked. The "potato computer" was installed in each store and successfully automated the cooking of french fries.The attention McDonald's paid to the production of french fries was repeated for hamburgers. McDonald's and its franchisees are collectively the largest purchaser of beef in the United States. Its purchasing power influenced changes in the meat industry, and McDonald's set the toughest specifications the meat industry had ever known. McDonald's ensures that beef suppliers live up to its specifications through its85 own inspections of the meat provided by its suppliers. McDonald's also advises its franchisees to analyze the meat it receives and devised a 50-item meat test for its franchisees and trains its franchisees to grill samples from each delivery.The care taken in researching product specifications and composition is reflected in the "Operations and Training Manual", which sets forth detailed specifications for preparing each food item on its menu. The manual identifies and explains in detail each and every step in the preparation process. It covers basically everything from storing the food supplies upon delivery to presentation of the final product to the customer. The manual also covers aspects of production such as "French Fry Troubleshooting Guidelines", maximum holding times for food items, packaging guidelines, and directions for cleaning the equipment used in food production. Color photographs are included to show the correct way to assemble every breakfast, salad, and sandwich McDonald's offers, right down to how "red" a tomato should be before use. By way of illustration, the chapter in the 1988/1989 manual 10 on "Hamburgers" is 32 pages long and covers 235 everything86 from the placement of meat patties on the grill to application of the mustard, catsup, and pickle.Because of McDonald's restaurants' high sales volume, McDonald's found traditional equipment to be almost useless. McDonald's is actively involved in designing the equipment for its restaurants and designed the first equipment package tailored for the restaurant franchising business. Worldwide, McDonald's employs more than 200 engineers for the purpose of testing, designing, and troubleshooting equipment and systems used in McDonald's restaurants.McDonald's requires its franchisees to purchase supplies from suppliers approved by McDonald's. In determining whether to approve a supplier, McDonald's purchasing department considers the supplier's: (1) Ability87 to manufacture products to McDonald's standards; (2) agreement to offer McDonald's franchisees discount prices; (3) willingness to protect McDonald's confidential information; and (4) capability of meeting supply commitments. Approved suppliers must maintain their standards in accordance with McDonald's specifications, and any uncorrected deviation results in termination of approved-supplier status.McDonald's specifications for food quality and preparation are of critical importance to the success of its restaurants, since they ensure that uniformly high-quality food is served at all McDonald's restaurants. The McDonald's license agreement expressly provides that franchisees will use "only those flavorings, garnishments, and food and beverage ingredients which meet the McDonald's system specifications and quality standards", and that they will "employ only those methods of food handling and preparation" designated by McDonald's. Further, the food can only be served with packaging, napkins, and similar paper goods that meet McDonald's system specifications and bear the appropriate McDonald's trademarks.McDonald's continually researches and develops new food items and equipment88 in its research and development laboratory near its corporate headquarters in Oak Brook, Illinois.E. Operation Specifications, Assistance, and MonitoringEvery component of the McDonald's system is important to the operation of a restaurant, and McDonald's insists on 236 strict compliance with its specifications or standards. These specifications or standards are frequently referred to as QSC -- quality, service, and cleanliness. McDonald's ensures compliance with the system's specifications and standards for QSC through monitoring the day-to-day operation of its restaurants. McDonald's records the results of its monitoring of a particular store's operations by grading operations (A, B, C, D, or F) in four categories: Quality, service, cleanliness, and overall performance. In addition to determining whether a franchisee is complying with McDonald's specifications, McDonald's uses the grading system in deciding whether to grant additional franchises to a franchisee.The McDonald's field service consultant is responsible for grading a restaurant's operations as well as for consulting with, and troubleshooting for, McDonald's franchisees in such areas as crew training, 89 procuring suppliers, and improving restaurant operations. The field service consultant is a specialist in evaluating McDonald's restaurants to identify operating deficiencies and to work with the franchisee to correct them. Between 1982 and 1985, McDonald's employed nearly 300 field service consultants who regularly visited each of the restaurants for the purpose of monitoring compliance with the system and assisting franchisees and their employees in implementing the system.McDonald's field service consultants conduct frequent informal inspections and an annual full field inspection. 11 During the full field inspection, the consultant and the store's manager complete a 27-page full field inspection and consultation form, which evaluates the store on more than 500 items, including the taste and appearance of each food product, adherence to preparation procedures for each menu item, whether proper quality, handling, and storage standards for raw materials are being met, and whether equipment is calibrated properly and operating in accordance with system specifications. McDonald's spent about $ 19 million in 1985 on its field service operation.90 The importance of compliance with system standards for QSC and the uniformity that it generates among restaurants 237 is also reflected in the previously mentioned training and instruction materials provided to franchisees. These materials are detailed, exhaustive, and comprehensive. The standards they establish are objective and leave nothing to chance.McDonald's also provides its franchisees with the McDonald's statistical report, which allows a store manager to compute the number of products yielded by a given quantity of raw material. McDonald's has computed a small range of recommended yields for each product. For example, every gallon of milkshake mix should produce between 15.2 and 15.6 shakes. By comparing the store yield with recommended yields computed by McDonald's, McDonald's can identify non-conformity and rectify the problem. These reports are prepared every month and submitted to the regional office for review. This provides an additional means for the regional office to monitor compliance with system standards.In addition to monitoring operations for the purpose of grading stores, field service consultants also provide expert business advice to the91 franchisees with regard to any aspect of the McDonald's system, including marketing, training managers and crew, reinvestment in upgrading store property, and QSC. The training, monitoring, management resources, and ongoing assistance to franchisees from McDonald's is an integral part of the McDonald's system, and each franchisee obtains these as part of the franchise. This assistance ensures a high level of compliance with the system specifications, which produces consistency and uniformity among restaurants. Such consistency and uniformity is essential to McDonald's success.F. Advertising and PromotionEach McDonald's franchisee is required to participate in, and is entitled to the benefits of, McDonald's advertising and promotional programs. Franchisees are required to spend no less than 4 percent of the gross sales per year of each restaurant to promote the restaurant. Two percent goes to the franchisees' local advertising cooperative, 12 and 2 percent goes to the Operator's National Advertising (OPNAD) fund for national advertising, which was created in 1966. In 1985, 238 OPNAD spent $ 180 million for television advertising and the local advertising cooperatives92 spent $ 122 million, for a total of $ 302 million spent on television advertising in 1985, the largest television advertising budget in the United States to promote a single brand.McDonald's corporate marketing department oversees the production of about 130 new television commercials per year which cost approximately $ 20 million annually. Twice a year, McDonald's advertising executives meet with the principals of more than 60 ad agencies, along with members of the OPNAD committee, to review current and new marketing ideas. In addition, McDonald's meets yearly with the presidents of the 167 local advertising cooperatives to discuss an annual marketing plan and budget. The marketing plan identifies the timing of 8 to 10 promotional programs. 93 Because local participation is optional, McDonald's marketing department advises the local co-ops of the upcoming programs and requests a participation commitment by a certain date.III. McDonald's Operating Company RestaurantsIn 1959, McDonald's took over the operation of one of its restaurants from a franchisee, and the next year McDonald's opened four new company-owned and managed stores. In 1985, McDonald's wholly owned subsidiaries, collectively referred to as McOpCo, 13 operated 1,470 of the 6,620 operating McDonald's restaurants in the United States. One of McDonald's objectives in owning and operating McDonald's restaurants is to provide adequate opportunities for training its franchisees and managers. Owning and operating restaurants also enables McDonald's to monitor trends in the market and to provide access to markets where it can develop, promote, and test new food products and equipment. McDonald's also generates a profit from the operation and sale of its restaurants.94 IV. The Ways To Obtain a McDonald's FranchiseMcDonald's franchises are in great demand. Only about 1 percent of the persons inquiring about franchisee opportunities ultimately obtain a franchise, and less than 10 percent 239 of those who go through the process of filing a lengthy written application actually obtain a franchise. An individual may obtain a McDonald's franchise one of three ways: (1) Acquire a new restaurant from McDonald's; (2) acquire an existing restaurant from another franchisee; or (3) enter into a business facilities lease arrangement with McDonald's.A. Acquisition of a New RestaurantWhether a registered applicant or an existing franchisee can obtain a new restaurant depends primarily upon availability. Disposition of new restaurants among registered applicants (new franchisees), McOpCo, and existing franchisees during 1982 to 1985 were as follows:YearNew franchiseeExisting franchiseeMcOpCo1982502281091983422219219844223292198548263105From 1980 to 1990, new franchisees received 12.9 percent of new restaurants, existing franchisees received 61.5 percent, and McOpCo received 25.6 percent. 95 McDonald's makes no commitment to provide a registered applicant with a new restaurant, and McDonald's will not award an additional franchise to an existing franchisee unless the franchisee has demonstrated a favorable "track record" in operating a previously franchised restaurant. McDonald's uses the prospect of receiving new restaurants to motivate its franchisees to adhere to its strict policies and standards regarding the operation of its restaurants.McDonald's has filed uniform franchise offering circulars (UFOC's) with the Federal Trade Commission and various State regulatory agencies since 1979. According to these circulars, during the years 1979 to 1985, a new franchisee could expect to incur the following costs in connection with opening a new McDonald's restaurant: License fee ($ 12,500); deposit to McDonald's ($ 15,000); 14 equipment, fixtures, and other fixed assets (between $ 160,000 to $ 300,000); initial 240 inventory (between $ 6,000 to $ 18,000); and working capital, prepaid expenses, opening expenses, miscellaneous equipment, etc. (between $ 45,000 to $ 65,000).96 The preopening expenses incurred in connection with a new McDonald's restaurant include management and crew wages incurred during training. Management training generally takes about 8 weeks, and crew training generally takes 2 to 3 weeks, with crew involvement on a part-time basis. If the franchisee has other restaurants, he will usually train crew members in these restaurants. New franchisees who do not have other restaurants frequently use other franchisees' (including McOpCo's) restaurants for training. If no other restaurant is available, new franchisees may use "dry runs" in the new restaurant. If necessary, McDonald's will bring in employees (at the franchisee's expense) from other restaurants to get the new restaurant up and running. A crew can be assembled on very short notice, even as little as 1 day. McDonald's field service consultants work with the franchisee to assure that the new store has a properly trained management and crew.Although McDonald's does not compile statistics on crew turnover for its non-McOpCo franchisees, its records of employee turnover 15 at its McOpCo restaurants for the period 1986 through 1989 are as follows:1986198719881989AverageNational224%207%203%189%205.75%San Diego246298246212250.62Cleveland180170184153171.7597 These figures are representative of the turnover occurring at other McDonald's franchises. For the pertinent periods prior to 1986, the respective average turnover rates shown above for the Cleveland and San Diego regions are representative of the crew turnover rates at restaurants in those regions.Because of McDonald's experience in opening new restaurants, its franchisees are able to minimize many of the costs that a new restaurant typically incurs in the early phases of operation. For instance, because McDonald's provides its franchisee with a list of approved suppliers, supply 241 networks for new stores are established with minimal effort. Also, field service consultants work with franchisees to assure that adequate inventories, equipment, and supplies are in place prior to opening. McDonald's reputation, its careful selection of the restaurant site, 98 and the active promotion of a new restaurant's opening, ensure that customers will patronize the new restaurant from the day it opens. McDonald's widely publicizes the opening of a new restaurant prior to the commencement of operations, and a "grand opening" event, which may include an appearance by Ronald McDonald, is often held to further publicize the new restaurant. The franchisee bears the cost of such grand-opening advertising.McDonald's requires that a prospective purchaser be able to generate a projected minimum cash-flow from the restaurant that will be sufficient to cover debt service and to provide a "living wage". This minimum cash-flow "hurdle" is imposed regardless of whether the purchaser is buying his first McDonald's restaurant, or an additional restaurant.Based on the demographic data accumulated in connection with the site selection process, the McDonald's regional office projects an expected sales volume for the new store. McDonald's expects a new store to meet or exceed this projected volume almost immediately after opening. Typically, a new store will meet its projected annualized volume level within the first week of operation.B. Acquisition of an99 Existing RestaurantProspective franchisees frequently buy existing franchises from other franchisees or McOpCo. Between 1982 and 1985, acquisitions of existing restaurants by new franchisees, existing franchisees, and McOpCo were as follows:YearNew franchiseeExisting franchiseeMcOpCo198269150-0-198393242131984611223198510223259Between 1980 and 1990, new franchisees purchased or leased an average of 29.4 percent of the existing restaurants traded, existing franchisees purchased or leased 63.3 percent, and McOpCo purchased 7.3 percent. When McOpCo or another 242 franchisee sells an existing McDonald's restaurant, McDonald's retains ownership of the land, building, and site improvements. The franchisee purchases only the equipment, the inventory, and the right to operate the McDonald's system at that particular restaurant location. If the purchasing franchisee is buying from an independent franchisee, the purchaser typically operates the restaurant under the existing franchise agreement for the remaining term of the agreement. If the franchisee is buying a McOpCo franchise, McDonald's typically executes a new franchise100 agreement with the purchaser for a 20-year period.Although buying a new franchise is typically less expensive, the decision to purchase a franchise for a new restaurant versus an existing restaurant is driven by availability. Given the relatively small supply of available franchises when compared to the number of qualified potential purchasers, purchasers usually do not have a meaningful option to choose between a new or existing restaurant.Pursuant to the license agreement, any sale or assignment of a McDonald's franchise requires McDonald's prior written approval. When approving a transfer, McDonald's considers the same factors it considers when granting a franchise for a new restaurant. Only individuals who have undergone the requisite training in the McDonald's system and who meet McDonald's financial criteria may qualify for a transfer. With the exception of sales of its own McOpCo restaurants, McDonald's does not determine the sales price charged for an existing franchise. McDonald's, however, may inform the purchaser of potential investment or improvements that may be required in the restaurants. This notifies the purchaser of future capital requirements, and preserves101 the integrity of the system through ensuring that the transferee will have adequate capital available to maintain and upgrade the facilities.C. Business Facilities Lease ArrangementsMcDonald's offers a business facilities lease (BFL) program to individuals who otherwise meet McDonald's criteria, but do not have sufficient capital to purchase a McDonald's restaurant. Under the BFL arrangement, McDonald's leases the restaurant, and all assets associated with its operation, to a 243 prospective franchisee. In addition to the rent and service fees that McDonald's charges all franchisees, McDonald's imposes an additional rental fee on BFL franchisees, typically 4.5 percent of sales, to cover the costs which are typically borne by the franchisee. The lessee under the BFL has an option to purchase the restaurant during the 3-year BFL term. If the option is exercised, the franchisee pays the option price plus the initial franchise fee. The lessee then typically receives a license and lease with a 20-year term.V. RewritesA McDonald's franchise is generally granted for a period of 20 years, beginning with a restaurant's opening. In the 17th year of the franchise 102 term, the McDonald's Rewrite Committee examines the restaurant's operations and determines whether to offer the franchisee a new 20-year franchise (rewrite). The single most important factor that the committee considers is the long-term QSC record of the franchisee. McDonald's Rewrite Committee may recommend a shortterm rewrite (less than 20 years) in certain situations, including those in which the franchisee has performed inconsistently.If a rewrite is approved, the terms are outlined in a commitment letter. The Rewrite Committee may make the rewrite contingent on satisfaction of conditions prior to the expiration of the original franchise term. The conditions, if any, frequently relate to the improvement of the restaurant facility to meet current McDonald's standards. If a rewrite is approved, McDonald's and the franchisee enter into a new agreement (i.e., a new franchise letter agreement, license, and lease).In some cases, the Rewrite Committee may initially conclude that the franchisee is not qualified for rewrite. However, if the franchisee makes certain improvements and changes specified by the committee, then he may qualify for reconsideration by the committee during103 the 20th year of the franchise. In other cases, the committee may conclude that improvement is impossible and not even give the franchisee the opportunity to cure the deficiencies. In these cases, McDonald's gives the franchisee the opportunity to sell the restaurant business to a qualified buyer prior to the expiration 244 of the franchise term. McDonald's encourages these franchisees to take advantage of this opportunity and even provides limited assistance in finding a qualified purchaser. McDonald's approves these sales only if the buyer agrees to bring the restaurant up to current standards prior to the expiration of the original franchise.McDonald's usually does not guarantee that a rewrite will be granted prior to the 17th year of the franchise term. Through December 31, 1990, McDonald's had considered a total of 2,055 rewrites. Of these, 91 percent were approved and 6 percent were denied. The remaining 3 percent remained under consideration at that time.Obtaining a rewrite is critical to the continued success of the restaurant. For example, Robert Ahern operated a McDonald's restaurant in LaGrange, Illinois. Mr. Ahern was in the unique position of being 104 the owner of the restaurant premises. McDonald's did not believe Mr. Ahern was maintaining McDonald's standards and suggested that he seek a qualified buyer. Mr. Ahern refused to sell, so McDonald's terminated his franchise and removed the Golden Arches and all signage or other indicia of McDonald's. Mr. Ahern reopened the restaurant as a hamburger restaurant called "Berney's". McDonald's subsequently opened a new restaurant within two blocks of Berney's. Berney's went out of business in less than 1 year.Another example involved Eli Schupack. Mr. Schupack operated a McDonald's restaurant in Omaha, Nebraska, from 1965 to 1981. Mr. Schupack was also in the unique position of owning the restaurant premises. McDonald's refused to grant a rewrite to Mr. Schupack, and after the franchise expired, the Golden Arches and all signage, trademarks, and trade names identifying the restaurant as a McDonald's were removed. Mr. Schupack reopened the restaurant as "Dodge City Hamburgers" and offered the same type of food products as the former McDonald's restaurant. Mr. Schupack retained his crew employees and managers. Despite their efforts, sales immediately fell substantially, and the105 Dodge City Hamburgers restaurant ultimately failed. Subsequent to the closing of Dodge City Hamburgers, McDonald's opened a new restaurant in November 1982 within a few blocks of the former Dodge City Hamburgers restaurant location. Sales at that new McDonald's restaurant during its first full 12 245 months of operation (December 1982 to November 1983) were $ 1,212,556, as compared with sales at Mr. Schupack's McDonald's restaurant during the last 12 full months of its operation (August 1980 to July 1981) of $ 1,304,541.OPINIONOur principal task is to decide what portion of the purchase price paid by petitioners for operating McDonald's restaurants is properly allocable to the McDonald's franchise for purposes of amortization under section 1253(d)(2)(A). The parties agree on the value of the tangible assets that were purchased. The parties also agree that a relatively small amount of the purchase price of each restaurant is attributable to going-concern value. The parties disagree on how to allocate the remaining portion of the purchase price. Petitioners argue that the remainder should be allocated to the McDonald's franchise.Respondent's position is that the price106 McDonald's charged for new franchises ($ 12,500) is a "perfect" market comparable that establishes the value of all McDonald's franchises. We disagree. The evidence indicates that McDonald's had legitimate and longstanding business reasons for charging less than market value for new McDonald's franchises. These reasons can be traced to the business philosophy of McDonald's founder, who believed that McDonald's should emphasize the long-term relationship with franchisees rather than try to maximize up-front profits. McDonald's sought franchisees who would depend on their McDonald's restaurant for their livelihood (i.e., owner/operators, not investors). McDonald's also wanted to avoid saddling new franchisees with huge debts, which would prevent them from prospering, and to ensure that the number of applicants remained high. As a result, McDonald's decided to maintain a $ 12,500 fee for new franchises, despite the fact that it could have charged substantially more. 16107 Respondent also argues that, as a matter of law, a subsequent franchisee may not amortize an amount in excess of the amount that the original franchisee paid for the franchise. 246 We find no authority for this position in the statute or case law, and respondent cites none. Respondent has issued a revenue ruling that specifically permits a subsequent franchisee to amortize the full price paid for the franchise. Rev. Rul. 88-24, 1 C.B. 306">1988-1 C.B. 306. 17 Although the facts in the ruling do not indicate what the original franchisee paid for the franchise, the ruling specifically limits the amounts that the subsequent franchisee may amortize to the portion of the purchase price properly allocated to the purchase of the franchise. The ruling states: "The Internal Revenue Service will scrutinize closely transactions of this type to ensure a proper allocation of the purchase price". Rev. Rul. 88-24, 1988-1 C.B. at 307. The fact that the ruling specifically contemplates, and indeed limits, the amount which a subsequent franchisee can amortize, and yet says nothing about limiting that amount to the108 amount paid by the initial franchisee, gives rise to the inference that the subsequent franchisee may amortize the full purchase price of a franchise, even if it exceeds the amount paid by the original franchisee. We have held that taxpayers are entitled to amortization in the situation described in Rev. Rul. 88-24, supra, Jefferson-Pilot Corp. v. Commissioner,98 T.C. 435">98 T.C. 435, 453-454, 456-457 (1992); Tele-Communications, Inc. v. Commissioner,95 T.C. 495">95 T.C. 495, 505 (1990). In both cases, we allowed subsequent franchisees to amortize franchise costs in excess of the amount paid by the original franchisee.109 Section 1.1253-1(d), Proposed Income Tax Regs., 36 Fed. Reg. 13151 (July 15, 1971) (hereinafter section 1.1253-1(d), Proposed Income Tax Regs.), addresses the application of section 1253 to the sale of an ongoing business and states: "Section 1253 * * [applies] to amounts which are attributable to the transfer of a franchise * * * incident to the transfer of a trade or business." 18110 The proposed regulation states that the amount deductible by the purchaser under section 1253 is based on the amount of the purchase price reasonably allocated to the purchase of the franchise. Nowhere in the proposed 247 regulation is it suggested that the amount reasonably allocated to the purchase of the franchise is limited to the amount paid by the original franchisee, and an example in the proposed regulations suggests otherwise.19111 Respondent argues that in addition to the franchise, petitioners acquired other nonamortizable intangible assets, such as goodwill, and that a large portion of the purchase price of each restaurant should be allocated to those intangibles. Except for a relatively small allocation to going-concern value, respondent makes no attempt to assign a value to any specific nonamortizable intangible asset.One of the principal intangible assets likely to be found when ownership of an operating business is transferred is goodwill. Goodwill represents the expectancy that "old customers will resort to the old place" of business. Houston Chronicle Publishing Co. v. United States,481 F.2d 1240">481 F.2d 1240, 1247 (5th Cir. 1973); see also VGS Corp. v. Commissioner,68 T.C. 563">68 T.C. 563, 590 (1977). The essence of goodwill is a preexisting business relationship founded upon a continuous course of dealing that can be expected to continue indefinitely. Computing & Software, Inc. v. Commissioner,64 T.C. 223">64 T.C. 223, 233 (1975). Goodwill is characterized as "the expectancy of continued patronage, for whatever reason." Boe v. Commissioner,307 F.2d 339">307 F.2d 339, 343 (9th Cir. 1962),112 affg. 35 T.C. 720">35 T.C. 720 (1961); see Philip Morris, Inc. v. Commissioner,96 T.C. 606">96 T.C. 606, 634 (1991), affd. 970 F.2d 897">970 F.2d 897 (2d Cir. 1992).A McDonald's franchise encompasses attributes that have traditionally been viewed as nonamortizable goodwill. However, to the extent that these attributes are embodied in the McDonald's franchise, trademarks, and trade name, their cost is amortizable under the explicit provisions of section 248 1253(d)(2)(A). On the other hand, if petitioners acquired intangible assets, such as goodwill, which were not encompassed by or otherwise attributable to the franchise, then a portion of the purchase price should be allocated to such assets.A McDonald's franchise includes the rights to occupy and operate a McDonald's restaurant at a specific location owned or controlled by McDonald's, to utilize all attributes of the McDonald's system, including the trade name, trademarks, and other identifying features which belong to McDonald's, and to receive ongoing advice and support from McDonald's with regard to the McDonald's restaurant business.The purchaser of an existing McDonald's113 franchise can expect McDonald's customers to return to the restaurant. This expectancy is created by and flows from the implementation of the McDonald's system and association with the McDonald's name and trademark. 20114 Within a week of opening, a new McDonald's restaurant typically reaches the level of sales that it will average over the first year. The number of sales transactions tends to stay constant from the first year through the life of the franchise. This suggests that a customer's decision to patronize the restaurant is attributable to the goodwill inherent in the McDonald's system. The experiences of former franchisees Messrs. Ahern and Schupack support this conclusion. Both disassociated themselves from McDonald's but continued to operate their restaurants under another name. 21Both restaurants failed within 18 months of the removal of all items which identified their restaurants with the McDonald's system. Customers patronize McDonald's restaurants because they know what they are going to get in terms of product, quality, service, and price from store to store. 22 This is the direct result of the McDonald's system that requires specific standards of quality, service, and cleanliness as part of the franchise agreement. Certainly, the quality, consistency, and 249 service that the system produces result in goodwill, but because of the structure of McDonald's, that goodwill inheres in the McDonald's trade name and trademarks.115 The McDonald's trade name and trademarks are available to individual restaurant operators only through a McDonald's franchise. The massive advertising effort and the insistence that only the McDonald's name be associated with the restaurant's operation ensures that the restaurant is identified as part of a larger organization that the customer knows and trusts. The right to use the McDonald's system, trade name, and trademarks is the essence of the McDonald's franchise. The rights and benefits conferred by a McDonald's franchise are not assets that the franchisee may use or sell apart from the franchise. Respondent did not identify, and we cannot discern, any quantifiable goodwill that is not attributable to the franchise. We find that petitioners acquired no goodwill that was separate and apart from the goodwill inherent in the McDonald's franchise. 23116 Our finding that the franchise acts as the repository for goodwill is consistent with previous decisions of this and other courts. See Montgomery Coca-Cola Bottling Co. v. United States,222 Ct. Cl. 356">222 Ct. Cl. 356, 379-380, 615 F.2d 1318">615 F.2d 1318, 1331 (1980); Zorniger v. Commissioner,62 T.C. 435">62 T.C. 435, 444, 445 (1974); Mittelman v. Commissioner,7 T.C. 1162">7 T.C. 1162 (1946); Akers v. Commissioner,6 T.C. 693">6 T.C. 693, 700 (1946). For instance, in Montgomery Coca-Cola Bottling Co. v. United States,222 Ct. Cl. at 381-382, 615 F.2d at 1331-1332, the Court of Claims, in valuing a Coca-Cola bottling franchise, stated:Anything resembling goodwill attaches solely to the national company and the name of the product * * . Customers buy Coca-Cola because of * * the product, not because of who bottles it. Since goodwill is considered to be the value of the habit of customers to return to purchase a product at the same location, the absence of the product would destroy the value of the habit; and since only one entity has the perpetual right117 to distribute Coca-Cola in a territory, the value of goodwill, and the franchise are so interrelated as to be indistinguishable, all the value should then be assigned to the franchise. * * [Fn. ref. omitted.]250 Similarly, in Mittelman v. Commissioner, supra, we addressed the issue of whether part of the value of a corporation which sold popular brands of shoes from space which it leased from a well-known department store was attributable to the corporation's goodwill. Under the terms of the lease, the corporation sold the shoes under the department store's name, and the facts indicate that the arrangement was set up so that customers would believe that they were purchasing shoes from the department store. We stated that:It seems to us that whatever intangible value attached to petitioner's business sprang from the sale of well known and respected brands of shoes, and from the sale of those shoes in a location known to the public as a part of the Lindner Co.'s store. We can find no basis, in these peculiar circumstances, for the allocation of any value for good will * * [to the taxpayer's corporation]. * * * [7 T.C. at 1170.]118 The conclusions reached by petitioners' experts are consistent with, and support, our finding. Patrick J. Kaufman 24 testified about the historical development of franchises and the economic function that they serve. According to Mr. Kaufman, the modern private commercial franchisor accumulates and institutionalizes its business know-how and distributes this knowledge to its franchisees through the franchise agreement. The franchisor also acts as a clearing house for ideas and information generated by the individual franchisees. Consequently, great economies of scale are achieved under a franchise format. The franchisor maintains control over the operation of the individual franchisees by insisting on strict compliance with standards that are designed to ensure that the good name associated with the franchisor and its trademarks is maintained and enhanced. Mr. Kaufman explained that the ability to associate with the franchisor's name and trademarks was key to the franchise arrangement because only through this association can the franchisee take advantage of the franchisor's good will. The franchisor increases its opportunity to generate more goodwill through the successful119 implementation of its business format.Mr. Kaufman also considered McDonald's franchises specifically. He concluded that the McDonald's name and 251 trademarks act as the repository for all goodwill developed throughout the company's history. Requiring franchisees to adhere to McDonald's standards of quality, cleanliness, and service ensures that the value and integrity of the McDonald's system is maintained and that customer perception of McDonald's is reinforced with every visit, regardless of the restaurant visited. Because operating procedures are explicitly delineated by the system, any goodwill generated by store operations flows from implementation of the McDonald's system. Mr. Kaufman concluded that in the McDonald's system of restaurants, there is no such thing as franchisee goodwill.Daniel A. MacMullan 25 valued the intangible assets purchased by petitioners. He also concluded that there was no 120 goodwill separate and apart from that which was derived from the franchise agreement. Mr. MacMullan used both the discounted cash-flow and the incremental cash-flow methods to value the franchises involved in these cases. Mr. MacMullan concluded that the McDonald's franchises that petitioners purchased were very valuable and that petitioners properly allocated a significant portion of the purchase price to the franchises. Mr. MacMullan also found that a small amount of the purchase price was allocable to going-concern value, which was separate from the franchise.Respondent seems to argue that if most of the value of a McDonald's franchise is based on the expectancy of continued patronage, then the value connected with that expectancy cannot be amortized because it is not separate and distinct from goodwill. Respondent points out that a taxpayer may not depreciate an intangible121 asset under section 167 absent a showing that the asset is separate and distinct from goodwill and seems to argue that amortization under section 1253 is similarly restricted. Respondent cites Newark Morning Ledger Co. v. United States,945 F.2d 555">945 F.2d 555 (3d Cir. 1991), cert. granted 503 U.S., 112 S. Ct. 1583 (1992), as support.Newark Morning Ledger involves section 167. The rules surrounding the depreciation and amortization of intangibles under section 167 do not override the specific provisions of section 1253(d)(2). The assets to which section 1253 applies, 252 by their very nature, are not normally separate and distinct from goodwill. The value of a franchise in the private commercial context depends, in large part, on the goodwill inherent in the franchisor's business system. Typically, as in the case of a McDonald's franchise, the franchisee is entitled to use the franchisor's trade name and trademarks as part of the franchise agreement. Trademarks and trade names are the embodiment of goodwill. Philip Morris, Inc. v. Commissioner,96 T.C. at 606, 634. In enacting section122 1253(d)(2), Congress specifically provided for the amortization of the cost of "a franchise, trademark, or trade name" and thus provided for the amortization of assets whose value is inextricably related to goodwill. If the value of goodwill inherent in a franchise, trademark, or trade name could not be amortized, section 1253(d)(2)(A) would be largely inapplicable to most, if not all, private commercial franchises. This clearly was not Congress' intent. See Jefferson-Pilot Corp. v. Commissioner,98 T.C. 435">98 T.C. 435, 440-441 (1992). 26123 The McDonald's system also encompasses much of what is typically identified as going-concern value. Going-concern value is defined as "the additional element of value which attaches to property by reason of its existence as an integral part of a going concern." Philip Morris, Inc. v. Commissioner, supra at 637; VGS Corp. v. Commissioner,68 T.C. at 591; Conestoga Transportation Co. v. Commissioner,17 T.C. 506">17 T.C. 506, 514 (1951). Going-concern value relates less to the business reputation and the strength of customer loyalty than to the operating relationship of assets and personnel inherent in an ongoing business. UFE, Inc. v. Commissioner,92 T.C. 1314">92 T.C. 1314, 1323 (1989). Going-concern value is characterized by the ability of an acquired business to continue to operate and generate income without interruption during and after acquisition. 253 Solitron Devices, Inc. v. Commissioner,80 T.C. 1">80 T.C. 1, 19-20 (1983), affd. without published opinion 744 F.2d 95">744 F.2d 95 (11th Cir. 1984); VGS Corp. v. Commissioner, supra at 592.124 McDonald's vast experience in opening and operating restaurants means that many of the issues that a new business faces, and which are typically resolved only through trial and error, are already resolved through application of the McDonald's system. For instance, a new franchisee does not have to identify reliable suppliers because McDonald's provides the franchisee with a list of suppliers. Similarly, a new franchisee does not have to experiment with various procedures to determine the most efficient means for preparing its products and serving its customers because the McDonald's system already provides specific detailed instructions which describe the best operational methods and which reflect McDonald's years of experience in operating literally thousands of restaurants.One aspect of going-concern value which petitioners concede is not included in a McDonald's franchise is the cost of assembling and training a new work force which is avoided by purchasing a restaurant that is already operating. Petitioners, however, argue that this cost is minimized under the McDonald's system. We agree. In many cases, a new franchisee is able to train new employees in another McDonald's125 restaurant, thereby avoiding the need to make inefficient "dry runs". McDonald's has institutionalized crew training, and its vast training resources enable a franchisee to assemble a crew on very short notice. Moreover, McDonald's restaurants experience a high turnover rate, so the enhanced value flowing from a trained work force is not as significant as it is in other businesses. Thus, although some going-concern value attributed to having a trained work force in place is not encompassed by the McDonald's franchise, this aspect of going-concern value is not as significant as it would be in many other businesses.Attached as an appendix is a table that reflects what petitioners claim is the maximum going-concern value of the restaurants involved in these cases. Petitioners rely on the expert opinion of Daniel A. MacMullan and the report prepared by the Manufacturers' Appraisal Co. to support these values. On brief, respondent accepts in principle the going-concern 254 values reflected in Mr. MacMullan's report, 27 and "essentially agrees with the petitioners that operating McDonald's restaurants have comparatively little 'going concern value', when that term is understood126 to mean 'avoided start-up costs'." This seems to be Mr. MacMullan's understanding of the term. We, therefore, accept Mr. MacMullan's determinations concerning the amount of going-concern value that is separate from the franchise.Respondent argues that petitioners also purchased the expectancy that McDonald's would renew the franchise at the end of its term and that this expectancy is a separate127 intangible asset to which a portion of the purchase price could be allocated. Prior cases have considered the renewal feature of a franchise as an aspect of the franchise when determining whether the franchise has a reasonably ascertainable useful life. Finoli v. Commissioner,86 T.C. 697">86 T.C. 697, 738 (1986); Chronicle Publishing Co. v. Commissioner,67 T.C. 964">67 T.C. 964, 979-980 (1977); Rodeway Inns of America v. Commissioner,63 T.C. 414">63 T.C. 414, 422 (1974); Toledo TV Cable Co. v. Commissioner,55 T.C. 1107">55 T.C. 1107 (1971), affd. 483 F.2d 1398">483 F.2d 1398 (9th Cir. 1973); see also Rev. Rul. 66-140, 1 C.B. 45">1966-1 C.B. 45, for a statement of the Commissioner's views. These cases indicate that franchise renewal expectations are generally not considered separate intangible assets. We think that the expectancy of renewal of a McDonald's franchise is an attribute of the franchise itself rather than a separate asset. To the extent an expectancy of renewal exists, it is attributable to McDonald's general practice in dealing with franchisees.Respondent128 relies on Nachman v. Commissioner,191 F.2d 934">191 F.2d 934 (5th Cir. 1951), affg. 12 T.C. 1204">12 T.C. 1204 (1949), for the proposition that the prospect of renewal creates a separate intangible asset to which a portion of the purchase price is allocable. In Nachman, the taxpayer deducted, as an ordinary and necessary business expense, the full $ 8,000 that was paid to an existing licensee for a liquor license. Although the annual license fee was only $ 750, the local government limited the 255 number of available liquor licenses and preferred to issue licenses to holders of existing licenses. The taxpayer was allowed to deduct the amount paid in consideration for the annual license fee, but the balance of the purchase price was held to have been paid for a capital asset that could not be amortized because it did not have an ascertainable useful life. The court did not hold that the renewal feature was a capital asset that was separate and distinct from the license. Rather, the renewal feature was an aspect of the license which enhanced its value as a capital asset. See Hall v. Commissioner,406 F.2d 706">406 F.2d 706, 710 (5th Cir. 1969)129 (stating that the liquor license in Nachman was renewable and therefore had an indeterminate useful life), affg. 50 T.C. 186">50 T.C. 186 (1968); Commissioner v. Indiana Broadcasting Corp.,350 F.2d 580">350 F.2d 580, 586 (7th Cir. 1965) (stating that the liquor license in Nachman was "indefinite in duration and, therefore, a non-depreciable capital asset"), revg. 41 T.C. 793">41 T.C. 793 (1964); Curry v. United States,298 F.2d 273">298 F.2d 273, 275-276 (4th Cir. 1962) (stating that the liquor license in Nachman was "enhanced in value by an almost limitless right of renewal and transferability"); Hall v. Commissioner, 50 T.C. at 199 (stating that the liquor license in Nachman was renewable and had an indeterminate useful life). Nachman is consistent with precedent holding that the renewal feature of a license is not a separate asset; instead, it is an aspect of the license which is examined to determine whether the license itself has an ascertainable useful life.Respondent also argues that "It is also undisputed that current owner-operators have an 'inside track' in130 acquiring both new and operating McDonald's restaurants" and that by selling a McDonald's franchise, the seller is conferring on the buyer the rights to this "inside track". Respondent concludes that the right to this "inside track" constitutes a separate nonamortizable asset to which part of the purchase price should be allocated. We have three responses to this argument.First, it is not entirely clear that existing franchisees have an "inside track" on acquiring existing franchises. Respondent claims existing franchisees had this inside track because they acquired 61.5 percent of all "new" locations and 63.3 percent of all transferred locations, compared to 12.9 percent and 29.4 percent, respectively, for new franchisees. However, 256 because the record contains insufficient information to compare the percentage of applicants who already own a franchise to the percentage who do not, we are unable to ascertain whether this "inside track" exists. An existing franchisee who properly implements the McDonald's system may receive an "expandable" designation, but this designation is personal to the franchisee. The "expandable" designation is not transferred pursuant to the131 sale of the restaurant, and allocation of a portion of the purchase price to this designation is not appropriate. See Solitron Devices, Inc. v. Commissioner,80 T.C. at 17 (indicating that it is improper to allocate a portion of the purchase price to assets not transferred pursuant to the sale).Second, even if this alleged "inside track" did exist, it would only be of value to buyers who did not already own a McDonald's restaurant. A buyer who already owned a McDonald's restaurant would, presumably, already be privy to this "inside track" and would not pay for it when purchasing an additional McDonald's restaurant. At least five petitioners owned more than one McDonald's restaurant. It would be inappropriate to allocate a portion of the purchase price paid by these petitioners for their second or third restaurant to the purchase of an "inside track". If an "inside track" existed, they already had it. The record indicates that the price paid for a McDonald's restaurant is typically a function of the restaurant's previous 12-month sales volume. 28 Whether the buyer already owns a McDonald's restaurant does not appear to affect the price.132 Third, whatever "inside track" may exist as a result of being a franchisee results from and is an attribute of the franchise. As previously stated, we perceive no justification for creating a separate asset for every benefit derived from being a franchisee.257 Respondent argues that part of the purchase price reflects the price paid to the seller for his uncompensated investment of time in the McDonald's training program. We can see no motivation for a buyer to pay for this, nor can we conceive of how the seller's uncompensated training time could be considered an asset used in the buyer's operation of a restaurant. The seller cannot transfer his personal training to the buyer and, indeed, McDonald's requires buyers to complete the same training program before McDonald's will consent to the transfer of the franchise. Respondent's position would require us to accept the unusual concept that cost basis can be allocated to property other than the property purchased. We refuse to do this. Solitron Devices, Inc. v. Commissioner,80 T.C. at 17.Finally, respondent contends that the "high demand" for McDonald's restaurants and the buyer's interest133 in accelerating the opportunity to enjoy the extraordinary return on investment, characteristic of McDonald's restaurants, represent intangible assets to which a portion of the purchase price is properly allocable. We disagree. High demand is simply a factor that affects the price paid for the franchise. Likewise, a purchaser's willingness to pay for the immediate right to enter a lucrative business operation does not create a separate asset. See Solitron Devices, Inc. v. Commissioner, supra.We conclude that the purchase price of the franchises should be determined by subtracting the value of the tangible assets and going-concern value from the purchase price. This formula is based on our conclusion that, except for going-concern value, all other intangible asset value is attributable to the franchise. We hold that petitioners are entitled to amortize the amount of the purchase price allocated to the franchises pursuant to section 1253(d)(2)(A). These amounts are reflected in the appendix.Decisions will be entered under Rule 155 in docket Nos. 38037-87, 31478-88, 31479-88, 13576-89, and 15038-89.An appropriate order will be issued in 134 docket Nos. 31477-88, 10551-89, 14540-89, 14849-89, 15037-89, and 16033-89.258 APPENDIXGoingPurchasePurchase-Tangible-concern=FranchiseRestaurant locationdatepriceassetsvaluevalueClark, Ave.,Cleveland, Ohio4/15/78$ 453,418$ 52,951$ 21,000$ 379,467Detroit Ave.,Cleveland, Ohio4/1/79450,00065,07224,000360,928Mayfield Rd.,Mayfield Hts., Ohio7/1/79460,00072,10024,000363,900Richland Ave.,Athens, Ohio6/30/72330,000120,00014,000196,000Bealle Ave.,Wooster, Ohio11/21/75398,35178,43917,000302,912High St.,Wadsworth, Ohio11/21/75564,851127,16017,000420,691Mira Mesa Blvd.,Mira Mesa, Cal.12/22/80398,42274,00026,000298,422Cuyamaca St.,Santee, Cal.9/30/78340,00080,00021,000239,000Lake Murray Blvd.,San Diego, Cal.12/1/81324,750290,00029,0005,750Garnet Ave.,San Diego, Cal.10/31/78235,000-0-21,000214,000Broadway,Lemon Grove, Cal.12/29/81365,000125,00029,000211,000Fletcher Pkwy.,El Cajon, Cal.3/31/82272,372110,25931,000131,113Mira Mesa Blvd.,Mira Mesa, Cal.1/31/83734,74353,00032,000649,743Main St.,Ramona, Cal.12/31/84386,717181,78633,000171,931Cuyamaca St.,Santee, Cal.1/23/83473,60576,62932,000364,976Lake Murray Blvd.,San Diego, Cal.1/21/83346,18093,78132,000220,399135 Footnotes1. Cases of the following petitioners are consolidated herewith: T.P. Corp., docket No. 31477-88; T.C.K.S., Inc., docket No. 31478-88; Shoff-Athens, Inc., docket No. 31479-88; Joseph R. Benden and Rose Ann Benden, docket No. 10551-89; Samuel Whiting and Susan R. Whiting, docket No. 13576-89; Lloyd J. Morris and Melissa S. Morris, docket No. 14540-89; Stanley N. Fiddelke and Alene T. Fiddelke, docket No. 14849-89; Philip L. Palumbo and Joanne M. Murphy, formerly Joanne M. Palumbo, docket No. 15037-89; John E. Ryal III and Barbara L. Ryal, docket No. 15038-89; and Richard L. Adams and Paula L. Adams, docket No. 16033-89.↩2. McOpCo is actually a separate franchisee, and as such, it executes a franchise agreement with McDonald's for each restaurant containing the same terms and conditions as franchise agreements with other franchisees. Since 1979, McOpCo has operated between 20 and 25 percent of total McDonald's restaurants in the United States.↩3. Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the taxable years in issue (1980 through 1986), and all Rule references are to the Tax Court Rules of Practice and Procedure.↩4. Some of the individual cases involve separate substantive issues. The parties have stipulated that to the extent there are other issues involved in the individual cases, the parties will endeavor to settle those issues and a separate trial of those issues will be held if settlement is not possible.Respondent concedes that petitioners' amortization deductions were not due to negligence or intentional disregard of rules and regulations.↩5. McDonald's prohibits franchisees from using their name in the operation, advertisement, or promotion of the franchise. Only the name McDonald's may be used in conjunction with the operation, advertisement, or promotion of a McDonald's franchise.↩6. A franchisee must serve only those food items specified by McDonald's.↩7. These features identify the store as a McDonald's restaurant, even where zoning restrictions preclude other advertising or signs.↩8. Petitioners provided testimony which indicated that the amount charged under the operator's lease exceeded the fair rental value of the premises leased. Respondent apparently accepts this testimony. Respondent does not allege that any separate leasehold value was acquired by petitioners in these cases.↩9. In meeting these requirements, prospective franchisees may rely only on personal resources, since McDonald's does not permit inactive partners or investors.↩10. The Operations and Training Manual is constantly revised and updated; it is reprinted in full every 2 years. Interim manual chapters are developed when changes to operational procedures are required, as well as when new products are introduced to the system.↩11. In addition to visits by field service consultants, others in the McDonald's system, including high-level management, regularly pay informal visits to franchises. These informal, unscheduled visits reinforce the importance of consistent adherence to the standards prescribed by the system.↩12. Currently, there are 167 local advertising cooperatives' employing 65 independent ad agencies. Local advertising cooperatives run in their own markets the successful promotions developed by other local co-ops, spreading the promotion throughout the McDonald's system.↩13. See supra↩ note 2.14. This deposit is a noninterest-bearing, refundable, security deposit. It is used by McDonald's to cover any potential delinquent receivables from the franchisee or to pay for repairs or maintenance necessary if the lease terminates. Any part of the security deposit which is unused is refunded to the franchisee at the end of the lease term.↩15. The turnover rate is computed by dividing the total number of crew employees hired during the calendar year by the total number of crew positions.↩16. Respondent seems to argue that a reasonable business person would not follow a philosophy that did not extract maximum value for a franchise. In our opinion, McDonald's had cogent business reasons for charging less than market value for new franchises and it appears that McDonald's approach has worked rather well.↩17. Revenue rulings are an official interpretation by the Commissioner of the revenue laws and may be relied on by taxpayers whose facts and circumstances are substantially the same. Rev. Proc. 86-15, 1 C.B. 544">1986-1 C.B. 544. Congress has cited Rev. Rul. 88-24, 1 C.B. 306">1988-1 C.B. 306↩, with approval. See H. Conf. Rept. 101-386, at 617 n.1 (1989); H. Rept. 101-247, at 1348 (1989).18. Proposed regulations have not been formally adopted and are not binding on this Court. Proposed regulations are tantamount to a position advanced by respondent on brief. F.W. Wool-worth Co. v. Commissioner,54 T.C. 1233">54 T.C. 1233, 1265-1266↩ (1970).19. On at least five occasions, respondent has indicated that the subsequent franchisee may amortize the full purchase price paid to the original franchisee even when that price exceeded the amount paid for the franchise by the original franchisee. See Priv. Ltr. Rul. 87-43-014 (July 24, 1987); Priv. Ltr. Rul. 87-39-054 (July 1, 1987); Priv. Ltr. Rul. 87-36-047 (June 10, 1987); Tech. Adv. Mem. 87-28-010 (Apr. 3, 1987); Tech. Adv. Mem. 86-30-002 (Jan. 27, 1986). In these rulings and memoranda, the original franchisee did not make an initial payment for the rights granted under the franchise. Nevertheless, respondent indicated that the subsequent franchisee could amortize the full amount paid for the franchise rights. Although private letter rulings are not precedent, sec. 6110(j)(3), they "do reveal the interpretation put upon the statute by the agency charged with the responsibility of administering the revenue laws." Hanover Bank v. Commissioner,369 U.S. 672">369 U.S. 672, 686 (1962); see Rowan Cos. v. United States,452 U.S. 247">452 U.S. 247, 259 (1981); Estate of Cristofani v. Commissioner,97 T.C. 74">97 T.C. 74, 84 n.5 (1991); Estate of Jalkut v. Commissioner,96 T.C. 675">96 T.C. 675 (1991); Woods Investment Co. v. Commissioner,85 T.C. 274">85 T.C. 274, 281 n.15 (1985); see also Hall v. Commissioner,T.C. Memo. 1991-133↩.20. Goodwill is typically represented by trade names and trademarks. Philip Morris, Inc. v. Commissioner,96 T.C. 606">96 T.C. 606, 634 (1991), affd. 970 F.2d 897">970 F.2d 897↩ (2d Cir. 1992).21. The situations of Messrs. Ahern and Schupack were unique in that they both owned the premises on which their restaurants were located.↩22. This is not to imply that location is an unimportant factor. However, McDonald's owned or leased the land and buildings housing petitioners' restaurants and leased this property to petitioners on terms that equaled or exceeded the fair rental value. Thus, respondent makes no argument that a portion of the purchase price should be allocated to the value of the leasehold. See supra↩ note 8.23. Even if we were inclined to accept respondent's position that there was some goodwill apart from the franchise, respondent has not proposed a value to be attributed to such goodwill and presented no expert testimony on this topic. Respondent did not present any experts to support her position that the franchises should be valued at $ 12,500, nor did respondent present experts to show that the valuation methods employed by petitioners' experts were improper.↩24. Patrick J. Kaufman, Ph.D, is an associate professor of marketing at Georgia State University.↩25. Daniel A. MacMullan is senior vice president of the Manufacturers' Appraisal Co. and specializes in the valuation of business interests.↩26. Sec. 1.1253-1(d)(2), Example (1), Proposed Income Tax Regs., 36 Fed. Reg. 13151 (July 15, 1971), contains an illustration of the sale of an operating restaurant along with the right to continue to use the seller's trade name. Of the purchase price, $ 100,000 is attributed to intangibles ($ 40,000 to an anticipated increase in sales resulting from a proposed new highway and $ 60,000 to the right to use the seller's trade name). The example in the proposed regulation makes no separate allocation to the "goodwill" that is inherent in the trade name. The example would allow the entire $ 60,000 allocable to the trade name to be amortized under sec. 1253(d)(2)(A). This illustration demonstrates that the value of goodwill inherent in a trade name, trademark, or franchise is subsumed in the franchise, trademark, or trade name for purposes of amortization under sec. 1253. We mention this example recognizing that proposed regulations are not authoritative, see supra note 18; however, they do reflect the Commissioner's views, see supra↩ note 19.27. In response to petitioners' requested findings of fact on this point, respondent's only objection is to petitioners' characterization of the amount determined by Mr. MacMullan as the "maximum" amount of going-concern value. The basis for this objection is Mr. MacMullan's testimony that his valuation included all the material elements of going-concern value but that it was "possible" that other elements may exist. Respondent has not identified what these other elements could be, and we are not aware of any. Thus, we conclude that this objection aside, respondent basically agrees with the value reached by Mr. MacMullan.↩28. The parties stipulate that a franchisee who entered into a BFL arrangement with McDonald's may exercise the option to purchase the restaurant at the greater of the "minimum option price" or a specified percentage of the restaurant's previous 12-month sales volume (referred to as trailing 12-month sales). Petitioners presented the testimony of Mr. Winston Christiansen, a senior vice president at McDonald's who is very familiar with all aspects of the McDonald's franchise system. Mr. Christiansen testified that the specified percentage of the trailing 12-month sales upon which the purchase price is based ranged from 42 to 52 percent in 1991. He indicated that this price was slightly below market price. Mr. Christiansen also testified that the price paid by McOpCo for an existing franchise was based on trailing 12-month sales. The record indicates that third-party purchasers of McDonald's restaurants also base their purchase price on trailing 12-month sales.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4619879/	JAMES H. SWANSON AND JOSEPHINE A. SWANSON, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentSwanson v. CommissionerDocket No. 21203-92United States Tax Court106 T.C. 76; 1996 U.S. Tax Ct. LEXIS 3; 106 T.C. No. 3; February 14, 1996, Filed 3 An appropriate order will be issued and decision will be entered pursuant to Rule 155. Ps filed a motion for reasonable litigation costs pursuant to Rule 231, Tax Court Rules of Practice and Procedure, and sec. 7430, I.R.C., claiming that R was not substantially justified in determining that: (1) Prohibited transactions had occurred under sec. 4975, I.R.C., with respect to a domestic international sales corporation, a foreign sales corporation, and two individual retirement accounts; and (2) the sale of Ps' Illinois residence to P's closely held corporation was a sham transaction. 1. Held: R was not substantially justified with respect to the first issue, but was substantially justified with respect to the second issue. 2. Held, further, net worth, for purposes of the Equal Access to Justice Act, 28 U.S.C. sec. 2412(d)(2)(B) (1994), as incorporated by sec. 7430(c)(4)(A)(iii), is determined based upon the cost of acquisition rather than the fair market value of assets, and was less than $ 2 million each with respect to Ps on the date their petition was filed. 3. Held, further, Ps' failure to request an Appeals Office conference4 did not constitute a "[refusal] * * * to participate in an Appeals office conference" within the meaning of sec. 301.7430-1(e)(2)(ii), Proced. & Admin. Regs., and, because no 30-day letter was issued to Ps prior to the mailing of their notice of deficiency, Ps are deemed to have per se exhausted their administrative remedies for purposes of sec. 7430(b)(1). 4. Held, further, Ps have not unreasonably protracted the proceedings within the meaning of sec. 7430(b)(4). 5. Held, further, the amount sought by Ps for litigation costs in this matter is not reasonable and must be adjusted to comport with the record. Neal J. Block and Maura Ann McBreen, for petitioners. Gregory J. Stull, for respondent. DAWSON, DEANDEAN76 OPINION DAWSON, Judge: This case was assigned to Special Trial Judge John F. Dean pursuant to the provisions of section 7443A(b)(4) and Rules 180, 181, and 183. 1 The Court agrees 77 with and adopts the Special Trial Judge's opinion, which is set forth below. 5 OPINION OF THE SPECIAL TRIAL JUDGE DEAN, Special Trial Judge: This matter is before the Court pursuant to petitioners' motion for award of reasonable litigation costs under section 7430 and Rule 231. References to petitioner are to James H. Swanson. The matter before us involves petitioners' combined use of a domestic international sales corporation, a foreign sales corporation, and two separate individual retirement accounts as a means of deferring the recognition of income. Respondent zealously strove to characterize this arrangement, as well as an unrelated sale by petitioners of their Illinois residence, as tax avoidance schemes. A protracted period of entrenchment ensued, during which the parties firmly established their respective positions, neither side wavering from its conviction that it was in the right. Ultimately, however, these issues were resolved by respondent's notice of no objection to petitioners' motion for partial summary judgment as well as the entry of an agreed decision document, which was later set aside and filed as a stipulation of settlement. As a consequence, petitioners now seek redress for what they claim were unreasonable positions taken by respondent. 6 A. Factual BackgroundPetitioners resided in Florida at the time the petition was filed. At all times relevant to the following discussion, petitioner was the sole shareholder of H & S Swansons' Tool Company (hereinafter, Swansons'Tool), which has operated as a Florida corporation since 1983. 2Swansons'Tool elected to be taxed as a subchapter S corporation effective in 1987. Swansons'Tool is in the business of building and painting component parts for various equipment manufacturers. As a part of these activities, Swansons'Tool manufactures and exports property for use outside the United States. 78 1. The DISC and IRA #1Following the advice of experienced counsel, petitioner arranged in the early part of January 1985 for the organization of Swansons'Worldwide, Inc., a domestic international sales corporation (hereinafter7 the DISC or Worldwide). During this period, petitioner also arranged for the formation of an individual retirement account (hereinafter IRA #1). The articles of incorporation for Worldwide were filed on January 9, 1985, and under the terms thereof petitioner was named the corporation's initial director. Shortly thereafter, Worldwide filed a Form 4876A, Election to be Treated as an Interest Charge DISC. A Form 5305, Individual Retirement Trust Account, was filed on January 28, 1985, establishing Florida National Bank (hereinafter Florida National) as trustee of IRA #1, and petitioner as the grantor for whose benefit the IRA was established. Under the terms of the IRA agreement, petitioner retained the power to direct IRA #1's investments. On the same day that the Form 5305 was filed, petitioner directed Florida National to execute a subscription agreement for 2,500 shares of Worldwide original issue stock. The shares were subsequently issued to IRA #1, which became the sole shareholder of Worldwide. For the taxable years 1985 to 1988, Swansons'Tool paid commissions to Worldwide with respect to the sale by Swansons'Tool of export property, as defined by section 993(c). In those8 same years, petitioner, who had been named president of Worldwide, directed, with Florida National's consent, that Worldwide pay dividends to IRA #1. 3 Commissions paid to Worldwide received preferential treatment, 4 and the dividends paid to IRA #1 were tax deferred pursuant to section 408. Thus, the net effect of these transactions was to defer 79 recognition of dividend income that otherwise would have flowed through to any shareholders of the DISC. In 1988, IRA #1 was transferred from Florida National Bank to First Florida Bank, N.A. (hereinafter First Florida), 9 as custodian. Swansons'Tool stopped paying commissions to Worldwide after December 31, 1988, as petitioners no longer considered such payments to be advantageous from a tax planning perspective. 2. The FSC and IRA #2In January 1989, petitioner directed First Florida to transfer $ 5,000 from IRA #1 to a new individual retirement custodial account (hereinafter IRA #2). Under the terms of the IRA agreement, First Florida was named custodian of IRA #2, and petitioner was named as the grantor for whose benefit the IRA was established. Under the terms of the IRA agreement, petitioner reserved the right to serve as the "Investment Manager" of IRA #2. Contemporaneous with the formation of IRA #2, petitioner incorporated H & S Swansons' Trading Company (hereinafter Swansons' Trading or the FSC). Petitioner directed First Florida to execute a subscription agreement for 2,500 newly issued shares of Swansons' Trading stock. The shares were subsequently issued to IRA #2, which became the corporation's sole shareholder. Swansons' Trading filed a Form 8279, Election To Be Treated as a FSC or as a Small FSC, on March 31, 1989, and paid a dividend to IRA #2 in the amount of $ 28,000 during10 the taxable year 1990. 3. The Algonquin PropertyIn anticipation of Swansons'Tool's transferring its operations to Florida, petitioners moved during 1981 from their Algonquin, Illinois, residence (hereinafter, the Algonquin property or the property) to a condominium in St. Petersburg, Florida. The Algonquin property was not advertised for sale until sometime during 1983. Conscious of a change in the Internal Revenue Code which would eliminate preferential treatment of capital gain recognized on the sale of their home, petitioners sought to sell the 80 Algonquin property prior to December 31, 1986. 5 As time was clearly a factor, petitioners arranged to sell the property to a trust of which Swansons'Tool was the beneficiary. Accordingly, on December 19, 1986, petitioners conveyed the Algonquin property to "Trust No. 234, Barry D. Elman, trustee," (hereinafter Trust No. 234) under a Deed in Trust, which was received and filed by the Recorder for the city of McHenry, Illinois. As a consequence of this transaction, petitioners reported a long-term capital gain of $ 141,120.78 on Schedule D, Capital Gains and Losses, of their 1986 Federal income tax return, reflecting a $ 225,00011 sale price and an $ 83,879 basis. Petitioners continued paying the electric bills, heating, exterior maintenance, and house sitting expenses of the Algonquin property through May or June of 1987. In March of 1988, Swansons'Tool reimbursed petitioners for maintenance and repair expenses incurred during the time period December 1986 through May 1987, as well as the expense of moving petitioners' personal belongings in September 1987. Swansons'Tool capitalized these expenditures as part of its basis in the Algonquin property. Subsequent to the signing of a "Real Estate Sales Contract" during March of 1988, the Algonquin property was sold by Swansons'Tool to an unrelated third party on June 23, 1988. Petitioners' daughter, Jill, resided at the Algonquin residence from May12 of 1987 through June of 1988. Although the record is not clear as to the extent of usage, it appears that petitioners also periodically stayed at the residence subsequent to its sale on December 19, 1986. 4. The Notice of DeficiencyDespite petitioners' agreement to extend the period of limitations in their case until June 30, 1992, petitioners did not receive a 30-day letter prior to the notice of deficiency. Petitioners agreed to the extension in the hope of resolving the case at the administrative level. In the notice of deficiency, dated June 29, 1992, respondent set forth one primary and three alternative positions for determining deficiencies in petitioners' Federal income taxes 81 and additions to tax for negligence with respect to petitioners' 1986, 1988, 1989, and 1990 taxable years. Of relevance to the present matter were respondent's determinations that: (1) "Prohibited transactions" had occurred which resulted in the termination of IRA's #1 and #2; and (2) the sale of the Algonquin property to a trust in 1986 was a "sham" transaction which could not be recognized for tax purposes. a. "Prohibited Transactions"Because the notice of deficiency failed to adequately13 explain respondent's bases for determining deficiencies and additions to tax with respect to the years at issue, petitioners requested and received the revenue agent's report in their case. As demonstrated by the revenue agent's report, respondent identified, as alternative positions, two "prohibited transactions" which resulted in the loss of IRA #1's status as a trust under section 408. First, respondent concluded that: Mr. Swanson is a disqualified person within the meaning of section 4975(e)(2)(A) of the Code as a fiduciary because he has the express authority to control the investments of * * [IRA #1]. Mr. Swanson is also an Officer and Director of Swansons' Worldwide. Therefore, direct or indirect transactions described by section 4975(c)(1) between Swansons' Worldwide and * * * [IRA #1] constitute prohibited transactions. Mr. Swanson, as an Officer and Director of Worldwide directed the payment of dividends from Worldwide to * * * [IRA #1] * * * * The payment of dividends is a prohibited transaction within the meaning of section 4975(c)(1)(E) of the Code as an act of self-dealing where a disqualified person who is a fiduciary deals with the assets of the plan14 in his own interest. The dividend paid to * * [IRA #1] December 30, 1988 will cause the IRA to cease to be an IRA effective January 1, 1988 by reason of section 408(e)(1). Therefore, by operation of section 408(d)(1), the fair market value of the IRA is deemed distributed January 1, 1988. [Emphasis added.]As further demonstrated by the revenue agent's report, respondent's second basis for disqualifying IRA #1 under section 408 was that: In his capacity as fiduciary of * * * [IRA #1], Mr. Swanson directed the bank custodian, Florida National Bank, to purchase all of the stock of Swansons' Worldwide. At the time of the purchase, Mr. Swanson was the sole director of Swansons' Worldwide. The sale of stock by Swansons' Worldwide to Mr. Swanson's Individual Retirement Account constitutes a 82 prohibited transaction within the meaning of section 4975(c)(1)(A) of the Code. The sale occurred February 15, 1985. By operation of section 408(e)(2)(A) of the Code, the Individual Retirement Account ceases to be an Individual Retirement Account effective January 1, 1985. Effective January 1, 1985 the Individual Retirement Account is not exempt from tax under section 408(e)(1)15 of the Code. The fair market value of the account, including the 2500 shares of Swansons' Worldwide, is deemed to have been distributed to Mr. Swanson in accordance with section 408(e)(2)(B) of the Code. Therefore, Mr. Swanson effectively became the sole shareholder of Swansons' Worldwide, Inc. with the loss of the IRA's tax exemption. [Emphasis added.]Although the record is not entirely clear on the matter, it appears that respondent imputed to IRA #2 the prohibited transactions found with respect to IRA #1 and used similar reasoning to disqualify IRA #2 as a valid trust under section 408(a). b. "Sham Transaction"With respect to the Algonquin property, respondent concluded in the notice of deficiency that: the purported sale of your personal residence located in Algonquin, Illinois by you in 1986 to Trust #234, Barry D. Elman, Trustee, of which your corporation, H & S Swansons' Tool Company, Inc. is the beneficiary, can not be recognized for tax purposes. The purported sale in 1986 was no more than a sham transaction which was entered into for tax avoidance purposes. It is determined that the purported sale served no other purpose than to enable you to obtain the16 tax benefit of a long term capital gain deduction of 60 percent that would not have been available had the sale occurred in tax years subsequent to 1986. * * [Emphasis added. 6]5. The Petition, Answer, Motion for Summary Judgment, and Settlement AgreementIn their petition, filed September 21, 1992, petitioners stated with respect to respondent's determination of "prohibited transactions" that: (1) At all pertinent times IRA #1 was the sole shareholder of Worldwide; (2) since the 2,500 shares of Worldwide issued to IRA #1 were original issue, no sale or exchange of the stock occurred; (3) from and after the dates of his appointment as director and president of Worldwide, Mr. Swanson engaged in no activities on behalf of Worldwide83 which benefited him other than as a beneficiary of IRA #1; (4) IRA #1 was not maintained, sponsored, or contributed to by Worldwide during the years at17 issue; (5) at no time did Worldwide have any active employees; and (6) Mr. Swanson engaged in no activities on behalf of Swansons' Trading which benefited him other than as a beneficiary of IRA #2. With respect to the Algonquin residence, petitioners stated, in pertinent part, that: (1) On December 19, 1986, petitioners conveyed the Algonquin property by a Deed in Trust to a trust of which Swansons'Tool was the beneficiary; (2) the transfer documents conveyed full legal and beneficial ownership from petitioners to this trust; (3) at no time did petitioners act in any manner that was inconsistent with their transfer of all their right, title, and interest in the Algonquin property; and (4) subsequent to the sale, petitioners had no rights as tenants of the property other than as tenants at will. Respondent filed an answer on November 13, 1992, denying, or denying for lack of knowledge, each of the allegations listed above. Petitioners filed a motion for partial summary judgment on March 22, 1993. In their motion, petitioners restated their position, as set forth in their petition, that no prohibited transactions had occurred with respect to IRA's #1 and #2. On July 12, 1993, respondent18 filed a notice of no objection to petitioners' motion for partial summary judgment, thereby ending the controversy on the DISC and FSC issues. Respondent conceded the Algonquin property issue in a settlement agreement entered into on January 24, 1994. The parties agreed at that time to a total deficiency of $ 11,372.40, which reflected an amount conceded by petitioners in their petition as capital gain inadvertently omitted from their 1988 Federal income tax. A stipulated decision (hereinafter the decision) was submitted by the parties and entered on February 9, 1994. 6. Motion for Award of Reasonable Litigation CostsOn March 14, 1994, this Court received petitioner Josephine Swanson's motion for award of reasonable litigation costs (hereinafter also referred to as the motion). Finding that it was not petitioner Josephine Swanson's intent that the decision entered on February 9, 1994, be conclusive 84 as to the issue of attorney's fees, the Court ordered on April 29, 1994, that the decision be vacated and set aside. The Court further ordered that the decision of February 9, 1994, be filed as a stipulation of settlement, that petitioner Josephine Swanson's motion for award of 19 reasonable litigation costs be filed, and that respondent file a response to petitioner Josephine Swanson's motion in accordance with Rule 232(c). Respondent's objection to petitioner Josephine Swanson's motion for award of reasonable litigation costs was filed on June 29, 1994. Petitioners sought leave to file a response to respondent's objection by a motion filed August 3, 1994, which was granted. Petitioners filed an amendment to the motion for award of reasonable litigation costs (hereinafter amendment to motion) on August 1, 1994, pursuant to which petitioner James Swanson joined petitioner Josephine Swanson as a party to the motion. Petitioners filed their response to respondent's objection to petitioners' motion for award of reasonable litigation costs on September 15, 1994. Following a conference call with the parties on March 20, 1995, the parties were ordered to file a stipulation of facts with respect to items of net worth reported by petitioners on attachment II of their amendment to motion. They were further ordered to file a stipulation of facts regarding the issue of attorney's fees paid or incurred by petitioners. If the parties could not stipulate facts with respect20 to either issue, they were ordered to file a status report with the Court on or before May 1, 1995. On May 1, 1995, the parties participated in a conference call, during which they agreed to stipulate certain items of net worth reported on attachment II of petitioners' amendment to motion. The parties also agreed to stipulate that petitioners paid or incurred fees in this matter. The parties disagreed, however, as to the proper method for determining the acquisition cost of specific items on attachment II of petitioners' amendment to motion. With respect to these items, the parties were ordered to file, on or before June 1, 1995, simultaneous memoranda of law, and, on or before July 3, 1995, answering memoranda of law. 85 B. DiscussionAs an initial matter, we reject respondent's argument that it was improper for us to have vacated the decision of February 9, 1994, thereby allowing petitioners to file their motion for award of reasonable litigation costs. This Court may, in its sound discretion, set aside a decision that has not yet become final. See, e.g., Cassuto v. Commissioner, 93 T.C. 256">93 T.C. 256, 260 (1989), affd. in part, revd. in part, and remanded21 on another issue 936 F.2d 736">936 F.2d 736 (2d. Cir. 1991). Having so held, we turn to the merits of petitioners' motion. Section 7430 provides that, in any court proceeding brought by or against the United States, the "prevailing party" may be awarded reasonable litigation costs. Sec. 7430(a). To qualify as a "prevailing party" for purposes of section 7430, petitioners must establish that: (1) The position of the United States in the proceeding was not substantially justified; (2) they substantially prevailed with respect to the amount in controversy, or with respect to the most significant issue presented; and (3) they met the net worth requirements of 28 U.S.C. sec. 2412(d)(2)(B) (1994), on the date the petition was filed. Sec. 7430(c)(4)(A). Petitioners must also establish that they exhausted the administrative remedies available to them within the Internal Revenue Service and that they did not unreasonably protract the proceedings. Sec. 7430(b)(1), (4). Petitioners bear the burden of proof with respect to each of the preceding requirements. Rule 232(e). Although it is conceded that petitioners substantially prevailed in this22 case, respondent does not agree that her litigation position was not substantially justified. 7 Furthermore, respondent asserts that petitioners: (1) Have not satisfied the net worth requirements, (2) failed to exhaust the administrative remedies available to them within the Internal Revenue Service, (3) unreasonably protracted the proceedings, and (4) 86 have not shown that the costs they have claimed are reasonable. We will address each contested point in turn. 23 1. Whether Respondent's Litigation Position Was Substantially JustifiedIn 1986, Congress amended section 7430 to conform that provision more closely to the Equal Access to Justice Act (EAJA). Tax Reform Act of 1986, Pub. L. 99-514, sec. 1551, 100 Stat. 2085, 2752. Where the prior statute required taxpayers to prove that the Government's position in a proceeding was "unreasonable," the statute as amended now requires a showing that the position of the United States was "not substantially justified." Sec. 7430(c)(4)(A)(i). This Court has concluded that the substantially justified standard is essentially a continuation of the prior law's reasonableness standard. Sher v. Commissioner, 89 T.C. 79">89 T.C. 79, 84 (1987), affd. 861 F.2d 131">861 F.2d 131 (5th Cir. 1988). Thus, a position that is "substantially justified" is one that is "justified to a degree that could satisfy a reasonable person" or that has a "reasonable basis both in law and fact." Pierce v. Underwood, 487 U.S. 552">487 U.S. 552, 565 (1988) (internal quote marks omitted) (defining "substantially justified" in the context of the EAJA). Petitioners have not sought24 an award of administrative costs in this matter. Accordingly, we need only examine the question of whether respondent's litigation position was substantially justified. 8Respondent argues that we may not consider positions she took prior to the filing of the answer in determining whether her litigation position was substantially justified. In support, respondent cites, among other cases, 9Huffman v. Commissioner, 978 F.2d 1139 (9th Cir. 1992), affg. in part and revg. in part T.C. Memo. 1991-144. 25 Respondent is correct in stating that Huffman approves of a bifurcated analysis under section 7430, pursuant to which the two stages of a case, the administrative proceeding and the court proceeding, are considered separately. This bifurcated analysis: 87 not only ensures that the prevailing taxpayer is reimbursed for pre-litigation and litigation costs, but also supports Congress's intent that before an award of attorney's fees is made, the taxpayer must meet the burden of proving that the Government's position was not substantially justified. It affords another opportunity for the United States to reconsider an inappropriate position. [Id. at 1146.]Respondent's arguments on this point appear moot, however, as we find no discernible difference between the administrative and litigation positions she took in this matter. 10 See Lennox v. Commissioner, 998 F.2d 244">998 F.2d 244, 247-249 (5th Cir. 1993) (holding that the Government's position must be analyzed in the context of the circumstances that caused it to take that position), revg. in part and remanding T.C. Memo. 1992-382. 26 a. The DISC IssuePetitioners contend that respondent was not substantially justified in maintaining throughout the proceedings that prohibited transactions had occurred with respect to IRA #1, and by implication, IRA #2. We agree. As stated previously, respondent based her determination of prohibited transactions on section 4975(c)(1)(A) and (E). Section 4975(c)(1)(A) defines a prohibited transaction as including any "sale or exchange, or leasing, of any property between a plan 11 and a disqualified person". 1227 Section 88 4975(c)(1)(E) further defines a prohibited transaction as including any "act by a disqualified person who is a fiduciary 13 whereby he deals with the income or assets of a plan in his own interest or for his own account". We find that it was unreasonable for respondent to maintain that a prohibited transaction occurred when Worldwide's stock was acquired by IRA #1. The stock acquired in that transaction was newly issued--prior to that point in time, Worldwide had no shares or shareholders. A corporation without28 shares or shareholders does not fit within the definition of a disqualified person under section 4975(e)(2)(G). 1429 It was only afterWorldwide issued its stock to IRA #1 that petitioner held a beneficial interest in Worldwide's stock, thereby causing Worldwide to become a disqualified person under section 4975(e)(2)(G). 15 Accordingly, the issuance of stock to 89 IRA #1 did not, within the plain meaning of section 4975(c)(1)(A), qualify as a "sale or exchange, or leasing, of any property between a plan and a disqualified person". 16 Therefore, respondent's litigation position with respect to this issue was unreasonable as a matter of both law and fact. 30 We also find that respondent was not substantially justified in maintaining that the payments of dividends by Worldwide to IRA #1 qualified as prohibited transactions under section 4975(c)(1)(E). There is no support in that section for respondent's contention that such payments constituted acts of self-dealing, whereby petitioner, a "fiduciary", was dealing with the assets of IRA #1 in his own interest. Section 4975(c)(1)(E) addresses itself only to acts of disqualified persons who, as fiduciaries, deal directly or indirectly with the income or assets of a plan for their own benefit or account. Here, there was no such direct or indirect dealing with the income or assets of a plan, as the dividends paid by Worldwide did not become income of IRA #1 until unqualifiedly made subject to the demand of IRA #1. Sec. 1.301-1(b), Income Tax Regs. Furthermore, respondent has never suggested that petitioner, acting as a "fiduciary" or otherwise, ever dealt with the corpus of IRA #1 for his own benefit. Based on the record, the only direct or indirect benefit that petitioner realized from the payments of dividends by Worldwide related solely to his status as a participant of IRA31 #1. In this regard, petitioner benefited only insofar as IRA #1 90 accumulated assets for future distribution. Section 4975(d)(9) states that section 4975(c) shall not apply to: receipt by a disqualified person of any benefit to which he may be entitled as a participant or beneficiary in the plan, so long as the benefit is computed and paid on a basis which is consistent with the terms of the plan as applied to all other participants and beneficiaries.Thus, we find that under the plain meaning 17 of section 4975(c)(1)(E), respondent was not substantially justified in maintaining that the payments of dividends to IRA #1 constituted prohibited transactions. Respondent's litigation position with respect to this issue was unreasonable as a matter of both law and fact. 1832 Respondent would have us believe that the delay in settling the DISC issue was due to a statement in petitioners' motion for partial summary judgment that IRA #1 was exempt from tax at all times. In her memorandum in objection to petitioners' motion for litigation costs, respondent contends that this was a "new and overriding issue" that required her to determine whether "any other" prohibited transactions had occurred during the period covered by the notice of deficiency. We disagree. We need look no further than respondent's own memorandum to divine that the true reason for her delay in conceding the DISC issue was her desire to discover new facts with which to resuscitate her meritless litigation position. The following statements from respondent's memorandum are illuminating in this regard: due to the complexity of the prohibited transaction rules and the many ways in which disqualified person status can be achieved through specific relationships described in I.R.C. § 4975(e)(2), it was imperative that 91 respondent explore other possible violations before conceding that the facts (as represented by petitioner's counsel) demonstrated no violation. * * * Petitioner 33 husband established the IRA and created a DISC inside of his IRA to shelter from current income inclusion dividend payments made by an international trading company in which he was the sole shareholder. But for the existence of the IRA, such dividends would be currently taxable to him. If he had created the DISC outside of the IRA, and then sold some or all of the stock in the DISC to the IRA, the sale of stock in the DISC to his IRA would clearly violate the prohibited transactions rules under I.R.C. § 4975. Similarly, the payment of any dividends from his wholly owned corporation to his IRA that effectively allows him to avoid current income inclusion because he assigned his interest in the DISC to his IRA arguably represents an indirect benefit to him personally. For example, both petitioner husband and petitioner wife indirectly received a significant current tax benefit derived from the payment of DISC dividends into his IRA, rather than to the husband as a direct shareholder. But for the creation and maintenance of the IRA, petitioner husband (and, by virtue of her election to file a joint return, the petitioner wife) would have current income inclusion for payments34 from the trading corporation to the DISC. Accordingly, the transactions between his wholly-owned trading corporation to such entity are arguably indirect prohibited transactions between disqualified persons and the IRA. Also, since one slight variation in the structure or operation of the petitioner's transactions could have resulted in noncompliance with the prohibited transactions rules, it was clearly reasonable for respondent not to concede her position on answer and to analyze thoroughly all positions presented by petitioner's counsel during the litigation stage of the case. [Emphasis added.]We read the preceding statements as an acknowledgment by respondent that her litigation position, as developed in the administrative proceedings and adopted in her answer, was without a foundation in fact or law. This case is distinguishable from those in which respondent promptly conceded an unreasonable position taken in her answer, thereby avoiding an award of litigation costs. Nothing occurred between the filing of respondent's answer and her notice of no objection to alter the fact that she had misapplied the prohibited transaction rules of section 4975 to petitioners' case. 35 Accordingly, we find that respondent's litigation position with respect to IRA #1 was not substantially justified. Petitioners are therefore entitled to an award of litigation costs under section 7430. As respondent's determination of deficiencies with respect to IRA #2 was inexorably linked to the fate of IRA #1, the 92 award of litigation costs is also intended to cover respondent's litigation position with respect to IRA #2. 19b. The House IssuePetitioners contend that respondent was not substantially justified in determining that the sale of the Algonquin property to Trust No. 234 was a sham transaction. Respondent, on the other hand, argues that such a determination was reasonable, particularly in light of the postsale use by petitioners and their daughter. A "sham" transaction is one which, though it may be proper in form, lacks economic substance beyond the creation of tax benefits. Karr v. Commissioner, 924 F.2d 1018">924 F.2d 1018, 1022-1023 (11th Cir. 1991),36 affg. Smith v. Commissioner, 91 T.C. 733 (1988). In the context of a sale transaction, as here, the inquiry is whether the parties have in fact done what the form of their agreement purports to do. Grodt & McKay Realty, Inc. v. Commissioner, 77 T.C. 1221">77 T.C. 1221, 1237 (1981). The term "sale" is given its ordinary meaning for Federal income tax purposes and is generally defined as a transfer of property for money or a promise to pay money. Commissioner v. Brown, 380 U.S. 563">380 U.S. 563, 570-571 (1965). In deciding whether a particular transaction constitutes a sale, the question of whether the benefits and burdens of ownership have passed from seller to buyer must be answered. This is a question of fact which is to be ascertained from the intention of the parties, as evidenced by the written agreements read in light of the attendant facts and circumstances. Haggard v. Commissioner, 24 T.C. 1124">24 T.C. 1124, 1129 (1955), affd. 241 F.2d 288">241 F.2d 288 (9th Cir. 1956). Various factors to consider in making a determination as to whether a sale has occurred were summarized in Grodt & McKay Realty, Inc. v. Commissioner, supra at 1237-1238,37 as follows: (1) Whether legal title passes; (2) how the parties treat the transaction; (3) whether equity was acquired in the property; (4) whether the contract creates a present obligation on the seller to execute and deliver a deed and a present obligation on the purchaser to make payments; (5) whether the right of possession is vested in the purchaser; (6) which party pays the property taxes; (7) which party bears the risk of loss or damage to the 93 property; and (8) which party receives the profits from the operation and sale of the property. * * [Citations omitted.]An additional factor to be weighed is the presence or absence of arm's-length dealing. Falsetti v. Commissioner, 85 T.C. 332">85 T.C. 332, 348 (1985) (citing Estate of Franklin v. Commissioner, 64 T.C. 752">64 T.C. 752 (1975), affd. 544 F.2d 1045">544 F.2d 1045 (9th Cir. 1976)). We recognize that a number of the factors listed above favor petitioners' contention that the sale of the Algonquin property was not a "sham" transaction. Nevertheless, the fact remains that petitioners continued paying the heating, electricity, security, and maintenance expenses 38 incurred for the property until sometime in June 1987; i.e., over 5 months after their sale of the property to Trust No. 234. Petitioners also paid for a number of repairs to the property prior to its sale to a third party in 1988. Although petitioners were ultimately reimbursed for all or part of these expenses, it appears that such reimbursement did not occur until proximate to the time a contract of sale was signed between Trust No. 234 and the third party. Finally, we cannot discount the fact that petitioners and their daughter occupied the property at various times between the time of its sale to the trust and its ultimate sale to a third party. In the case of the daughter, this period of occupancy lasted just over 1 year and ended shortly before the property was sold to the third party in June of 1988. The foregoing takes on added significance in light of the fact that petitioner was on "both sides" of the initial sale--both as owner of the property and as the sole shareholder of Swansons'Tool. Combined with the questionable business purpose behind a manufacturing corporation's purchase of a personal residence, we do not find it unreasonable that respondent would challenge the39 sale as not being at arm's-length. Based on the record as a whole, we cannot say that respondent's position with respect to the house issue was unreasonable, as a matter of either law or fact. We recognize that petitioners have cited a number of cases supporting the proposition that sales to close corporations by shareholders are not "sham" transactions per se. We further note that petitioners cited cases supporting the permissible occupancy of a residence subsequent to its sale. A careful reading of each, however, does not persuade us that, based on the facts 94 of this case, respondent's litigation position was not substantially justified. Accordingly, we find that petitioners have failed to meet their burden of proof on this issue. 2040 Our conclusion is not diminished by the fact that respondent ultimately conceded this matter in petitioners' favor prior to trial. The determination of whether respondent's position was substantially justified is based on all the facts and circumstances surrounding a proceeding; the fact that respondent ultimately concedes or loses a case is not determinative. See Wasie v. Commissioner, 86 T.C. 962">86 T.C. 962, 968-969 (1986); DeVenney v. Commissioner, 85 T.C. 927">85 T.C. 927, 930 (1985). 2. Net WorthRespondent contends that petitioners have failed to demonstrate that they satisfied the net worth requirement of section 7430(c)(4)(A)(iii). To qualify as a prevailing party eligible for an award of litigation costs, a taxpayer must establish that he or she has a net worth that did not exceed $ 2 million "at the time the civil action was filed". 21 In the case of a husband and wife seeking an award of litigation costs, the net worth test is applied to each separately. Hong v. Commissioner, 100 T.C. 88">100 T.C. 88, 91 (1993). 41 Although the term "net worth" is not statutorily defined, the legislative history to the EAJA states: "In determining the value of assets, the cost of acquisition rather than fair market value should be used." H. Rept. 96-1418, at 15 (1980); see also United States v. 88.88 Acres of Land, 907 F.2d 106">907 F.2d 106, 107 (9th Cir. 1990); American Pacific Concrete Pipe Co., Inc. v. 95 NLRB, 788 F.2d 586">788 F.2d 586, 590 (9th Cir. 1986); Continental Web Press, Inc. v. NLRB, 767 F.2d 321">767 F.2d 321, 322-323 (7th Cir. 1985). To demonstrate that they each had a net worth of less than $ 2,000,000 on the date their petition was filed, petitioners submitted, on August 1, 1994, a "STATEMENT OF NET WORTH AT ACQUISITION COST AS OF SEPTEMBER 21, 1992". 22 Petitioners' separate net worths were reported on this statement as follows: AssetAcq. CostJamesJosephineCash/Checking$ 48,375$ 24,188$ 24,188Money Fund188,657188,657- Repo Account184,155184,155- Mortgage76,22538,11338,113Mortgage40,00040,000- Contract34,43334,433- Note-126,81526,815- Note-22,3002,300- Note-380,00080,000- Note-417,50017,500- IRA-Kemper9,0009,000- IRA-Kemper8,250- 8,250IRA-1st Fla.2,5002,500- IRA-1st Fla.5,0005,000- 401-K Plan45,00045,000- Condo185,000- 185,000Industrial Bldg.107,500- 107,500Industrial Bldg.260,000- 260,000Industrial Vacant65,00065,000- Stock - HSSTC59,20059,200- Prestige 23,500- 23,500 Breck 25,00025,000- West Coast 25,00025,000- Sunshine 20,91020,910- FSCC 5,0005,000- Sailboat85,00085,000- Motorboat8,0008,000- Auto17,00020,000[sic]Art, etc.40,00020,00020,000 Totals 1,694,322[sic]1,010,771683,55142 With an exception for the four IRA's, the 401(k) plan, and the stock of the six listed corporations, the parties stipulated on May 16, 1995, to the accuracy of the preceding statement. 2396 Pursuant to our Order of May 1, 1995, the parties submitted simultaneous and answering43 memoranda of law, addressing the proper method for determining the acquisition cost of those assets for which there had been no stipulation. As set forth in these memoranda, petitioners argue for an approach whereby the amount paid for an asset, adjusted for depreciation, establishes the acquisition cost of an asset for purposes of the net worth computation. Respondent, on the other hand, argues that the acquisition cost of an asset should constantly be adjusted to reflect realized (if not recognized) income. To quote respondent: In summary, acquisition costs of an asset are generated not only from external contributions but also from realized gains, the internal reinvestment of which acquires an increase, improvement, or enhancement in such asset.Having carefully considered the parties' respective arguments, we accept petitioners' computation of their net worth under section 7430(c)(4)(A)(iii). We find no basis in this case for disregarding the separate legal status of entities in which petitioners hold beneficial or legal interests. See, e.g., Moline Properties, Inc. v. Commissioner, 319 U.S. 436">319 U.S. 436, 438-439 (1943); Webb v. United States, 15 F.3d 203">15 F.3d 203, 207 (1st Cir. 1994);44 Bertoli v. Commissioner, 103 T.C. 501">103 T.C. 501, 511-512 (1994); Allen v. Commissioner, T.C. Memo. 1988-166. Respondent argues that even if Congress originally intended acquisition cost as the proper measure of net worth, relatively recent trends in generally accepted accounting principles (GAAP) require that such a measure be abandoned. We have considered respondent's arguments on this point and find them off the mark. While there has been a change in the rules regarding the method by which individuals prepare their financial statements, there has been no change in the definition of acquisition cost under GAAP, and as that was the standard set forth in the legislative history, it is the measure of net worth we apply to this case. 2445 97 After careful review of the record, we find that petitioners have adequately set forth a statement of their net worth pursuant to Rule 231(b)(5) and have met the burden of proving that their separate net worths did not exceed $ 2 million on the date they filed their petition. We have considered all other arguments raised by respondent regarding the net worth requirement and, to the extent not discussed above, find them to be without merit. Before continuing, however, we find it necessary to comment on some of the arguments raised by respondent in her memoranda. While there was colorable merit to some of the contentions raised by respondent in her memoranda regarding the question of net worth, others border on being frivolous and vexatious. As an illustration, respondent set forth the following proposition in arguing that additional amounts should be added to petitioner Josephine Swanson's calculation of net worth: Florida provides for the equitable distribution of property between spouses upon divorce. Fla. Stat. ch. 61.075 (1994). * * * Respondent notes that the record provides no indication of marital disharmony between the petitioners and presumes that Florida's equitable46 distribution statute does not expressly apply to this case. However, this significant expectancy to receive an equitable distribution in the event of divorce may itself constitute an asset of a spouse entitled to recognition for purposes of the net worth computation.Such transparent sophistry speaks for itself and comes perilously close to meriting an award of fees to petitioners under section 6673(a)(2). 3. Exhaustion of Administrative RemediesNotwithstanding our conclusion that respondent was not substantially justified with respect to the DISC issue, petitioners are not entitled to an award of litigation costs if it is found that they failed to exhaust their administrative remedies. No "30-day letter" was issued to petitioners prior to the issuance of the statutory notice of deficiency. Respondent contends, however, that petitioners failed to exhaust their administrative remedies by not seeking an Appeals Office 98 conference prior to the filing of their motion for summary judgment. In support, respondent maintains that: After commencing litigation, * * * [petitioners'] attorneys forged quickly ahead by filing a motion for partial summary judgment without attempting47 to confer with either Appeals or District Counsel to seek a possible settlement--a conference which likely would have eliminated the need for the parties to prepare a prosecution and defense of the motion and its extensive exhibits and attachments, perhaps resulting in reduced litigation activities, saving time for the parties and the Court.In opposition, petitioners state that, pursuant to section 301.7430-1(e)(2), Proced. & Admin. Regs., they have per se exhausted their administrative remedies. In pertinent part, section 301.7430-1(e), Proced. & Admin. Regs., sets forth the following exception to the general rule that a party must participate 25 in an Appeals Office conference in order to exhaust its administrative remedies: (e) Exception to requirement that party pursue administrative remedies. If the conditions set forth in paragraphs (e)(1), (e)(2), (e)(3), or (e)(4) of this section are satisfied, a party's administrative remedies within the Internal Revenue Service shall be deemed to have been exhausted for purposes of section 7430. * * * (2) In the case of a petition in the Tax Court-- (i) The party did not receive a notice of proposed deficiency (30-day48 letter) prior to the issuance of the statutory notice and the failure to receive such notice was not due to actions of the party (such as failure to supply requested information or a current mailing address to the district director or service center having jurisdiction over the tax matter); and (ii) The party does not refuse to participate in an Appeals office conference while the case is in docketed status. [Emphasis added.]Section 301.7430-1, Proced. & Admin. Regs., fails to define the phrase "does not refuse to participate". Respondent's49 arguments suggest that section 301.7430-1(e)(2), Proced. & Admin. Regs., is to be interpreted as requiring an affirmative act by petitioners; i.e., a request for an Appeals Office conference. Petitioners, on the other hand, 99 contend that the proper interpretation is one that puts the burden on respondent, requiring that she act affirmatively. Petitioners reason that they cannot "refuse to participate" in an Appeals Office conference unless and until respondent makes an offer of such a conference. 26We conclude that petitioners' reading of section 301.7430-1(e)(2), Proced. & Admin. Regs., is correct. Section 601.106(d)(3), Statement of Procedural Rules, states that with respect to cases docketed in the Tax Court: (iii) If the deficiency notice in a case docketed in the Tax Court was not issued by the Appeals office and no recommendation50 for criminal prosecution is pending, the case will be referred by the district counsel to the Appeals office for settlement as soon as it is at issue in the Tax Court. The settlement procedure shall be governed by the following rules: (a) The Appeals office will have exclusive settlement jurisdiction for a period of 4 months over certain cases docketed in the Tax Court. The 4 month period will commence at the time Appeals receives the case from Counsel, which will be after the case is at issue. Appeals will arrange settlement conferences in such cases within 45 days of receipt of the case. * * * [Emphasis added.]The notice of deficiency in this matter was issued by the District Director for Jacksonville, Florida. There is no suggestion that a recommendation for criminal prosecution was ever pending against petitioners. Accordingly, pursuant to the procedural rules, respondent's Appeals Office gained settlement jurisdiction over petitioners' case after it was docketed in this Court and maintained such jurisdiction for a period of 4 months. Contrary to the language of section 601.106(d)(3)(iii)(a), Statement of Procedural Rules, however, Appeals in this case did 51 not arrange a settlement conference within 45 days of receipt of petitioners' case. Petitioners could not, therefore, have refused to participate in an Appeals Office conference, as none was ever offered. We note that when a 30-day letter has been issued, the procedural rules provide that, in general, the taxpayer is entitled, as a matter of right, to an Appeals Office conference. See sec. 601.106(b), Statement of Procedural Rules. No such right exists, however, once the taxpayer's case is docketed in the Tax Court. Furthermore, once the case is 100 docketed, there is no provision in the procedural rules for a taxpayer request for an Appeals Office conference. Based on the foregoing, we find that petitioners have exhausted their administrative remedies within the meaning of section 7430 and the regulations thereunder. 4. Whether Petitioners Unreasonably Protracted the ProceedingsBased upon the record, we find that petitioners did not protract the proceedings. 5. Whether the Fees Sought in This Matter Are ReasonableAs discussed below, we find that the amount sought by petitioners in this matter for litigation costs is not reasonable and must be adjusted to comport with the52 record. C. Award of Litigation CostsAs an initial matter, we note that the parties disagree as to whether the cost of living adjustment (COLA), which applies to an award of attorney's fees under section 7430, should be computed from October 1, 1981, or from January 1, 1986. 27 Respectively, these are the two dates on which COLA's were first provided under the EAJA and section 7430. Our position on this issue was addressed in Bayer v. Commissioner, 98 T.C. 19 (1992), where we concluded that Congress, in providing for cost of living adjustments in section 7430, intended the computation to start on the same date the COLA's were started under the EAJA; i.e., October 1, 1981. Id. at 23.53 Citing Lawrence v. Commissioner, 27 T.C. 713">27 T.C. 713 (1957), revd. on other grounds 258 F.2d 562">258 F.2d 562 (9th Cir. 1958), we stated that we would continue to use 1981 as the correct year for making the COLA calculation, unless, of course, the Court of Appeals to which appeal lay had held otherwise. Golsen v. Commissioner, 54 T.C. 742">54 T.C. 742, 756-757 (1970), affd. 445 F.2d 985">445 F.2d 985 (10th Cir. 1971). This case is appealable to the Court of Appeals for the 11th Circuit, which has not addressed the question of whether 1981 or 1986 is the correct date for purposes of computing 101 the COLA adjustment under section 7430. Accordingly, we will follow our holding in Bayer, and we find October 1, 1981, to be the applicable date from which to make the adjustment. 1. Amount of Litigation CostsPetitioners seek an award of litigation fees and expenses in the total amount of $ 140,580.46. Petitioners have also asked that they be awarded any additional costs incurred since March 1, 1994, to recover such fees and expenses. However, as explained in the affidavit of petitioners' counsel filed as a supplement54 to motion for litigation costs: with counsel's acquiescence, Petitioners have paid to date only $ 56,588 of the fees incurred on their behalf. As a result of Baker & McKenzie's advisery role with regard to the DISC Issue, Petitioners agreed after Respondent fully conceded the case to pay only $ 40,000 of the unbilled fees incurred from December 1992 on their behalf. The $ 40,000 amount was paid by the Swansons from their Joint checking account. H.& S. Swansons' Tool Co., Mr. Swanson's closely held corporation and the client of record for bookkeeping purposes, had previously paid $ 16,588 for services rendered on petitioners' behalf between September and November, 1992. Petitioners agreed to allow Baker & McKenzie to recover any remaining unbilled fees in excess of the $ 56,588 Petitioners have paid to date to the extent that Petitioners prevail on * * * [their Motion for Reasonable Litigation Costs.] [Emphasis added.]Thus, beyond the $ 40,000 agreed to, there is no legal obligation of petitioners to pay fees incurred on their behalf in the judicial proceeding.28 Furthermore, based on the agreement detailed in the affidavits of petitioners' counsel, they incurred55 no fees with respect to the preparation of their motion. Petitioners did not, therefore, incur fees in this matter in an amount greater than $ 40,000. See Marre v. United States, 38 F.3d 823">38 F.3d 823, 828-829 (5th Cir. 1994); United States v. 122.00 Acres of Land, 856 F.2d 56">856 F.2d 56 (8th Cir. 1988) (applying sec. 304(a)(2) of the Uniform Relocation Assistance and Real Property Acquisition Policies Act of 1970, 42 U.S.C. sec. 4654(a); fees were not actually "incurred" because the taxpayer had no legal obligation to pay his attorney's fees); 102 accord SEC v. Comserv Corp., 908 F.2d 1407">908 F.2d 1407, 1414 (8th Cir. 1990) (construing the EAJA, which language the Court did not find to be significantly different from that in United States v. 122.00 Acres of Land, supra); see also Frisch v. Commissioner, 87 T.C. 858">87 T.C. 858, 846 (1986) (lawyer representing himself pro se was not entitled to fees for his own services because such fees were not paid or incurred).56 Because there is no mention in the affidavits of counsel regarding the liability of petitioners for costs other than fees incurred after December 1992, we find that petitioners are not similarly restricted with respect to an award of "reasonable court costs" under section 7430(c)(1)(A) or those items listed in section 7430(c)(1)(B)(i) and (ii). We must apportion the award of fees sought by petitioners between the DISC issue, for which respondent was not substantially justified, and the Algonquin property issue, for which respondent was substantially justified. Based on the record, we find that for the period December 1992 until September 1993, 2957 a total of 312.9 hours was spent by counsel in connection with the Court proceedings. Of this amount, 158.8 hours were devoted to the DISC issue, 139.8 hours to the Algonquin property issue, and 14.3 hours to general case management. Based upon the $ 75-per-hour statutory rate, as adjusted by the COLA computed from 1981, we find that petitioners are entitled to an award for 166.4 hours of fees paid to counsel. 30As for expenses other than fees, petitioners have asked for total miscellaneous litigation costs in the amount of $ 6,512.33. Based upon our evaluation of the total time spent on the DISC issue, and our need to exclude miscellaneous expenses incurred with respect to the Algonquin property issue, we find that petitioners are entitled to an award of miscellaneous expenses in the amount of $ 3,300. 103 To reflect the foregoing, An appropriate order will be issued and decision will be entered pursuant to Rule 155. Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code. All Rule references are to the Tax Court Rules of Practice and Procedure.↩2. Initially organized as a corporation in the State of Illinois, Swansons'Tool was subsequently merged into a newly formed Florida corporation of the same name on Dec. 30, 1983.↩3. The following dividends were paid by Worldwide to IRA #1 during the taxable years 1986 through 1988: Paid DateFiscal YearAmount 4/8/86 12/31/86$ 244,5762/10/87 12/31/87126,15512/29/8712/31/87100,51912/30/8812/31/88122,352Total 593,602No distributions were made to petitioners from the trust during the years at issue.↩4. Under sec. 991, except for the taxes imposed by ch. 5, a DISC is not subject to income tax.↩5. The Tax Reform Act of 1986 (TRA), Pub. L. 99-514, sec. 301(a), 100 Stat. 2085, 2216, eliminated the deduction under sec. 1202↩ for 60 percent of net long-term capital gains. The repeal was effective for tax years beginning after Dec. 31, 1986.6. Respondent used substantially similar language in setting forth one primary and two alternative positions on this issue.↩7. Respondent argues that our consideration of whether she was substantially justified in this matter should be based, in part, on the outcome of a related case involving IRA #1. In docket No. 21109-92, respondent determined, and IRA #1 ultimately conceded, that IRA #1 had unrelated business income for the taxable year 1988. IRA #1's concession in docket No. 21109-92, however, appears to have been a direct result of respondent's filing her notice of no objection to petitioners' motion for summary judgment in this case. In any event, we give no weight to the outcome of docket No. 21109-92 because it resulted from an agreement between the parties to that docket rather than a judicial determination.↩8. Respondent's litigation position for purposes of this matter is that taken on Nov. 13, 1992, the date the answer was filed. See Han v. Commissioner, T.C. Memo. 1993-386↩.9. To the extent respondent has cited for support cases which discuss sec. 7430 prior to its amendment in 1986 by TRA sec. 1551, 100 Stat. 2085, 2752, and in 1988 by the Technical and Miscellaneous Revenue Act of 1988, Pub. L. 100-647, sec. 6239, 102 Stat. 3342, 3743, we find them to be inapposite. See Sansom v. United States, 703 F. Supp. 1505">703 F. Supp. 1505↩ (N.D. Fla. 1988).10. Respondent's administrative position for purposes of this matter is that taken on June 29, 1992, the date of the notice of deficiency. Sec. 7430(c)(2)↩.11. A "plan" is defined by sec. 4975(e)(1) to encompass an individual retirement account as described under sec. 408↩.12. As applicable to the following discussion, sec. 4975(e)(2) defines a disqualified person as: (A) a fiduciary; * * * (C) an employer any of whose employees are covered by the plan; (D) an employee organization, any of whose members are covered by the plan; * * * * (G) a corporation, partnership, or trust or estate of which (or in which) 50 percent or more of--(i) the combined voting power of all classes of stock entitled to vote or the total value of shares of all classes of stock of such corporation, (ii) the capital interest or profits interest of such partnership, or (iii) the beneficial interest of such trust or estate, is owned directly or indirectly, or held by persons described in subparagraph (A), (B), (C), (D), or (E); * * * (H) an officer, director (or an individual having powers or responsibilities similar to those of officers or directors), a 10 percent or more shareholder, or a highly compensated employee (earning 10 percent or more of the yearly wages of an employer) of a person described in subparagraph (C), (D), (E), or (G)↩ * * [Emphasis added.]13. In pertinent part, a "fiduciary" is defined by sec. 4975(e)(3) as any person who: (A) exercises any discretionary authority or discretionary control respecting management of such plan or exercises any authority or control respecting management or disposition of its assets, [or] * * * * (C) has any discretionary authority or discretionary responsibility in the administration of such plan.At all relevant times, petitioner maintained and exercised the right to direct IRA #1's investments. Petitioner, therefore, was clearly a "fiduciary" with respect to IRA #1 and thereby a "disqualified person" as defined under sec. 4975(e)(2)(A). Furthermore, as petitioner was the sole individual for whose benefit IRA #1 was established, IRA #1 itself was a disqualified person pursuant to sec. 4975(e)(2)(G)(iii)↩.14. Furthermore, we find that at the time of the stock issuance, Worldwide was not, within the meaning of sec. 4975(e)(2)(C), an "employer", any of whose employees were beneficiaries of IRA #1. Although sec. 4975 does not define the term "employer", we find guidance in sec. 3(5) of the Employee Retirement Income Security Act of 1974 (ERISA), Pub. L. 93-406, 88 Stat. 829, 834. In pertinent part, ERISA sec. 3(5) provides that, for plans such as an IRA, an "'employer' means any person acting directly as an employer, or indirectly in the interest of an employer, in relation to an employee benefit plan * * ." Because Worldwide did not maintain, sponsor, or directly contribute to IRA #1, we find that Worldwide was not acting as an "employer" in relation to an employee plan, and was not, therefore, a disqualified person under sec. 4975(e)(2)(C). As there is no evidence that Worldwide was an "employee organization", any of whose members were participants in IRA #1, we also find that Worldwide was not a disqualified person under sec. 4975(e)(2)(D)↩.15. Sec. 4975(e)(4) incorporates the constructive ownership rule of sec. 267(c)(1), which states that: Stock owned, directly or indirectly, by or for a corporation, partnership, estate, or trust shall be considered as being owned proportionately by or for its shareholders, partners, or beneficiaries * Petitioner, as the sole individual for whose benefit IRA #1 was established, was therefore beneficial owner of all the outstanding shares of Worldwide after they were issued. Because petitioner, as the sole beneficial shareholder of Worldwide, was also a "fiduciary" with respect to IRA #1, Worldwide thus met the definition of a disqualified person under sec. 4975(e)(2)(G). Contrary to respondent's representations, petitioner was not a "disqualified person" as president and director of Worldwide until after the stock was issued to IRA #1. Sec. 4975(e)(2)(H). Furthermore, petitioner was not a disqualified person under sec. 4975(e)(2)(H) solely due to his "shareholding" in Worldwide as the constructive attribution rules provided under sec. 267 are applicable only to sec. 4975(e)(2)(E)(i) and (G)(i). Sec. 4975(e)(4)↩.16. Ordinarily, controlling effect will be given to the plain language of a statute unless to do so would produce absurd or futile results. Rath v. Commissioner, 101 T.C. 196">101 T.C. 196, 200 (1993) (citing United States v. American Trucking Associations, 310 U.S. 534">310 U.S. 534, 543-544 (1940)). As the Supreme Court has stated: in the absence of a clearly expressed legislative intention to the contrary, the language of the statute itself must ordinarily be regarded as conclusive. Unless exceptional circumstances dictate otherwise, when we find the terms of a statute unambiguous, judicial inquiry is complete. [Burlington No. R. v. Oklahoma Tax Commn., 481 U.S. 454">481 U.S. 454, 461 (1987); citations and internal quotation marks omitted.]Accordingly, when, as here, a statute is clear on its face, we require unequivocal evidence of a contrary purpose before construing it in a manner that overrides the plain meaning of the statutory words. Rath v. Commissioner, supra at 200-201 (citing Halpern v. Commissioner, 96 T.C. 895">96 T.C. 895, 899 (1991); Huntsberry v. Commissioner, 83 T.C. 742">83 T.C. 742, 747-748↩ (1984)).17. See the discussion supra↩ note 16 regarding application of a statute's plain meaning.18. In a letter accompanying the revenue agent's report, respondent stated that: We believe the statutory Notice of Deficiency adequately describes the adjustments asserted therein. Moreover, during the course of the examination your client became fully cognizant of the transactions under scrutiny. However, as a convenience to you, enclosed is a copy of the revenue agent's report. Naturally, it is not the Service's intent by this letter to in any way limit the general language of the statutory notice. The Commissioner will stand on any ground fairly raised by the statutory notice as a basis for her determination.In finding that respondent was not substantially justified with respect to the DISC issue, we have considered all grounds upon which respondent could fairly raise a question of prohibited transactions under sec. 4975↩.19. See discussion of IRA #2 supra↩ p. 10.20. For similar reasons, we find that it was not unreasonable as a matter of fact or law for respondent to contend in alternative positions that the proceeds from the sale of the Algonquin property should be adjusted between petitioners and Swansons'Tool. Having carefully considered petitioners' arguments, we find that they have not met their burden of proving that respondent was not substantially justified on this point.↩21. This requirement is set forth by implication in sec. 7430(c)(4), which states in pertinent part that: (A) In general.--The term "prevailing party" means any party in any proceeding to which subsection (a) applies * * * (iii) which meets the requirements of * * * section 2412(d)(2)(B) of title 28, United States Code (as in effect on October 22, 1986) * * .As applicable to this case, 28 U.S.C. sec. 2412(d)(2)(B)↩ provides that a "party" means "an individual whose net worth did not exceed $ 2,000,000 at the time the civil action was filed."22. This statement of net worth was submitted as "attachment II" to petitioners' amendment to motion for award of reasonable litigation costs. As noted by petitioners, the figures presented therein are unadjusted for depreciation.↩23. We note that petitioners omitted the asset identified as "Florida Bonds" from their Aug. 1, 1994, statement of net worth in the amount of $ 60,000 to be allocated half to each petitioner. Petitioners have explained, and we accept, that this was an accidental omission. The stipulation of facts contains other nonmaterial modifications and corrections.↩24. As noted by the Courts of Appeals for the Ninth and Seventh Circuits, "the cost of acquisition" under GAAP is arrived at by subtracting accumulated depreciation from the original cost of an asset. American Pacific Concrete Pipe Co., Inc. v. NLRB, 788 F.2d 586">788 F.2d 586, 590-591 (9th Cir. 1986); Continental Web Press, Inc. v. NLRB, 767 F.2d 321">767 F.2d 321, 322-323 (7th Cir. 1985). We do not here decide whether depreciation should be used in determining net worth for purposes of sec. 7430(c)(4)(A)↩, as petitioners' separate net worths, whether computed using depreciation or not, do not exceed $ 2 million.25. Sec. 301.7430-1(b)(2), Proced. & Admin. Regs., provides that: a party or qualified representative of the party * * participates in an Appeals office conference if the party or qualified representative discloses to the Appeals office all relevant information regarding the party's tax matter to the extent such information and its relevance were known or should have been known to the party or qualified representative at the time of such conference.↩26. As we have not found any prior cases addressing this issue, it appears that the correct interpretation of the meaning of the regulation is one of first impression.↩27. Petitioners are seeking an award of fees based solely upon the statutorily provided rate of $ 75 an hour, as adjusted by the COLA. Sec. 7430(c)(1)(B)(iii). Petitioners have not argued that there are "special factors" which would justify a higher rate in this case. Id.↩28. We find that to the extent of the $ 16,588 paid by Swansons'Tool, petitioners did not "pay or incur" fees within the meaning of sec. 7430. Although the nature of the agreement under which such payment was made is unclear, the ultimate effect was to diminish the deterrent effect of the expense involved in seeking review of, or defending against, unreasonable Government action. See, e.g., SEC v. Comserv Corp., 908 F.2d 1407">908 F.2d 1407, 1413-1415↩ (8th Cir. 1990).29. Pursuant to petitioners' agreement with counsel, December 1992 was the month from which they agreed to pay $ 40,000 of unbilled fees incurred on their behalf. According to the affidavits of counsel, September 1993 was the last month in which fees were incurred to defend the DISC issue. Thus, this is the only period for which petitioners may recover fees in this matter.↩30. We reach this figure based upon 158.8 hours devoted to the DISC issue and 7.6 of general case management apportioned to the DISC issue ((158.8 / (158.8 + 139.8) x 14.3 = 7.6).↩	01-04-2023	11-21-2020

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