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https://www.courtlistener.com/api/rest/v3/opinions/4621584/	American Police & Fire Foundation, Inc., Petitioner v. Commissioner of Internal Revenue, RespondentAmerican Police & Fire Foundation, Inc. v. CommissionerDocket Nos. 13515-78, 22947-80United States Tax Court81 T.C. 699; 1983 U.S. Tax Ct. LEXIS 24; 81 T.C. No. 42; October 5, 1983, Filed 24 Following request for production of documents, petitioner made records available to respondent's agent in Miami. Part of records were lost in mail when respondent's counsel directed agent to mail records to Atlanta for copying. Held, unintentional loss of documents does not warrant default or dismissal, shift of burden of going forward, summary judgment against respondent, or striking the answer. Gregory C. Picken, Ronald M. Barron, and Bruce Jay Toland, for the petitioner.Mark W. Nickerson, for the respondent. Shields, Judge. SHIELDS700 These consolidated cases are presently before the Court on six motions by the petitioner. The motions are as follows: (1) Motion That Respondent Be Held In Default; (2) Motion For Summary Judgment; (3) Motion to Shift Burden Of Proof, Or In The Alternative, Shift Burden Of Going Forward, which we shall treat as a motion to shift the burden of going forward with the evidence to respondent; (4) Motion To Return Property Or Compel Stipulation Of Determination Of No Deficiency; (5) Motion To Strike Respondent's Answer; and (6) Motion To Quash Statutory Notice of Deficiency.All of the motions are based upon the alleged loss of a portion of petitioner's records by the respondent. Respondent objected to the motions and an evidentiary hearing was held. The record at this point consists of the pleadings plus the testimony and exhibits received at the hearing.FINDINGS OF FACTThe only issue to be decided is what effect, if any, does the alleged loss of the records have upon the procedural rights26 of the parties.Petitioner, American Police & Fire Foundation, Inc., is a dissolved nonprofit corporation 1 which had its legal residence for purposes of this proceeding in Miami, Fla., at the time the petitions were filed. The petitions seek a redetermination of income tax deficiencies and additions to tax asserted against the petitioner by the respondent as follows:Additions to taxTaxable yearDeficiency in taxunder sec. 6551(a) 21972$ 6,847.840197321,968.00$ 5,4921974$ 10,536.00$ 2,63419759,144.002,286197618,532.004,63327 701 All of the above deficiencies arose from the revocation by the respondent of the petitioner's exempt status under section 501(c)(3).On April 7, 1982, the parties were notified by the Court that these cases had been placed on a trial calendar to commence in Miami, Fla., on July 26, 1982. Prior to that date, the respondent had been represented by Mark W. Nickerson, trial attorney. His office is in the Federal Office Building, Atlanta, Ga., but his mailing address is Post Office Box 901, Atlanta, Ga. 30370. Prior to April 7, 1982, the petitioner had been represented by Gregory C. Picken of Barron, Lehman & Cardenas, P.A., 888 Brickell Avenue, Suite 200, Miami, Fla. 33131.After receipt of the trial notice and in preparation of the case for trial, Mr. Nickerson served upon Mr. Picken a request for the production of certain documents. In the request, the documents were to be produced for inspection and copying at Mr. Nickerson's office in the Federal Office Building in Atlanta.Upon receipt of the request, Mr. Picken suggested to the petitioner through its principal officer, Mr. Arenberg, that the various documents covered thereby be assembled and delivered to Mr. Picken's28 office in Miami for use in complying with the request. In the meantime, there was apparently some disagreement, or at least discussion, between Mr. Picken and Mr. Nickerson as to where the records were to be produced by the petitioner in order to comply with Mr. Nickerson's request. In any event, Mr. Nickerson later agreed that the production of the records in Atlanta would not be necessary, provided the records were "made available to the revenue agent, Dorothy Robinson, in Miami."Ms. Robinson had conducted the respondent's investigation and was assisting Mr. Nickerson in his preparation for trial. She met with Mr. Picken in his office in Miami on June 7, 1982. During this meeting, Mr. Picken delivered to Ms. Robinson, in accordance with Mr. Nickerson's request, various records. During the meeting, Ms. Robinson offered to inventory the records and to provide Mr. Picken with a copy of the 702 inventory. Mr. Picken replied that he did not think that an inventory was necessary even though he did not have copies of many of the documents which he was delivering to Ms. Robinson. It was understood between Ms. Robinson and Mr. Picken that the records would be examined and copied29 by her in Miami. Upon returning to her office, she discovered, however, that the records were "too voluminous" to copy locally. She so advised her superior and he, in turn, conferred by telephone with Mr. Nickerson in Atlanta. Ms. Robinson was then advised by her superior that Mr. Nickerson had directed that all of the records be sent to him in Atlanta by registered mail.When obtained by Ms. Robinson from Mr. Picken, most of the records were contained in a medium-sized cardboard packing box. The box, however, was filled to overflowing, and a number of ledgers and journals and certain other documents were produced with the box, but not in it.On June 8 and 9, 1982, Ms. Robinson inventoried the documents obtained by her from Mr. Picken. They included petitioner's bylaws and minutes of some corporation meetings; a membership list; 121 copies of the "Police Times"; bank statements and canceled checks for 1970 through 1977, except December 1976; duplicate deposit tickets for 1974 through 1976; computer transaction listings for 1971 through 1974; cash receipts and disbursements journals for 1967 through 1977; general ledgers for 1969 through 1971, and 1973 through 1977; adjusting 30 journal entries for 1975 and 1976; correspondence about petitioner's efforts to establish a museum; a debit memorandum for the American Police Academy; and applications for and copies of letters transmitting awards.On June 9, 1982, Agent Robinson received the instructions from her group manager to send the records to respondent's counsel in Atlanta by registered mail. Unable to find in her building a box large enough to hold the documents, Robinson obtained a number two canvas mailbag from her mailroom. After being told on the telephone by an employee of the local post office that a mailbag could not be sent by registered mail, Robinson prepared the bag for mailing by certified mail with return receipt requested.Various bundles of documents were placed by Agent Robinson in the cardboard box in which they arrived. She then 703 placed the box in the mailbag. The hard cover ledgers and journals and other documents which could not be inserted in the box were placed alongside the box in the mailbag. The drawstring to the mailbag was then closed and clamped by Robinson with a locking device and a security clip which held in place a cardboard address card. On the card, Agent31 Robinson typed the following: "W. Preston White, Jr., Post Office Box 901, Atlanta, Georgia 30370, Attn: Mark Nickerson." She had previously addressed correspondence to respondent's counsel in that manner, which he had received. She taped the usual green return receipt for certified mail to the outside of the bag.Robinson then gave the bag, which was nearly full and so heavy that she could not carry it, to another revenue agent who delivered it to the post office on June 10, 1982, where it was mailed by certified mail, return receipt requested.About a week later, Robinson received the return receipt, unsigned and undated. On June 22, 1982, following an inquiry by respondent's counsel as to the whereabouts of the records, Robinson called the post office and requested that the mailbag be traced. The post office was unable to trace the mailbag successfully because it was sent by certified, instead of registered, mail.On June 30, 1982, a number two mailbag addressed to the International Police Hall of Fame, 1100 N.E. 125th Street, North Miami, Fla. 33161, was received in the North Miami Post Office from the Dead Letter Parcel Unit in Atlanta, Ga. The dead letter office in Atlanta32 receives any mail which cannot be delivered in the southern region. If an address card becomes detached from a sealed mailbag, the bag is sent to the dead letter office. There, the seal is broken and the bag searched for an addressee.When the regular carrier in Miami for petitioner's postal route received the mailbag, he opened it to ascertain whether it contained mail addressed to more than one addressee. He found only loose documents pertaining to the American Federation of Police. Since the bag was too heavy to handle by the usual carrier on his bicycle, it was delivered by truck to petitioner's office by another post office employee.The same morning the bag was delivered, petitioner's employee, Mr. Van Brode, took all the records out of the bag 704 and put them on the mail sorting desk alongside the regular mail for that day. Later in the day when Mr. Arenberg, petitioner's principal officer, saw the records, he instructed Van Brode to repack the bag and place it in an unlocked storage room which was accessible to the various office employees of the petitioner. A few days later, after an inventory had been made of the bag by an employee of petitioner, the bag and33 records were delivered to Mr. Picken at his office. This inventory is not in the record.On July 6, 1982, Agent Robinson went to Mr. Picken's office and inventoried the records. Her inventory of this date includes only bank statements and canceled checks for 1970, 1971, and 1972; general ledgers for 1970, 1971, and 1973; cash receipts and disbursements journals for 1967 through 1974; assorted loose papers labeled "Efforts to Buy Building"; loose corporate minutes secured with a rubber band; and nine copies of the "Police Times." She also found a general ledger for 1972 which was not originally included with petitioner's documents. Petitioner's counsel refused to deliver the remaining records to Agent Robinson at this meeting.There is a conflict in the record as to the condition of the mailbag upon its return to petitioner. According to the postal employees, the mailbag that was returned to petitioner was nearly three-quarters full, but when the remaining records were placed in the bag at the hearing, the bag was less than one-half full.Aside from Agent Robinson's attempt to trace the mailbag, neither party has made an effort to locate the missing records. Petitioner has not34 tried to reconstruct the relevant information contained in the missing records and the issues of "Police Times" from secondary sources.OPINIONPetitioner contends that the respondent should be accountable for the missing documents because they were entrusted to him for inspection and copying in Miami and, without petitioner's approval, they were mailed to Atlanta and were lost in the process. Petitioner concedes that it could present its case fairly and fully if the missing records could be reconstructed but, according to petitioner, they can only be inadequately reconstructed at best.705 Respondent contends that his actions do not warrant dismissal, striking the answer, or shifting the burden of going forward with the evidence because there has been no showing that the lost records were material to petitioner's case or cannot be reconstructed from secondary evidence.We agree with respondent but, at the same time, we are unable to find either side blameless in this case. Obviously, if the records had been kept in Miami they would not have been lost. Furthermore, if Agent Robinson had mailed the documents by registered mail as she was instructed to do, it would have been35 possible to trace the mailbag every step along its route to Atlanta. But acting on the erroneous advice of a postal service employee, she sent the bag by certified mail instead, which could not be traced. In addition, if Agent Robinson had carefully packaged and separately addressed the different bundles of petitioner's documents, there may have been a higher percentage of recovered papers.On the other hand, we are not entirely satisfied that the documents represented to the Court as being those returned from the Dead Letter Office are identical to or the same in number as the documents returned to petitioner by the post office. Two post office employees testified that the mailbag containing petitioner's documents as displayed to them in Court was considerably less full than the bag delivered to petitioner's office. Also, Ms. Robinson's inventory of the returned documents turned up one item that was not included in the first inventory -- the general ledger for 1972. There was no explanation for this discrepancy, though Agent Robinson testified she searched the documents initially received for the 1972 ledger because she had found and noted ledgers for years both preceding and36 following 1972. In addition, petitioner failed to call the employee of petitioner who inventoried the contents of the mailbag after it was returned to the petitioner. In the absence of some logical excuse, this failure leads to the inference that if such employee had been called, the testimony would have been unfavorable to the petitioner. Wichita Terminal Elevator Co. v. Commissioner, 6 T.C. 1158 (1946), affd. 162 F.2d 513">162 F.2d 513 (10th Cir. 1947).Neither party has suggested, nor has our research uncovered, any statute governing the mailing of taxpayer records. Similarly, we have found no Internal Revenue directive 706 requiring that taxpayer's documents like those herein be mailed by certified or registered mail or in any other particular manner. Respondent's internal instructions and procedures for mailing tax materials are set forth in the Administrative Mail Handbook. IRM 1(15)89. Sections 231 and 232 of that handbook provide that registered and certified mail must be used when required by statute, as in section 6212 respecting the mailing of statutory notices of deficiency, or by some internal management document. 37 Sections 640 and 660 of the handbook describe mailing guidelines for employees of District Directors. It provides that materials too large to fit in an envelope should be accompanied by a properly addressed label. The label should show the internal code symbols of the sending office to identify that office in the event the bag or other package used is returned from the post office. The guidelines also recommend the use of post office box addresses to expedite the sorting and delivery of incoming mail to the appropriate office.Agent Robinson generally complied with these guidelines. She placed the materials in a mailbag which was properly labeled with a return address. Although she might also have placed address labels on the individual packets in the bag, we are unable to find that her failure to do so constitutes lack of due care. In addition, as recommended in the handbook, she used the post office box address for respondent's counsel. Petitioner urges that Agent Robinson's failure to use the Internal Revenue Service in the address amounts to lack of due care, but we believe the forwarding address as used to be appropriate under the circumstances. Further, even if Agent38 Robinson had failed to follow the internal guidelines of her office, we are aware of no case holding that such failure constitutes negligence as a matter of law. The loss of records herein was thus unintentional.With a few exceptions not applicable here, the petitioner in proceedings in the Tax Court bears the burden of proving that respondent's determination is incorrect. Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933); Rule 142(a). Petitioner's burden of going forward with the evidence does not shift merely because his records are unintentionally lost, whether by petitioner, the Government, or the post office. Instead, the type of evidence that may be offered to establish a fact is altered. Malinowski v. 707 , 71 T.C. 1120">71 T.C. 1120, 1125 (1979). That is, secondary evidence may be submitted when an original document is unavailable to prove its contents. Rule 1004, Fed. R. Evid.3 On the record before us, we are unable to find that the Internal Revenue Service even negligently lost the records petitioner turned over to it. In fact, it is not clear who lost all the records which are now unavailable, whether the39 respondent, the postal authorities, or the petitioner.Even if we were able to find that the respondent negligently40 lost petitioner's records and that the missing magazines and financial records were material to its case, petitioner still has not established that the lost records could not be reconstructed or other copies of the "Police Times" obtained from a university or other library. 4The cases cited by petitioner in support of its motions are distinguishable. Suarez v. Commissioner, 58 T.C. 792 (1972), concerned respondent's use of records in determining a deficiency in a civil tax proceeding. The records had been illegally seized during a criminal investigation. Under these circumstances, we ruled that the notice of deficiency had lost its presumptive correctness and consequently the burden of going forward with the evidence was shifted to respondent. 541 In Rosen v. United States, an unreported case ( D. Minn. 1926, 15 AFTR 501), the taxpayer's books of account were lost 708 while in the hands of the taxpayer. The District Court stated that, in such circumstances where the books of account within a short time after they have been in use were destroyed or missing, a presumption arises that the evidence, if produced, would be unfavorable to the taxpayer.Here, the records were not illegally seized during a criminal investigation and we are unable to find who possessed any particular record at the time it became missing.We have found no case that stands for shifting the burden of going forward with the evidence on these facts. Accordingly, we hold that petitioner retains the burden of going forward with the evidence and the ultimate burden of proving that it was organized and operated for exempt purposes during the years in issue.Finally, we agree with respondent that this is not an appropriate case for summary judgment or for holding respondent in default. Again, there is no evidence that losing the records was intentional or that the lost records cannot be reconstructed. Cf. United States v. Heath, 147 F.Supp. 877 (D. Hawaii 1957),42 appeal dismissed 260 F.2d 623">260 F.2d 623 (9th Cir. 1958) (indictment dismissed when Government lost taxpayer's records which were crucial to the defense in a criminal tax fraud case); United States v. Consolidated Laundries Corp., 291 F.2d 563">291 F.2d 563 (2d Cir. 1961) (new trial granted in antitrust case when Government negligently failed to turn over certain papers relating to a prosecution witness after trial court ordered production); Riland v. Commissioner, 79 T.C. 185">79 T.C. 185, 194-195 (1982) (Government's loss of its own file, if one was lost, containing Government records on taxpayer does not constitute violation of due process which would invoke the remedies of summary judgment or suppression when it was not established by the evidence that the lost records were material in a constitutional sense).Also, summary judgment is inappropriate where there is a genuine issue of material fact. Here, the loss of petitioner's records does not resolve the substantive question of whether petitioner was organized and operated for exempt purposes.Finally, we do not think that the unintentional loss of records, even though the 43 loss may have been contributed to by the manner in which they were packaged or by the decision to mail the records to Atlanta, is sufficient grounds for holding 709 respondent in default or for dismissing the case under Rule 123. While the record is not entirely clear, we are convinced that the actual mailing by Ms. Robinson to Mr. Nickerson was occasioned by an attempt on Mr. Nickerson's part to accommodate the petitioner or its counsel by not requiring their production of the records in Atlanta. Petitioner's motions are denied. 6Appropriate orders will be issued. Footnotes1. In American Police & Fire Foundation, Inc. v. Commissioner, T.C. Memo 1981-704">T.C. Memo. 1981-704, we found that the petitioner, although dissolved, was entitled to file the petitions herein under 18 Fla. Stat. Ann. sec. 607.297↩.2. All section references are to the Internal Revenue Code of 1954 as amended during the years in issue. All Rule references are to the Tax Court Rules of Practice and Procedure, unless otherwise indicated.↩3. Rule 1004. Admissibility of Other Evidence of Contents.The original is not required, and other evidence of the contents of a writing, recording, or photograph is admissible if --(1) Originals lost or destroyed. All originals are lost or have been destroyed, unless the proponent lost or destroyed them in bad faith; or * * (3) Original in possession of opponent. At a time when an original was under the control of the party against whom offered, he was put on notice, by the pleadings or otherwise, that the contents would be a subject of proof at the hearing, and he does not produce the original at the hearing; * *See also 4 J. Wigmore, Evidence, ch. 41 (J. Chadbourn rev. 1972); 2 B. Jones, Evidence, secs. 7:12-7:30 (6th ed. 1972).The Federal Rules of Evidence are applicable in Tax Court proceedings. Sec. 7453; rules 101, 1101, Fed. R. Evid.; Rule 143, Tax Court Rules of Practice and Procedure.↩4. We note that the John Jay College of Criminal Justice of New York and the University of Georgia both list the "Police Times" in their collections.↩5. We note that in Guzzetta v. Commissioner, 78 T.C. 173">78 T.C. 173 (1982), we held that we would no longer follow Suarez v. Commissioner, 58 T.C. 792">58 T.C. 792 (1972), to the extent that it is inconsistent with United States v. Janis, 428 U.S. 433">428 U.S. 433↩ (1976).6. For the same reasons discussed infra↩, we also deny petitioner's motion to return property or compel stipulation of determination of no deficiency, motion to quash statutory notice of deficiency, and motion to strike respondent's answer.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621587/	J. H. Collingwood, Petitioner, v. Commissioner of Internal Revenue, Respondent. J. H. Collingwood and Margaret E. Collingwood, Petitioners, v. Commissioner of Internal Revenue, RespondentCollingwood v. CommissionerDocket Nos. 32482, 32483United States Tax Court20 T.C. 937; 1953 U.S. Tax Ct. LEXIS 74; September 4, 1953, Promulgated 74 Decisions will be entered for petitioners. Petitioner, who owned farms for the production of income which had been under cultivation for many years, sought to check and reduce water erosion and loss of top soil by terracing his farms in accordance with approved specifications. Terraces were made by pushing the earth into ridges following the contours of the land. Nothing new was added to the farms. The purpose was not to change the use of the land, or to prepare it for use, or for new and additional uses, but was to maintain the productivity of the farms in normal and customary operation. Held, the expenditures for farm terracing were essentially for maintenance and conservation and as such are deductible as ordinary and necessary expense under section 23 (a) of the Internal Revenue Code, and they were not for permanent improvements within section 24 (a) (2). Willard N. Van Slyck, Jr., Esq., and Clayton E. Kline, Esq., for the petitioners.Everett E. Smith, Esq., for the respondent. Harron, Judge. HARRON 937 The Commissioner has determined deficiencies in income tax for the years 1947, 1948, and 1949, as follows:Docket No.YearAmount324821947$ 4,529.69324831948800.98324831949795.90The question to be decided is whether the cost of grading the land of farms into earthen terraces to combat soil erosion is deductible under section 23 (a) of the Internal Revenue Code. The respondent disallowed deduction under section 24 (a) (2).The petitioners filed their returns with the collector for the district of Kansas.FINDINGS OF FACT.The facts which have been stipulated are found as facts. The stipulation is incorporated herein by reference.The petitioners reside in Topeka, Kansas. J. H. Collingwood is referred to hereinafter as the petitioner because the issue to be decided relates solely to his business. 76 The petitioner owns five farms in Kansas which he rents for the production of income. The use of the farms for the production of income through the rental thereof constitutes a business of the petitioner. He was engaged, also, in the banking business during the taxable years.938 The farms in question are located in eastern Kansas; one in Jefferson County covers 320 acres; one in Osage County covers 160 acres; one in Nemaha County covers 160 acres; one in Jackson County, the Dennison farm, covers 160 acres, and another in Jackson County covers 125 acres. All of these farms were cleared and prepared for farming before 1930, and since then, at least, they have been devoted to the production of crops of wheat, or soy beans, or small grains, or sweet clovers. Since 1930, at least, all the farms have been rented to tenants who paid rent on a share-crop basis.All of the farms are located in rolling, upland areas where the slope of the land varies from 3 to 15 per cent. They are located in a glacier-drift area which is subject to severe and rapid soil erosion. Each of the farms of petitioner, before 1947, was affected by water erosion.There are various methods which farmers77 use to combat soil erosion which include crop rotation, farming on contours without terracing, strip cropping, and seeding areas to grass. But a method which is highly recommended and generally followed in the vicinity of petitioner's farms is the grading of the land into earthern terraces along contour lines. This method is called "terracing." It does not involve the building of concrete or stone walls. It involves moving the earth with heavy equipment into ridges and channels which divert and slow up the running of water over the land. The object of such grading, or pushing the earth into ridges and channels is to prevent water from running downgrade at a rapid rate, from cutting gulleys into the land, and from carrying away the top soil.The United States Department of Agriculture and the Kansas State College have recommended terracing to combat soil erosion for more than 20 years, and have issued directions and specifications for terracing farm lands. No two terracing systems will be identical, however, because the topography of the land will determine how the work is done. The United States Department of Agriculture makes benefit payments to farmers, upon application, to78 help defray the cost of terracing, provided the work is done according to approved standards and specifications. The average benefit payment is about 40 per cent of the cost of terracing subject to limitations which depend upon location, the number of farms owned, and the number of farms terraced by a recipient.In 1940, petitioner terraced one of his farms but by 1947, for various reasons, the terraces were obliterated.In 1947, the petitioner began a program of terracing all of the five farms in question for the purpose of preventing the further loss of top soil from water erosion. The plan which he adopted involved an intensive amount of work which was done on all or most of the five farms at about the same time. The work was continued in 1948 939 and 1949. The cost of the terracing work consisted of a charge of from 15 to 18 cents per cubic yard of earth moved by heavy equipment such as plows, bulldozers, graders, and whirlwind terracers. Except for the building of one concrete spillway which was not of any significance and which sank into the ground as a result of water erosion within 1 year, no stone, tile, or concrete was used in terracing the farms. Only earth 79 was involved in making the terraces. The cost of pushing and grading earth on the five farms into terraces was as follows:1947$ 10,515.4119483,378.4619492,932.00In all of the terracing work in the taxable years, the petitioner followed the standards and specifications approved by the United States Department of Agriculture and by the Kansas State College, but he did not apply for any benefit payments. Petitioner paid all of the cost of the terracing work in the amounts set forth above. No part of the expenditures in the amounts set forth above was for the clearing of land or for what is generally done in preparing raw land for farming purposes.The terracing which was done in 1947, 1948, and 1949 on each of the farms was done, in general, in the following way: By the use of surveyor's instruments the contours of the land were determined and contour lines were laid out going completely around a hill. The contour lines were laid out from the highest to the lowest points of the rolling land in a very roughly parallel manner depending upon slopes and contours. Suitable outlets for run-off water were selected such as a grass waterway or pasture where water could run80 off gradually without cutting gulleys in the land and without washing away the top soil. By the use of plows, bulldozers, graders, and whirlwind terracers, each terrace of earth was made, beginning at the highest point of the slope of the land. Each terrace was continuous in its course around a hill or contour line. A "terrace" consisted of an earthen hump or ridge, one side of which sloped out to a curved channel having for its "back" or opposite side, an earthen ridge. Each terrace had a broad base of from 18 to 30 feet wide, and it was about 18 inches high. The top of the ridge was flattened. The earth was pushed aside into ridges leaving channels. The width of ridges and channels, and the space between terraces varied according to the slope of the land and the estimate of the amount of water from rainfall to be diverted through the channels. Grading the channel was necessary to provide for a proper run-off of water. The ridge was merely a mound of earth which was pushed up, plowed up, or put up with a terracing machine. The ridges and channels were made to keep water from running straight down a hillside, to slow up the 940 run-off of the water, and to increase81 the absorption of water into the land. Where the slope of the land was steep, the terraces were built closer to each other but with capacities sufficiently large to divert the fast run-off of water.The farming of terraced land is more difficult and takes more time than farming on straight lines. Tilling is more difficult along terraces. Farmers resort to terraced farming out of necessity and because terracing is a means of saving the top soil from being washed away by water.After the terraces were made on petitioner's farms, farming operations were carried on by the tenants in conformity with the terraced contours. The tops of the ridges were completely tilled and cultivated. The terraced ridges were plowed, worked with a disc and harrow, and with a soil surgeon. In the course of a year, five or six sets of farm implements were pulled over the terraced ridges in the process of farming them to wheat.Terraces stop erosion by water for as long as they do not break but when breaks in terrace ridges occur, water erosion takes place. Therefore, farming operations cannot be carried on in a straight line across terraces, and care must be taken in farming with the terrace not to 82 break it. Where breaks in terraces occur, which are not long, the breaks are filled in with earth. But if a long length of terrace breaks, the entire terrace must be rebuilt.Earthen terraces deteriorate. The five chief factors which contribute to the deterioration of terraces are rainfall, which tends to wash terraces down; gophers and muskrats, which bore through the bottoms of terraces; ice which jams and blocks channels; depositing of silt on the upper sides of and within channels; and the working of farm implements over the ridges in the cultivation of the land which flattens the tops of the ridges. A sudden and heavy rain can wash out a terrace in as short time as 48 hours. Every time rain falls, silt is deposited. The depositing of silt, or "silting in," may happen gradually or rapidly. Silt deposits may fill in channels between ridges. The silt deposits then perform the function of dams. If the silt deposit fills in a channel, water runs over the top of the channel rather than through it, and water erosion is resumed, which causes gulleys and the washing away of terraces below. Variations in the weather and in rainfall make uncertain the extent and the frequency of83 rebuilding or repairing terraces. The usefulness of terraces is affected by the weather, the force of erosion, the type of outlets for water, and the care taken in farming and in maintenance work.When farm land is terraced, the work can be done gradually over several years; it can be done in between crops so that a crop will not be lost. One or two terraces can be built each year between the harvesting and planting of crops.941 The petitioner's five farms were not more valuable after the terracing work was done. The terracing did not increase the fertility of the soil; it did not reduce the need for the use of fertilizers, or the cost of fertilizers; it did not add to the productivity of the land or make it suitable for new uses. The terracing of petitioner's five farms was done for the purpose of saving the top soil from being washed away, to reduce water erosion, and to retard or stop the deterioration of the farm lands. The terracing of the farms served these purposes and served to maintain them in an ordinarily efficient condition for farming, and to preserve the normal productivity of the soil.The terracing of the five farms did not constitute a permanent improvement, 84 and the cost of the work was not a capital expenditure but was an ordinary and necessary expense.OPINION.The respondent disallowed deduction of the cost of farm terracing in each of the taxable years upon his determination that the expense comes within section 24 (a) (2), Internal Revenue Code. 1 The respondent contends that the farm terracing work in question constituted a permanent improvement. He does not, under his theory, agree that the cost of the farm terracing can be recovered through depreciation.The petitioner contends that the terracing work was, essentially, for maintenance and conservation of the farms. He denies that the farm terracing work constituted a permanent improvement or betterment within section85 24 (a) (2).It is not disputed that the farms in question were held for the production of income.Although the question here is concerned with the farm lands, the posture of the question by the parties is the same as in the many cases where the cost of work on industrial property has been considered. Respondent refers to Regulations 111, section 29.24-2, and to the principles set forth in Illinois Merchants Trust Co., 4 B. T. A. 103, 106.Whether an expenditure on a piece of property is one which may properly be "expensed" rather than capitalized is often difficult to determine. In the now leading case, Illinois Merchants Trust Co., supra, several tests were suggested, which are quoted below, and it was emphasized that "it is necessary to bear in mind the purpose for which the expenditure was made":To repair is to restore to a sound state or to mend, while a replacement connotes a substitution. A repair is an expenditure for the purpose of keeping the property 942 in an ordinarily efficient operating condition. It does not add to the value of the property, nor does it appreciably prolong its life. It merely86 keeps the property in an operating condition over its probable useful life for the uses for which it was acquired. Expenditures for that purpose are distinguishable from those for replacements, alterations, improvements or additions which prolong the life of the property, increase its value, or make it adaptable to a different use. The one is a maintenance charge, while the others are additions to capital investment which should not be applied against current earnings. * * This Court, in applying the above principles, has held that expenditures on property which have been rather large in amount, which were for the purpose of overcoming and correcting a physical fault in land such as "cavitations in the overburden" which caused cave-ins of the land and structures above the cave-ins, American Bemberg Corporation, 10 T. C. 361, affirmed per curiam 177 F.2d 200">177 F. 2d 200; and the seepage of water and other liquids through the earth into buildings, Midland Empire Packing Co., 14 T.C. 635">14 T. C. 635; Farmers Creamery Co. of Fredericksburg, Va., 14 T. C. 879, were essentially in the87 nature of repairs rather than improvement or replacement. We conclude that the expenditure in question here, for moving earth into ridges and channels to overcome the condition of water erosion which developed in petitioner's five farms after they had been in cultivation for a long time was no more capital in nature than were the expenses in the American Bemberg, Midland Empire, and Farmers Creamery cases, supra.The facts have been set forth at length and need not be restated. First, it is noted that the expense in question was not for the development of the farm lands "prior to the time when the productive state" was reached, and, therefore, was not a development expense which must be regarded as investment of capital under section 29.23 (a)-11 of Regulations 111. The terracing of the farms was not done for the purpose of converting them to some new use, or to any use which was different from the use during the years prior to 1947, to which the farms had been devoted. Nothing new was added to the farm lands of a structural nature; the erosion control terraces, consisting of ridges and channels, were simply the earth in place on the farms which was plowed, graded, 88 and pushed to follow the natural contour lines of the farms which had long been farmed to wheat, grains, soy beans, and clovers. The same crops were raised on the farms after the terracing work was done as before. Nothing was added to the soil. No new farming areas were developed; and no clearing of the land or work to prepare land for cultivation was done. The terracing work did not change the fertility of the soil, or make farming operations easier. The terracing did not increase the value of the land or its products.The evidence shows that the terracing work was done for the purpose of preventing or checking further gullying of the land by water 943 erosion, and further loss of top soil from the rapid run-off of water downgrade. The evidence as a whole establishes, in our opinion, that the terracing of the five farms was done in the taxable years for the purpose of maintaining them in an ordinarily efficient condition for the carrying on of the kind of farming which had been followed before the terracing was done; and was for the purpose of preserving the normal productivity of the farm lands. Expenditures for such purposes are not capital in their nature.The "fault" 89 in the land to overcome which the expenditures for terracing were made was water erosion. 2 Such erosion occurs with unpredictable variations in intensity depending upon weather conditions. Since petitioner's farms were subject to water erosion, the terracing work was, in itself, subject to the variations in weather conditions, and is not permanent. Petitioner called two witnesses who are experts in the work of controlling water erosion, men who have had 20 to 30 years' experience in the work. Respondent did not call any witnesses, and he did not offer any countervailing evidence. The evidence as a whole, including the opinions of the expert witnesses, establishes that the expenditures in question were not for improvements, replacements, or permanent improvements. 3 On the other hand, the evidence shows that the expenditures were in the nature of repairing land which was eroded so as to maintain it in a way which would be as nearly free from the defects caused by erosion as possible. We conclude, therefore, that the cost of terracing was in the nature of repair and maintenance expense, and hold that it is deductible as an ordinary and necessary business expense under section90 23 (a) of the Code.With respect to the amount of the expense in each of the taxable years, and in 1947, in particular, we observe that four farms covering from 125 to 160 acres, and one farm91 covering 320 acres were involved in each year. Petitioner did not present a breakdown of the cost per farm of the work in each year, but we understand that the cost per farm was in proportion to the acreage of each farm. So viewed, the expense per farm in each year was not so large as to be inconsistent with a repair and maintenance expense in view of the circumstances; compare American Bemberg and Midland Empire, supra.944 We have considered all of the cases cited by the respondent, many of which were decided by this Court in unreported memorandum reports. Respondent has not cited any decision which squarely supports his view.Decisions will be entered for petitioners. Footnotes1. SEC. 24. ITEMS NOT DEDUCTIBLE.(a) General Rule. -- In computing net income no deduction shall in any case be allowed in respect of -- * * * (2) Any amount paid out for new buildings or for permanent improvements or betterments made to increase the value of any property or estate, * *.↩2. There are two main types of water erosion, "sheet erosion" and "gully erosion." Sheet erosion is defined as "the removal of surface soil in fairly uniform layers or sheets," while gully erosion is "the removal of soil at points of excessive water concentration where relatively deep ditches are cut into the surface." The intercepting channels of a terracing system "break long slopes into short segments and thereby provide low-velocity surface drainage, which materially reduces the amount of top soil that can be carried down the slope or from the field by surface run-off." C. L. Hamilton, "Terracing For Soil and Water Conservation," United States Department of Agriculture; Farmers Bulletin 1789, Rev. April, 1943, p. 3.↩3. One witness observed: "You can move a pile of dirt but you can't keep the weather from moving it again."↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621588/	KENNETH A. STOECKLIN, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent BROWN, EGGERS and MITCHELL, INC., FORMERLY KENNETH A. STOECKLIN, C.P.A., P.C., Petitioner v. COMMISSIONER OF INTERNAL REVENUE , RespondentStoecklin v. CommissionerDockets Nos. 5558-84; 6436-84.United States Tax CourtT.C. Memo 1987-453; 1987 Tax Ct. Memo LEXIS 450; 54 T.C.M. (CCH) 452; T.C.M. (RIA) 87453; September 9, 1987. 450 In 1977, petitioner established the Kenneth A. Stoecklin Equity Trust and Kenneth A. Stoecklin C.P.A., P.C., a professional corporation. Petitioner transferred to the Trust certain property and his lifetime services. The Trust then contracted with the corporation for petitioner's services. Held: petitioner may not use the Trust to avoid taxation on his earned income; held further, other income of the Trust attributed to petitioner under section 671 et seq.; held further, petitioner must recognize the fair market value of silver coins paid to the Trust; held further, petitioner is denied a loss on the purported worthlessness of certain promissory notes; held further, petitioner is allowed short-term capital gain treatment on proceeds of corporate liquidation; held further, petitioner has not sustained his burden of proof on remaining issues. Kenneth A. Stoecklin, pro se. Stephen R. Takeuchi and Keith H. Johnson, for the respondent. WHITAKERMEMORANDUM FINDINGS OF FACT AND OPINION WHITAKER, Judge: By notice dated December 12, 1983, respondent determined a deficiency in the individual petitioner's Federal income tax for the years and in the amounts as follows: Additions to TaxSectionSectionSectionYearDeficiency1451 6651(a) 6653(a)(1)6653(a)(2)1978$ 903$ 226$ 45019799790 49 019802,0750 104 019812,4500 123 50% of int.due on $ 2,450By notice also dated December 12, 1983, respondent determined deficiencies in the corporate petitioner's Federal income tax as follows: Additions to TaxSectionSectionFiscal Year EndingDeficiency6653(a)(1)6653(a)(2)3/31/81$ 3,821$ 19103/31/822,852143 50% of int.due on $ 2,852Respondent has since conceded all issues concerning the corporate petitioner. All further references to petitioner are in reference to the individual. Respondent's determination of deficiency regarding petitioner is primarily a result of reallocating the income of the Kenneth A. Stoecklin Equity Trust (Trust) to petitioner, who was the grantor of the Trust. In an amended answer, respondent adjusted his deficiency and addition determinations upward to reflect the fair market value of silver coins received by the Trust. 2452 Respondent's final determination is as follows: Additions to TaxSectionSectionSectionYearDeficiency6651(a)(1)6653(a)(1)6653(a)(2)1978$ 6,391$ 1,598$ 320019795,4160271 0198012,5370627 0198110,0600503 50% of int.due on $ 10,060The primary issue in this case involves the establishment and maintenance of the Trust. Respondent seeks to impute the Trust's income to petitioner on any of several grounds: (1) that petitioner's use of the Trust violates assignment of income principles; (2) that the creation of the Trust, and the transfer of assets and petitioner's lifetime services to it is a sham transaction; (3) that the grantor trust rules of section 671 et seq., require that petitioner be taxed on the Trust's income; and (4) that the income, deductions, and credits claimed by the Trust should be reallocated to petitioner pursuant to section 482. Petitioner maintains that the Trust was bona fide in all respects, should be recognized for Federal income tax purposes, and that section 671 et seq., is not applicable. Petitioner contests respondent's determination of deficiencies 453 in respect of certain other transactions involving a purportedly worthless business debt and the liquidation of a corporation. Petitioner also contests respondent's determination that petitioner is subject to certain investment credit and depreciation recapture, is not entitled to a capital loss carryover to 1978, and is liable for self-employment tax. Petitioner further contends that the statute of limitations bars assessment of any tax for 1978 and 1979. These issues will be discussed separately. FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation and exhibits are incorporated herein by this reference. Petitioner was a resident of Crystal River, Florida, at the time he filed his petition herein. Petitioner has been a practicing certified public accountant since 1957, with 20 to 25 percent of his practice concerned with tax matters. He spent most of his career in Southwestern Ohio until he moved to Florida in 1980 due to his health. On November 19, 1977, petitioner established the Kenneth A. Stoecklin Equity Trust. The Trust document reads in pertinent part as follows: THIS DECLARATION OF TRUST authorizes its Trustees to operate under 454 the name of Kenneth A. Stoecklin Equity TrustTHIS AGREEMENT, IRREVOCABLE CONVEYANCE and ACCEPTANCE is made and entered into at the time and on the date appearing in the acknowledgement hereto attached, by and between Kenneth Alvin Stoecklinwho drafted this EXPRESS TRUST as THE CREATOR HEREOF and GRANTOR HERETO and Helen Rae Stoecklin (Adverse Party Trustee) and James P. Manson (Trustee) ACCEPTORS hereof in joint tenancy, who shall compose The Board of Trustees and Executive Officers for conducting said business. The Grantor hereby constitutes and appoints the above designated Trustees to be, in fact, Trustees of The Trust hereby created and established. The Grantor for and in consideration of the objects and purposes herein set forth, the cash sum of One Dollar, in hand paid, and other considerations of value listed in Schedule A of this agreement, the receipt of which is hereby acknowledged, does hereby agree to sell, assign, convey and deliver until said Trustees, IN TRUST - who are to hold legal title in joint tenancy and not as tenants in common, to collectively act by virtue of this covenant as a Board of Trustees under the name herein designated - certain properties, business 455 projects, operations under way or contemplated, dealing in equities, formulae, entities, patents, copyrights, business goodwill, or other business desired to be engaged in by said Trustees. * * * TRUSTEESTrustees shall be not less than two in number but may be increased for practical reasons beneficial to The Trust. * * * PROVIDED, HOWEVER, that A Trustee may resign or be removed from office by a resolution of unanimous concurrence of the remaining Trustees when in their opinion said Trustee shall have been guilty of fraud, malfeasance in office, gross neglect of duty, or for cause by the mandate of a court of competent jurisdiction; * * . * * TRUSTEE'S MEETINGS* * * At any regular or special meeting a MAJORITY of the Trustees shall constitute a quorum for conducting business, PROVIDED, affirmative action may only be had upon a MAJORITY vote of the Trustees, whether present or absent, * * . POWERS OF TRUSTEESTrustees' powers shall be construed as general powers of citizens of the United States of America, to do anything any citizen may do in any state or country, subject to the restrictions herein noted. * * A Minute of Resolutions of The Trustees authorizing what it is 456 they determine to do or have done shall be evidence that such an act is within their power. * * * * * OFFICERS AND MANAGEMENTThe Trustees may in their discretion elect among their number a President, Secretary and Treasurer, or any other officers they may deem expedient for proper functioning. Any Trustee may hold two, or more, offices simultaneously, their duties being such as are usual or are prescribed. They may employ agents, executives, or other employees, or designate third persons to hold funds for specific purposes. EXPENDITURESThe Trustees shall fix and pay compensation of all officers, employees or agents in their discretion, * * . * * TRUSTEES DECLARATION OF PURPOSETHE PURPOSE OF THIS EXPRESS TRUST shall be to accept rights, title and interest in real and personal properties conveyed by THE GRANTOR CREATOR HEREOF. Included therein is the exclusive use of his or her lifetime services and ALL OF his or her EARNED REMUNERATION ACCRUING THEREFROM, from any current source whatsoever, so that Kenneth Alvin Stoecklin can maximize his or her lifetime efforts through the utilization of his or her Constitutional Rights; for the protection of his or her family in the 457 pursuit of his or her happiness through his or her desire to promote the general welfare, all of which Kenneth Alvin Stoecklin feels he or she will achieve because they are compatible with his or her RELIGIOUS BELIEFS. * * DOCUMENTIt is expressly declared that A Trust, and not a partnership, is hereby created; and that neither The Trustees, officers, or certificate holders, present or future, have or possess any beneficial interest in the property or assets of Said Trust, nor shall they be personally liable hereunder, as partners or otherwise; * * . CERTIFICATES OF INTERESTFor convenience the equitable interests for distribution shall be divided into One Hundred (100) units, * . DEATH - INSOLVENCY - BANKRUPTCY * * Ownership of a beneficial certificate shall not entitle the holder to any legal title in or to The Trust property, nor any undivided interest therein, nor in the management thereof, nor shall the death of a holder entitle his heirs or legal representatives to demand any partition or division of the property of The Trust, nor any special accounting, but said successor may succeed to the same equitable or distributional interest upon the surrender of the certificate 458 as held by the deceased for the purpose of reissue to the then lawful holder or owner. DURATION - CLOSUREThis Trust shall continue for a period of twenty-five years from date, unless The Trustee shall unanimously determine upon an earlier date. The Trustees may at their discretion, because of threatened depreciation in values or other goods and sufficient reason, liquidate the assets, distribute and close The Trust at an earlier date determined by them. * * On the date the Trust instrument was executed, petitioner's wife, Helen Rae Stoecklin, conveyed to petitioner her entire interest in his real and personal properties, which were in turn conveyed by petitioner to the Trust. It is not known what other real and personal properties were transferred to the Trust. 3At the first meeting of the board of trustees on November 19, 1977, petitioner was appointed "Executive Manager." The duties petitioner was to perform under this title were ostensibly part of his lifetime services that were placed in the Trust. In this capacity, petitioner was given powers 459 to manage only, but was authorized to sign checks on behalf of the Trust, and could be assigned additional duties from time to time by action of the board of trustees. Petitioner's compensation was fixed by the board at 250 silver dollars per month. The board of trustees further resolved that petitioner was to be provided adequate transportation, an office and supplies, and was to be reimbursed for all his medical and dental expenses. The trustees authorized an expenditure of $ 140 per month for petitioner's transportation expenses. At this first meeting the board of trustees resolved that the 100 beneficial units of the Trust would be issued to petitioner. A share ledger was created, crediting petitioner with the 100 shares. On that same day, he assigned these shares as follows: NameSharesHelen Rae Stoecklin (wife)34Kenneth W. Stoecklin (son)26Joan M. Stoecklin (daughter)20Howard E. Liebelt (unrelated)20Helen Stoecklin subsequently assigned her units to other members of petitioner's family 4460 with the result that only petitioner's children, grandson, and Howard Liebelt held units in the Trust. No distributions were ever made in respect to these units. At the next meeting of the board of trustees, on November 29, 1977, petitioner was added as a third trustee. At the board of trustees meeting held on August 18, 1978, the resignation of Helen Rae Stoecklin as trustee was recorded. The remaining trustees resolved that Howard E. Liebelt would be contacted and requested to serve as replacement trustee. He accepted this appointment on August 21, 1978. The resignation of James P. Manson was recorded at a meeting of the board of trustees on August 31, 1978. While accepted on these dates, neither of the resignation documents executed by Helen Rae Stoecklin and James Manson were dated. Thereafter, petitioner and Howard Leibelt served as the only trustees. However, neither Helen Rae Stoecklin, Manson, nor Liebelt exercised any independent judgment with respect to the Trust assets, and were no more than mere nominees of petitioner. 5461 On December 12, 1977, petitioner incorporated his accounting practice under the name of Kenneth A. Stoecklin, C.P.A., P.C. 6 (Corporation). Petitioner was the sole shareholder of the Corporation. It did not have, and was not intended to have, any other employees. On December 16, 1977, the Trust and the Corporation entered into a contract for the services of petitioner. That contract read in pertinent part as follows: IT IS AGREED that the KENNETH A. STOECKLIN EQUITY TRUST (a trust) contracts the services of Kenneth Alvin Stoecklin to the "Client" KENNETH A. STOECKLIN, C.P.A., P.C., on an "Independent Contractor" basis, for as much time each month as is required by "Client". This agreement is made for the purpose of establishing an Independent Contractor relationship and contractual agreement between the parties identified above and excludes absolutely any employee-employer style relationship. * * Taxes. It is understood 462 between the parties that withholding taxes and other payroll related taxes are not applicable since an employee-employer relationship is absolutely excluded. * * Under the terms of the contract, the Corporation was to pay the Trust 250 silver dollars per month for petitioner's services. 7463 In order to fulfill its contractual obligation, the Corporation spent $ 22,475 to buy silver dollars for the fiscal year ending March 31, 1981. It took a deduction in that amount, which it labeled "contracted administration." For the fiscal year ended March 31, 1982, the Corporation paid $ 16,754 for silver dollars, and treated the expense in like manner. However, as these silver dollars were paid over to the Trust pursuant to the terms of the employment contract, the Trust recognized only their face value. The contract was terminated on September 30, 1982, since payment under it was greatly in arrears, and silver dollars had become prohibitively expensive. On that same date, petitioner was released by the Trust from his lifetime indenture. On December 17, 1977, the Trust and the Corporation entered into an agreement under which certain property, equipment or vehicles 8 were to be leased to the Corporation by the Trust. The lease called for a monthly payment to the Trust of $ 200. This sum was paid by the Corporation by check. Crash Coal CompanyOn December 18, 1974, an April 10, 1975, petitioner received promissory notes from Crash Coal Company (Crash) in the amount of $ 6,250 and $ 250, respectively. These notes were signed by petitioner in his capacity as treasurer of Crash. On January 14, 1975, Crash filed an election to be treated as a subchapter S corporation. For the calendar year ending December 31, 1975, petitioner reported a loss in the amount of $ 7,877.76 which represented his distributive share of losses in Crash. Petitioner contends that Crash became insolvent in 1978. Petitioner initially took the position that any investment in Crash was for section 1244 stock which had become worthless, and for which he is entitled to an ordinary loss. Along with this contention, he claims that Crash's subchapter S election 464 was invalid. Petitioner now contends that he made no investment in capital stock of Crash, but was a mere creditor, and is therefore entitled to a short-term capital loss. 9Liquidation of Import BarnOn his 1980 return, petitioner reported a gain of $ 11,500 on what was designated on his return for that year as the sale of a partnership interest which he had acquired in January 1978 10465 for $3,500. Petitioner had originally invested $ 3,000 11 with one Krusling who was until that time operating a car repair business as a sole proprietorship. Petitioner thereby became a participant in a joint venture. He persuaded Krusling to incorporate the business which was later known, among other things, as Import Barn. While no shares of stock were ever issued to petitioner, his interest in the joint venture became an equity interest in the corporation. Petitioner did not perform any services for the corporation during the time it was in operation. After Krusling's untimely death, petitioner liquidated the corporation. Petitioner received $ 15,000 of the liquidation proceeds. Petitioner has no records of the transaction. Miscellaneous ItemsPetitioner contests respondent's determination that petitioner is liable for self-employment tax on the earned income which he attempted to assign to the Trust, that he must recapture certain investment tax credits in 1978 and 1979, that he recognized $ 1,099 of ordinary income on the disposition of section 1245 property in 1978, and that he is not entitled to a capital loss carryover to 1978. Petitioner has come forward with no evidence in support of his various positions regarding these issues. Petitioner filed his 1978 Federal income tax return on September 26, 1980; his 1979 Federal income tax return was deemed filed on April 15, 1980. 466 As respondent's notice is dated more than 3 years after both these dates, petitioner contends that any additional assessment for those years is barred by the statute of limitations. Petitioner also claims a dependency exemption in 1978 for his daughter Joan which has been disallowed by respondent. Petitioner's daughter did not live with him during that year, and he gave her no more than $ 1,030, none of which he gave her until September 1978. Petitioner has produced no evidence concerning the total amount of support required by his daughter in 1978. Respondent contends that his deficiency is timely since there is a substantial omission as defined in section 6501(e) in petitioner's 1978 and 1979 income and that the statute of limitations was tolled during the pendency of certain summons enforcement action. 12467 OPINION Petitioner devotes a large portion of his petition and briefs to those same frivolous arguments so often considered and rejected by this and other courts. It is by now well settled that the Tax Court has jurisdiction to consider constitutional questions. ; that wages are taxable income and that there is no constitutional right to a jury trial in the Tax Court, ; that Federal Reserve notes are legal tender, ; and that the examination of a taxpayer's Federal Income tax returns does not constitute an invasion of privacy or an unlawful search and seizure, . The cases are replete with examples of such frivolity, and we would add nothing to this sound body of law by engaging in an extensive discussion here. Kenneth A. Stoecklin Equity TrustThe main issue in this case presents us with another so-called family equity trust. The language in the trust documents found in this case is strikingly similar to that found in the published 468 cases. Likewise, those courts that have been faced with the issue have been uniform in their determinations that such entities will not allow a taxpayer to shift the incidence of taxation away from him to the Trust. See ; . Such devices are no more than "a tax protector's scheme for tax reduction and/or avoidance through multiple income splitting and extensive administration expenses." . One of the most fundamental principals of income taxation is "that income is taxed to the party who earns it and that liability may not be avoided through an anticipatory assignment of that income, * * ." . However, "The underlying and more difficult question * * is the determination of who, in fact, controls the earning of the income." [Emphasis supplied.] ; . The determination of who controls the earning of income is dependent upon the two factors. The first is whether the Trust is to direct or control petitioner's 469 activities in any meaningful manner. The second is whether there is a contract between the Trust and the corporation indicative of an agreement between those two entities recognizing the Trust's controlling position. . 13We find that the Trust had no meaningful control over petitioner's activities, notwithstanding that he purportedly conveyed to it the exclusive use of his lifetime services. Indeed, "it is questionable whether the Trust could obligate [petitioner] to perform these services which are so inherently personal in nature." . This conveyance in form was not a conveyance in substance and did not operate to make petitioner a bona fide servant of the Trust. ; . Moreover, as the sole effective trustee, petitioner could have caused the Trust to be dissolved at any time in accordance with the termination provision of the Trust instrument. An analysis 470 of the second factor set forth in Benningfield serves to demonstrate the degree to which petitioner controlled the earning of income. The contract for services entered into by the Trust and the Corporation states that the Trust shall have the exclusive right to determine the method by which the Corporation's desired results shall be achieved. However, this contract concerns the services of the one person having control over the corporation as sole shareholder and the Trust as sole effective trustee. Neither the Trust nor the Corporation may be said to have had control of petitioner's activities. Petitioner was the sole moving factor behind the Trust's earned income and should be taxed thereon. Cf. . We therefore hold that the income earned by petitioner through his services should be taxed to him. The Corporation paid the Trust 250 silver dollars per month for the services rendered by petitioner. In turn, the Trust paid petitioner 250 silver dollars per month to manage the assets of the Trust. In his amended answer, respondent determined that petitioner should be taxed on the fair market value of the coins; therefore respondent has the 471 burden of proof in respect to the increased deficiency. Rule 142(a). However, the facts are not in dispute. We hold as a matter of law that petitioner is taxable on the fair market value of the silver dollars received. The basic tenor of petitioner's argument in this regard is that only silver coins are "legal tender" and may be taxed only on their face value. We addressed a similar issue in , affd. , where transactions in which Swiss Francs were exchanged for U.S. Double Eagle gold coins, "were in substance an acquisition of property, valuable coins * ." . Our reasoning was followed in , wherein the court had "no difficulty in holding that the gold coins here, though legal tender and hence 'money' for some purposes, are also 'property' to be taxed at fair market value because they had been withdrawn from circulation and have numismatic worth." . The coins here at issue were not in circulation and the Corporation was required 472 to purchase them through various coin dealers. The fact that they are silver rather than gold does not change their character as "property." It is their status as property other than money that is determinative of this issue. 14 See also . The next issue is whether rents, interest, and litigation fees reported by the Trust are properly attributable to petitioner under the grantor trust rules of sections 671 through 678. 15 Section 671 provides that if a grantor is considered the owner of any portion of a trust, all the income, deductions, and credits attributable to that portion are included in his income. Section 675 requires the grantor to be treated as the owner of the trust if the grantor can exercise certain administrative powers over either the corpus or the income without the consent of an adverse party. 16 An adverse party is defined in section 672(a) as "any person having a substantial beneficial interest in the trust which would be adversely 473 affected by the exercise or nonexercise of the power which he possesses respecting the trust." Petitioner contends that Liebelt is an adverse party, and since the board of trustees may only act through a majority of its members, Liebelt's consent is required for petitioner to direct who may benefit from the Trust. 474 While this may be true on paper, we look to "the objective economic realities, rather than the particular form in which the agreement was cast, * * ." ; . The question of whether a party is truly adverse is one of fact to be decided on the merits of each case. ; , affg. . However, even if the section 672 definition of an adverse party is satisfied, sections 674-677 require a trust's income to be taxed to the grantor unless the consent of the adverse party is required before the grantor may exercise any of those enumerated powers. Respondent having determined that the grantor trust rules are applicable, the burden of proving otherwise falls on petitioner. ; Rule 142(a); . A similar situation confronted us in , in which the taxpayer argued that two of his children, both trustees and both holding beneficial units of the trust, were adverse parties. 475 We found as a fact that the consent of these parties was not required for the taxpayer to act in respect of the trust. Neither of the children were ever consulted concerning trust matters or present at trustee meetings, and both had signed blank resignations and trust minutes.17We are no less convinced that the result in should obtain here. While Liebelt attended "meetings" of the board of trustees, petitioner signed all trust checks, kept all records and receipts, and kept possession of the silver coins for all but an insignificant period of time. 18476 Liebelt's testimony makes clear that his was a rubber stamp consent for petitioner, and had Liebelt asserted himself otherwise, he would have been removed as trustee at any time by petitioner. 19 Because Liebelt's consent was not required for petitioner to deal with the Trust and its assets as he saw fit, we find section 675 applicable 477 and conclude that rents, interest, and litigation fees reported by the Trust are properly attributable to petitioner. Section 675 provides that the grantor shall be treated as the owner of the trust to the extent that he can deal with the trust for less than adequate security, or exercise other powers without the consent of an adverse party. Given the degree of control petitioner exercised over the Trust and the testimony of Liebelt, we infer that any evidence petitioner may have been able to produce in regard to those powers enumerated in section 675 would have been unfavorable. See , affd. . At the very least, petitioner has not sustained his burden of proof on this issue. Rule 142(a); Respondent also asserts that amounts imputed to petitioner are subject to self-employment tax pursuant to section 1401 et seq. Section 1401(a) imposes the tax upon "the self-employment income of every individual." Section 1402(b) defines the term "self-employment income" as "net earnings from self employment." Such earnings include, "the gross income derived by an individual 478 from any trade or business carried on by such individual, less the deductions allowed by this subtitle * ." Sec. 1402(a). We find that petitioner was engaged in a trade or business as a certified public accountant and that the income he derived pursuant to the contract for services between the Corporation and the Trust is subject to self-employment tax. Our decision is supported by the contract entered into between the Corporation and the Trust. That contract stated that the Trust contracted the services of petitioner to the Corporation on an independent contractor basis, and that since no employment relationship was created, withholding and employment taxes were inapplicable. Having been given the opportunity to choose the form of the contract petitioner has "less freedom than the Commissioner to ignore the transactional form that he has adopted," ; , and we have held that independent contractors are subject to self-employment tax. . In any event, petitioner has come forward with no evidence showing that he is not liable for self-employment 479 tax. Petitioner having not met the burden of proof imposed upon him by Rule 142(a), we find for respondent on this issue.Crash Coal CorporationPetitioner's characterization of his investment in Crash Coal Company, a subchapter S corporation, has in all instances conveniently conformed to that treatment which would reap the greatest tax benefits at any given time. 20 The one fact that is clear is that petitioner has not proven that he invested any more than $ 6,500 in Crash. However, from this $ 6,500 investment, petitioner has reaped over $ 7,800 worth of tax benefits through his distributive share of losses in Crash. We agree with respondent that the doctine of quasi-estoppel or duty of consistency applies in the present case. In , affd. , 480 we adopted the three elements of quasi-estoppel as set forth in : (1) The taxpayer has made a representation or reported an item for tax purposes in one year, (2) The Commissioner has acquiesced in or relied on that fact for that year, and (3) The taxpayer desires to change the representation, previously made, in a later year after the statute of limitations on assessment bars adjustments for the initial tax year.See also . 21We find that the three elements are present in this case. By claiming his distributive share of losses in Crash, a subchapter S corporation, petitioner has represented his contribution as an investment in capital stock. Respondent has relied upon petitioner's representation in that he allowed petitioner his distributive share of Crash 481 losses in 1975 in the amount of $ 7,877.76 22 Finally, the year in which the distributive losses were allowed, 1975, is now closed by the statute of limitations. 22Our holding does no more than to prevent petitioner from receiving a further double tax benefit. In this respect, this case is similar to , affd. , wherein we held that a purported sale at a loss in a previous year which resulted in a tax benefit to the taxpayer may not be recharacterized in a later year as a mortgage for purposes of increasing the basis upon which depreciation deductions may be taken. See also , affg. , wherein the Fifth Circuit 23482 stated "that when a taxpayer receives a tax advantage from an erroneous deduction, he may not deduct the same amount in a subsequent year after the Commissioner is barred from adjusting the tax for the prior year.," Therefore, we hold for respondent on this issue. Liquidation of Import BarnRespondent seeks to characterize petitioner's $ 3,000 24 investment in Import Barn as a loan, the excess of the liquidation proceeds to be recharacterized as either interest on the loan or compensation for services rendered in connection with Import Barn's liquidation. We find that petitioner did in fact acquire an equity interest in the corporation, rather than being a mere creditor or employee. Petitioner was not involved in the day-to-day operations of Import Barn, and took no action to participate in the affairs of the corporation until Krusling's death. We find no basis for denominating the $ 11,500 as either compensation or interest. Therefore, the amounts distributed by Import Barn are treated as if in full payment in exchange for petitioner's stock. Sec. 331(a)(1). Having found that the gain is capital in nature, we next turn to the issue of its status as short-term or long-term. The parties have stipulated that if such gain is found 483 to be capital, that it shall be considered as short-term capital gain. 25 We find nothing in the record compelling us to find that petitioner held his investment for more than 1 year and therefore hold that such gain is capital gain. 26Miscellaneous ItemsPetitioner has presented us with various other issues which include investment tax credit carryovers, a capital loss carryover, and gain on the disposition of section 1245 property. After concessions by respondent, the remaining issues are (1) whether respondent correctly determined 484 that $ 1,099 of ordinary income should be recognized in 1978 upon petitioner's disposition of section 1245 property; (2) whether $ 310 of investment tax credit allowed to petitioner in 1978 should be recaptured in 1979; (3) whether petitioner is required to recapture $ 275 of investment tax credit in 1978; (4) whether petitioner is entitled to a capital loss carryover to 1978; and (5) whether petitioner is entitled to a dependency exemption for his daughter Joan in 1978. The burden of proof in regard to these issues is upon petitioner. Rule 142(a); . Petitioner provided no evidence whatsoever concerning the 1978 recapture of ordinary income on the disposition of section 1245 property, or the 1978 and 1979 recapture of investment tax credit. Neither has petitioner proven that he is entitled to a capital loss carryover to 1978. Therefore, we hold for respondent on these issues. Petitioner claimed a dependency exemption for his daughter Joan for the year 1978. His daughter did not live with him during 1978, but petitioner gave her $ 1,030 during that year, a portion of which went for tuition to nursing school that fall. He sent her no money 485 until September 1978. Section 151(e) allows an exemption for each dependent 27 who is a child of the taxpayer and is either younger than 19 years at the close of the calendar year or is a student. We are unpersuaded that the $ 1,030 petitioner provided to his daughter constituted one half of her support for the year. We therefore find for respondent on this issue. Statute of Limitations in Years 1978 and 1979Petitioner contends that respondent is precluded from assessing any additional income taxes for the years 1978 and 1979 since the statutory notice of deficiency for such years was issued on December 12, 1983, more than 3 years after the due date for petitioner's 1979 return. Respondent disputes petitioner's contention on two grounds: that the statute of limitations was tolled during such time as actions were pending to enforce third party record-keeper summonses, or, alternatively, that the statute of limitations is extended to 6 years pursuant to 486 section 6501(e). We find that section 6501(e) is applicable in this case and do not reach the question of the tolling of the statute during pendency of the enforcement actions. Section 6501(e) provides that the statute of limitations will be extended to 6 years "If the taxpayer omits from gross income an amount properly includible therein which is in excess of 25 percent of the amount of gross income started in the return * ." Petitioner reported gross income in the amount of $ 2,200, and $ 6,814 for the years 1978 and 1979, respectively. The amount of income that petitioner attempted to assign to the Trust is easily in excess of 25 percent of this amount. Therefore, we find that respondent is not precluded by the statute of limitations from assessing additional taxes from the years 1978 and 1979.Additions to Tax Under Sections 6651(a)(1) and 6653(a)Petitioner filed his Federal income tax return for 1978 on September 26, 1980. Respondent has determined an addition to tax under section 6651(a) for that year. Since petitioner has come forward with no evidence to show that he had reasonable cause for his failure to file a timely 1978 Federal income tax return, we hold for 487 respondent on this issue. Respondent further determined that petitioner was liable for an addition to tax under section 6653(a)(1) for all years at issue. Section 6653(a)(1) provides for an addition in the amount of 5 percent of any underpayment if any part of the underpayment "is due to negligence or intentional disregard of rules and regulations * * ." Respondent also determined an addition to tax under section 6653(a)(2) which allows a further addition in the amount of 50 percent of the interest upon those portions of the underpayment which are attributable to a taxpayer's negligence or intentional disregard of the rules and regulations. The section 6653(a)(2) addition is sustained for 1981 only. We find petitioner liable for these additions. Petitioner was a certified public accountant with over 20 years experience at the time he established the Kenneth A. Stroecklin Equity Trust. A significant portion of his experience was in the field of Federal income taxation. While petitioner has asked to be held to a somewhat lesser standard than that of a practicing attorney, we find that he either was or should have been sufficiently aware of the tax consequences of the transactions 488 involving the Trust, the Corporation, and Crash Coal Company, to know that they would not be given effect. See . Further, due to the fact that petitioner was the sole moving factor in the Corporation and the Trust, we think that his failure to recognize the fair market value of the silver dollars which he received provides a clear example of his intentional disregard of the tax laws. We note that petitioner has the burden of proof in regard to respondent's determination of section 6653(a)(1) and (2) additions. ; Rule 142(a). Petitioner has produced no evidence tending to show that he is not liable for the additions. Therefore, respondent's determination of an addition under section 6653(a)(2) extends to all items. In his brief, and at trial, respondent asked this Court to impose damages upon petitioner under section 6673. Respondent contends that these proceedings were instituted or maintained by petitioner primarily for delay and that his position in these proceedings is frivolous or groundless. While we have no sympathy towards him, we find for petitioner on this issue. In his 489 petition and on brief, petitioner has presented us with many of the classic tax protestor arguments. He has filed numerous motions, all of which have been without merit. He has gone to great lengths to thwart respondent's attempts to determine his true income tax liability and has grudgingly cooperated with respondent only when absolutely required to do so. However, petitioner has prevailed on a not insubstantial issue in the case, and has failed in others merely because he has not met his burden of proof. We therefore decline to award section 6673 damages in this case. In accordance with the foregoing, Decision will be entered under Rule 155.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended and in effect during the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure. 2. A deduction for the purchase of silver coins paid by Kenneth A. Stoecklin, C.P.A. to the Trust was the sole item in respect of which a deficiency was determined in the Corporation's Federal income tax for its 1981 and 1982 fiscal years. Respondent has since conceded that such purchase constituted an ordinary and necessary business expense. 3. An attachment listing all other property transferred was referred to in the Trust document, but was not produced by the parties. ↩4. Petitioner and Helen Stoecklin were divorced in 1978. 5. Prior to the August 31, 1978, trustees' meeting the business conducted by the trustees consisted of granting the 100 beneficial units of the Trust to petitioner, appointing him executive manager and approving his compensation and expense allowance, adding him as trustee, approving the Trust/Corporation employment and lease agreements, accepting the resignation of Helen Stoecklin and Manson, and appointing Liebelt trustee. 6. Kenneth A. Stoecklin, C.P.A., P.C., is the predecessor to the corporate petitioner, Brown, Eggers, & Mitchell, Inc. ↩7. The Corporation did make one $ 5,000 payment to petitioner as an employee in 1979. The Corporation filed an employment tax return reflecting this payment. 8. Although referred to in the lease, no list or description of these items was offered. ↩9. Petitioner does not contend that he is entitled to a section 166 bad business debt deduction. Because of our resolution of this issue, we do not reach this question. ↩10. While the date of purchase was set forth in petitioner's 1980 Federal income tax return, there is no other evidence in the record upon which to base a finding that the $ 11,500 gain, if capital, would be long-term gain. 11. Petitioner claimed a $ 3,500 basis on his return, however his testimony makes clear that he had only a $ 3,000 basis in his investment. Respondent has not sought to tax the additional $ 500 of gain. ↩12. Between the time petitioner's 1979 return was filed and the issuance of the deficiency notice, respondent caused several third party record-keeper summonses to be issued to financial institutions where petitioner did business. Pursuant to section 7609(b)(2) all those summoned were instructed by petitioner not to comply, whereupon respondent filed successful enforcement action in the appropriate United States district courts. 13. We would reach the same result under the "flexible approach" of . ↩14. We are not unmindful of the fact that upon purchase of the coins, the Corporation took a deduction for their fair market value while the Trust recognized only the face amount. ↩15. Petitioner argues that in order for any of the Trust's income to be reallocated to him we must find both the Trust and the contract for services illegal. We need not address this issue since "Notwithstanding the validity of the contract under State law, an anticipatory assignment of income * * is not effective for Federal tax purposes." . ↩16. Because petitioner had such absolute control over the Trust, we might just as easily find him to be the owner of the Trust assets under any of the grantor trust provisions. Indeed, "it would be totally unrealistic to assume that anyone * * * would transfer his lifetime services to [a] family trust without having such control." . A discussion of the application of each of these sections would only serve to unduly lengthen this opinion. ↩17. See , where a trustee who served only 1 month without performing any duties was disregarded as a mere nominee. ↩18. Liebelt's testimony leads to no conclusion other than that he was a mere nominee: Q. Who handled the bank accounts? A. Mr. Stoecklin. Q. Who paid the bills? A. Mr. Stoecklin. Q. Who prepared the receipts for the coins? A. Mr. Stoecklin. Q. As trustee, what did you do? A. Sat in on the meetings and signed whatever papers had to be signed. Q. And these papers, were they all furnished to you by Mr. Stoecklin. A. Yes. Q. Did you ever independently tell Mr. Stoecklin to draft up or prepare documents for your signature? A. No. Petitioner testified that Liebelt took physical possession of the coins for only about an hour at one of the trustee's "meetings." ↩19. Petitioner's self-serving testimony concerning the substance of Liebelt's status as an adverse party is not credible, and we choose to disregard it. . We find Liebelt's testimony much more reflective of the economic realities of his involvement with the Trust and find that "There was no credible evidence that [he] in fact, ever exercised or was intended to exercise any authority whatever in respect of the trust" other than to sign whatever petitioner put in front of him. . See also du ↩. 20. Petitioner claims on his return that his "stock" in Crash was section 1244 stock which had become worthless. At the trial of this case, petitioner insisted that the instruments which he held were debt. On brief, petitioner treats at least $ 250 as a capital stock investment. We therefore agree with the statement in petition's brief that "the subject has been distorted beyond recognition." ↩21. In reversing a summary judgment for the United States, the Court in Shook↩ found that the doctrine of quasi-estoppel was not applicable to the case before it. However, it stated that "The principal of law applied in the quasi-estoppel cases is perfectly valid." . 22. Notwithstanding the treatment he seeks here, petitioner has already received losses on his Crash stock in excess of his basis. ↩23. The Eleventh Circuit, to which an appeal in this case would lie, has declared that it will follow precedent of the Fifth Circuit as it stood on September 30, 1981. .24. See n. 11, supra.↩25. While parties to a case may not stipulate as to the law, , we interpret this stipulation as the parties' aggreement that petitioner's interest was held for not more than 1 year, which is the 1978 holding period for long-term capital gain. Sec. 1222(2) and (3). ↩26. Respondent has determined that gain on the liquidation of Import Barn is subject to self-employment tax. Petitioner's capital gain from Import Barn's liquidation is not from any trade or business carried on by petitioner. Therefore, the self-employment tax of section 1401 et seq. does not apply.↩27. A dependent is defined as anyone or those persons listed in section 152(a) (including a son or daughter of the taxpayer) over one-half of whose support is provided by the taxpayer seeking the exemption provided by section 151.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621589/	J. A. ROWLAND, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Rowland v. CommissionerDocket No. 11476.United States Board of Tax Appeals5 B.T.A. 770; 1926 BTA LEXIS 2783; December 11, 1926, Promulgated 2783 In the absence of competent evidence, the March 1, 1913, value of timberlands, as determined by the Commissioner, affirmed. James C. Davis, Esq., for the petitioner. Robert A. Littleton, Esq., for the respondent. MILLIKEN 770 This is a proceeding for the redetermination of deficiencies in income taxes for the calendar years 1922, 1923, and 1924, in the respective amounts of $730.15, $2,729.99, and $1,999.11. Several errors were assigned in the original petition, but on the date of hearing counsel for the petitioner stipulated that only two grounds of error were to be assigned and waived other errors alleged in the original petition. The errors alleged are: (1) That depletion has not been allowed the petitioner for the years in question; (2) that a higher March 1, 1913, value should be allowed for timberland sold in 1924. FINDINGS OF FACT. Petitioner is a resident of Eldorado, Ark., and owned a tract of timberland in section 17, in Union County, Arkansas. The major portion of the growth of timber on the tract is hard wood. Owners 771 of timberland in the same vicinity as that of the petitioner have been allowed a value of2784 $4 per thousand. A cruise of the timber holdings of the petitioner was made in 1912 by Lemner Brothers, of New Orleans, La. OPINION. MILLIKEN: In petition filed it is alleged that petitioner sold certain timber in 1924, although no proof was introduced that such timber was sold in the year 1924, and that the Commissioner committed error in determining the March 1, 1913, value thereof for the purpose of computing the gain derived from the sale. We are able to find as a fact that the petitioner did own a tract of timber, located in section 17, in Union County, Arkansas, and that the major portion of the growth of the tract was hard wood. We have no evidence before us warranting a finding that petitioner owned such timber on March 1, 1913, or whether the timber in question was acquired subsequent thereto. One witness testified that he owned timber in the same vicinity as did the petitioner, and was asked the following questions by counsel for the Commissioner: Q. Are you familiar with the timber tract of Mr. J. A. Rowland located in section 17 in Union County, Arkansas? A. I have never been over it by forties but I know the timber. Q. You have knowledge of the growth2785 of timber that is on it? A. I have knowledge of the quality of the timber and a general knowledge of the quantity, but I never made a forty estimate of it. * * Q. What values did they [the Commissioner] allow you on your timber? A. Four dollars ($4.00) per thousand. The petitioner alleges that the Commissioner committed error in determining the March 1, 1913, value of his timber, and it is not enough to introduce a witness that has only a general knowledge of the quantity and quality of the timber of the petitioner and who states that the Commissioner allowed him a value of $4 per thousand. We are uninformed whether such last-named value was allowed to the witness for the purpose of computing gain or loss on sale, or depletion, or whether it was a value determined subsequent to March 1, 1913, and furthermore, the value allowed one taxpayer may be no criterion of the value of the property of another taxpayer, where the basis of value, quantities and qualities and dates in question may be entirely different concerning the timber to be valued. Counsel for the petitioner also sought to introduce a written report of a cruise of his timber made by Lemner Brothers, 2786 of New Orleans, La. Counsel for the Commissioner objected to the receipt of the report in evidence, on the ground that the persons making the report had not identified it and were not present for the purpose of cross examination to determine the truth or falsity of the statements that 772 may have been made therein, or for any interrogation as to the basis upon which the report was made. The objection of counsel for the Commissioner was sustained. By reason of the lack of competent evidence we must affirm the action of the Commissioner as concerns the March 1, 1913, value of the timber of the petitioner. At the hearing of this case counsel for the respective parties stipulated that the petitioner was entitled to an allowance for depletion of $1,037.37 for the calendar year 1922, $5,733.69 for the calendar year 1923, and $5,202.00 for the calendar year 1924, and such allowance should be taken into consideration in redetermining the deficiencies for the years in controversy. Judgment will be entered on 15 days' notice, under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621592/	Jesse W. Bush v. Commissioner.Bush v. CommissionerDocket Nos. 4973-65, 3187-66.United States Tax CourtT.C. Memo 1968-39; 1968 Tax Ct. Memo LEXIS 260; 27 T.C.M. (CCH) 177; T.C.M. (RIA) 68039; February 29, 1968, Filed ,jesse W. Bush, pro se, 614 Persons Bldg., Macon, Ga. David S. Meisel, for the respondent. WITHEYMemorandum Findings of Fact and Opinion WITHEY, Judge: Respondent determined a deficiency in petitioner's income tax of $6,982.53 for the taxable year 1960. Subsequently, respondent determined a deficiency in petitioner's income tax of $3,283.79 for the taxable year 1963. On joint motion of the parties, the two matters were consolidated for the purpose of their submission under Rule 30 of the Tax Court Rules of Practice.The issues for decision are: (1) As to 1960, whether the losses sustained by petitioner in that year on a note in the amount of $25,000, from the Manchester Manufacturing Company, Inc., and on payments made as a guarantor of certain of the company's trade accounts are deductible as business bad debts pursuant to section 166 of the Internal Revenue Code of 1954. 1262 (2) As to 1963, whether the losses sustained by petitioner in that year on the worthlessness of capital stock of Superior Engineering and Manufacturing Company, Inc., and on payments made as a guarantor of a loan to that corporation are deductible as business bad debts pursuant to section 166 of the Code. General Findings of Fact All of the facts having been stipulated, they are so found. Jesse W. Bush, hereinafter referred to as the petitioner, and his wife, Harriet E. Bush, filed a joint income tax return for 178 the year 1960 with the district director of internal revenue, Atlanta, Georgia. The petitioner filed an individual income tax return for the year 1963 with the district director of internal revenue, Atlanta, Georgia. Petitioner was a legal resident of the State of Georgia on the dates of the filing of the petitions herein. The petitioner is an attorney and has actively practiced his profession in Macon, Georgia, for about 20 years. On joint Federal income tax returns for the following years the petitioner and his wife, Harriet E. Bush, reported interest earned on loans in the following amounts: YearAmount1956$2,831.0919576,273.7219589,388.3419599,391.36263 These loans, all made in the name of Harriet E. Bush, were secured by first mortgages on real estate and all the funds used for the making of these loans and all interest income from them were kept in a separate bank account in the name of Harriet E. Bush. All the income from these loans was reported by Harriet on her separate state income tax returns. When petitioner and Harriet were divorced in 1963, all the notes outstanding from the loan transactions were found to be her property and were ordered, in that proceeding, delivered to her. Findings of Fact Issue 1 The Manchester Manufacturing Company, Inc., hereinafter referred to as Manchester, was incorporated in December 1956 for the purpose of manufacturing infants' playpens. The petitioner was the organizing attorney and represented the corporation from the date of its incorporation until its demise. Prior to December 26, 1958, there were outstanding 328.63 shares of capital stock of Manchester owned by the following shareholders in the following amounts: ShareholderSharesL. L. Gellerstedt10.00Wright Gellerstedt10.00Chrystall Starr75.00William E. Tribble5.00John M. Law50.00J. C. Peeler10.00Solomon F. Dowis, Jr. 168.63Total328.63264 Manchester was in need of additional capital in order to continue operations and had been unable to secure financing for that purpose. On December 26, 1958, petitioner acquired 60.25 percent of the outstanding stock of Manchester from the following shareholders for a nominal or no consideration: ShareholderSharesL. L. Gellerstedt10.00Wright Gellerstedt10.00Chrystall Starr75.00William E. Tribble5.00John M. Law50.00Solomon F. Dowis, Jr. 48.00Total shares acquired198.00Manchester sustained operating losses of approximately $18,000, $13,000, and $15,000 for the taxable years 1957, 1958, and 1959, respectively. The petitioner transferred funds to Manchester on the following dates in the following amounts: DateAmount12-27-58$10,0001-16-595,0003-25-592,0005- 8-591,0005-23-594,0006-20-591,0009- 5-59 2,000Total$25,000In view of the transfers of funds referred to above, on November 2, 1959, Solomon F. Dowis, Jr., in his capacity as president of Manchester, executed a 90-day note in the face amount of $25,000 payable to the order of the petitioner. In order to secure payment of the note265 on November 2, 1959, Solomon F. Dowis, Jr., also in his capacity as president of Manchester, executed a bill of sale to petitioner covering the personal property of Manchester. Petitioner assigned his interest in the note and bill of sale to the First National Bank and Trust Company, Macon, Georgia, to secure his personal indebtedness to the bank. The bank in the early part of 1960 foreclosed on the security listed in the bill of sale. At the foreclosure, the petitioner bid the property in at its fair market value, $8,000. In addition to the transactions described above, the petitioner made payments to third party creditors for the benefit of Manchester on July 6, 1959, in the amount of $306 and on August 21, 1959, in the amount of $917.80. These payments were made upon the 179 petitioner's guaranty of certain trade accounts of Manchester. The petitioner lost $18,223.82 2 on its dealings with Manchester as described above. 266 On their 1960 joint income tax return, petitioner and Harriet deducted a loss of $18,233.80 reported as having been sustained "on loans made to Manchester Mfg. Co., Woodland, Georgia, in connection with taxpayer's long established business of making loans." In the notice of deficiency, the respondent determined that to the extent of $18,223.82 the loss sustained by petitioner on his transactions involving Manchester were nonbusiness bad debts, allowable as short-term capital losses. Alternatively, the respondent determined that the transfers of funds to Manchester constituted contributions to capital and therefore the resulting loss was a capital loss. Issue 2 The Superior Engineering and Manufacturing Company, Inc., hereinafter referred to as Superior, was incorporated in January 1959 and started operations in April 1959. The petitioner, upon the incorporation of Superior, purchased 10 shares of its capital stock at a cost of $1,000. On June 6, 1961, petitioner purchased an additional 26 shares of the capital stock of Superior at a cost of $2,600. On December 18, 1961, the petitioner transferred $500 to Superior without taking any security for the repayment thereof. 267 During the taxable year 1963, the capital stock of Superior owned by petitioner became worthless. In 1962, the petitioner and three other shareholders of Superior became guarantors of a $5,000 loan made to Superior. The petitioner's pro rata liability on such guaranty was $1,250. Superior became insolvent in 1963, during which year the petitioner paid $1,250 in extinguishment of his liability as guarantor on the loan described above. On his 1963 income tax return petitioner deducted $5,350 as a "business bad debt." In the notice of deficiency, the respondent determined that petitioner's losses on account of capital stock and debts of Superior constituted capital losses. The loss of $3,600 on worthless stock was allowed as a longterm capital loss. The other bad debts of $500 and $1,250 were allowed as nonbusiness bad debts to be treated as short-term capital losses. Opinion Issue 1 The issue involved in the year 1960 is whether petitioner's losses of $18,223.82, in that year are deductible as business bad debts under section 166(a)(1)3 or as nonbusiness bad debts under section 166(d)(1). 4 Petitioner maintains the former while respondent contends the latter. In the alternative, 268 respondent maintains that the losses arose from the loss of capital contributions by the petitioner. However, we need not consider respondent's alternative position because, even assuming that petitioner's payments created valid debts rather than capital contributions, we find that the losses on these debts were nonbusiness in nature and thus deductible only as capital losses. The first question presented involves the deductibility as a business bad debt of the loss sustained by petitioner on the $25,000 note269 from Manchester. As detailed in the Findings of Fact, petitioner received a note and a bill of sale to secure debt in exchange for $25,000 loaned to Manchester. Petitioner, in turn, assigned his interest in these instruments to the First National Bank and Trust Company, Macon, Georgia, to secure his personal indebtedness to the bank. The bank in the early part of 1960 foreclosed on the security listed in the bill of sale at which point petitioner bid in the property at its fair market value of $8,000 and thus sustained a loss in the amount of $17,000. 5 180 The definition of a business bad debt arises by negative implication from section 166(d)(2) which provides: SEC. 166(d)(2). * * * the term "nonbusiness debt" means a debt other than - (A) a debt created or acquired (as the case may be) in connection with a trade or business270 of the taxpayer; or (B) a debt the loss from the worthlessness of which is incurred in the taxpayer's trade or business. In order for a bad debt to be considered "business" in nature, "It is axiomatic that some proximate relationship must be shown between an alleged business loan and the alleged business." Max M. Barish, 31 T.C. 1280">31 T.C. 1280 (1959); cf. sec. 1.166-5(b), Income Tax Regs. Thus, petitioner in the instant case must show that the $17,000 loss incurred by him, was incurred in proximate relationship to a trade or business carried on by him. It is well established that the business of a corporation is not that of its stockholders and therefore the requisite "trade or business" is not provided by the fact that petitioner was a stockholder of Manchester. Burnet v. Clark, 287 U.S. 410">287 U.S. 410 (1932). According to petitioner's tax return for 1960, the loans to Manchester were "in connection with taxpayer's long established business of making loans." 271 However, the record indicates that all of the loans, the interest from which were reported on petitioner's joint income tax returns in the years 1956 to 1959, were made in the name of Harriet, petitioner's wife, were secured by first mortgages on real estate, and all the funds used in making these loans and all interest income from them were kept in a separate bank account in the name of Harriet. Furthermore, when petitioner and Harriet were divorced in 1963, all the notes outstanding from the loan transactions were found to be her property and were ordered, in that proceeding, delivered to her. It therefore appears, and we so find, that assuming arguendo the existence of a lending business, it was that of petitioner's wife and that the loan to Manchester was a personal undertaking of petitioner without any proximate relationship to his wife's business (if it was such) of making loans. The record is barren of any showing by the petitioner that the loan to Manchester was part of any continuous and extensive pattern of lending by the petitioner so that this case might fall within "the exceptional situation where the taxpayer's activities in * * * making loans * * * have been regarded272 as so extensive as to constitute a business." Charles C. Berwind, 20 T.C. 808">20 T.C. 808, 815 (1953). Therefore we hold that the petitioner was not engaged in the business of lending money so as to qualify his loss for deduction as a business bad debt on that ground. Cf. Max M. Barish, supra; Estate of William P. Palmer, Jr., 17 T.C. 702">17 T.C. 702 (1951). The record also fails to contain sufficient evidence upon which this Court might find that petitioner's loans herein to a corporation, in which he was a shareholder and for which he performed legal services, bore a proximate relationship to petitioner's practice of law. Cf. Robert H. McNeill, 27 T.C. 899">27 T.C. 899 (1957), affd. on this issue but reversed on another, 251 F. 2d 863 (C.A. 4, 1958). In sum, petitioner has failed to establish that the loans in question were anything other than advances to a financially distressed corporation of which petitioner was a major shareholder, which advances bore a proximate relation to no activity of petitioner save his efforts to salvage his investment in Manchester. Therefore, we hold the $17,000 loss sustained by petitioner to be a nonbusiness bad273 debt. The second question with respect to the taxable year 1960 involves the dedctibility of several losses incurred by petitioner on payments made as a guarantor of certain of Manchester's trade accounts. It is established law that amounts paid on a guaranty of another's debt are deductible, if at all, only under the bad debt rather than the business loss section of the Code. Putnam v. Commissioner, 352 U. S. 82 (1956). Section 1.166-8(b), Income Tax Regs., 6 provides, in effect, that the character, as business or nonbusiness bad debt, of a guaranty loss depends on the proximate relationship of the debt to the petitioner's trade or business.274 181 Similarly to our conclusion in regard to the $17,000 loss discussed above, we find that the record in this case is insufficient to establish any proximate relationship between the losses on the guaranties of Manchester's trade accounts and any trade or business in which petitioner was engaged. Therefore, we hold the guaranty losses sustained by petitioner in the amounts of $306 and $917.80 to be nonbusiness bad debts. Issue 2 Petitioner, on his 1963 income tax return, claimed an ordinary deduction of $5,350 as a "business bad debt." This deduction consisted of the following amounts in regard to the following transactions: a $3,600 loss arising from the worthlessness in 1963 of petitioner's stock in Superior; a $500 loss on a loan by petitioner in that amount made to Superior on December 18, 1961; and a loss of $1,250 as petitioner's pro rata liability as guarantor of a $5,000 loan made to Superior. Respondent maintains that all the losses described above are capital in nature, $3,600 as a long-term capital loss, and $500 and $1,250 as short-term capital losses. Petitioner's tax treatment of the $3,600 loss on the worthlessness of his Superior stock as a bad debt implies275 that it was a loss arising from a debtor-creditor relationship. However, ownership of stock in a corporation does not create any such relationship and a loss on the worthlessness of corporate stock must be deducted, not under the bad debt provisions of section 166, but rather under the specific "worthless securities" provision of section 165(g). 7 Therefore, we agree with respondent's treatment of the loss in question as a long-term capital loss, rather than with petitioner's treatment of it as an ordinary deduction. As for petitioner's $500 loss on276 his loan to Superior in that amount, again we need not consider respondent's alternative argument that the $500 was in reality a contribution to capital, because, assuming the existence of a bona fide debt, we find it to be nonbusiness in character. The previous discussion with regard to the necessity for showing that the debt is proximately related to a trade or business of the petitioner is equally applicable to this item. Again petitioner has failed to establish such a proximate relationship. Cf. Max M. Barish, supra; Estate of William P. Palmer, Jr., supra.Therefore, we conclude that the $500 loss is a nonbusiness bad debt and deductible only as a short-term capital loss. Finally, concerning the tax treatment to be accorded petitioner's loss on his payment as guarantor of a loan made to Superior, the discussion with regard to petitioner's guaranty of trade accounts of Manchester is equally applicable to this item. Since petitioner had made no showing of a proximate relationship between the debt and a trade or business of his, we hold that the $1,250 loss is a nonbusiness bad debt and deductible only as a short-term capital loss. Decisions will277 be entered for the respondent. Footnotes1. All statutory references are to the Internal Revenue Code of 1954 unless otherwise stated.↩2. There appears to be a discrepancy between this figure and the other stipulated facts. The loss on the mortgage foreclosure is $17,000 ($25,000 - $8,000), and the payments to third party creditors amounted to $1,223.80, a total of $18,223.80, not $18,223.82. However, since the parties stipulated the losses to be $18,223.82, we will accept that figure as the correct one.↩3. Sec. 166(a). General Rule. - (1) Wholly Worthless Debts. - There shall be allowed as a deduction any debt which becomes worthless within the taxable year. ↩4. Sec. 166(d). Nonbusiness Debts. - (1) General Rule. - In the case of a taxpayer other than a corporation - (A) subsections (a) and (c) shall not apply to any nonbusiness debt; and (B) where any nonbusiness 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.↩5. Section 1.166-6, Income Tax Regs.↩, provides that if mortgaged property is sold for less than the amount of the debt, the loss is measured by the amount of the indebtedness remaining unsatisfied, if uncollectible, here $17,000.6. Sec. 1.166-8. Losses of guarantors, endorsers, and indemnitors. (b) Corporate obligations. The loss sustained during the taxable year by a taxpayer other than a corporation in discharge of all of his obligations as a guarantor of an obligation issued by a corporation shall be treated, in accordance with section 166(d) and the regulations thereunder, as a loss sustained on the worthlessness of a nonbusiness debt if the debt created in the guarantor's favor as a result of the payment does not come within the exceptions prescribed by section 166(d)(2)(A) or (B)↩. * * 7. Sec. 165(g) Worthless Securities. - (1) General Rule. - If any security which is a capital asset becomes worthless during the taxable year, the loss resulting therefrom shall, for purposes of this subtitle, be treated as a loss from the sale or exchange, on the last day of the taxable year, of a capital asset. (2) Security Defined. - For purposes of this subsection, the term "security" means - (A) a share of stock in a corporation; * *↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621593/	Robert E. Kennedy v. Commissioner.Kennedy v. CommissionerDocket No. 3882-69 SC.United States Tax CourtT.C. Memo 1970-58; 1970 Tax Ct. Memo LEXIS 301; 29 T.C.M. (CCH) 255; T.C.M. (RIA) 70058; March 5, 1970, filed. Robert E. Kennedy, pro se, 5626 Loretto Ave., Philadelphia, Pa., David W. Winters, for the respondent. DAWSONMemorandum Findings of Fact and Opinion DAWSON, Judge: Respondent determined an income tax deficiency of $147 against the petitioner for the year 1966. Respondent's notice of deficiency302 dated April 30, 1969, reflects the following: Statutory deficiency$147.00Overpayment claimed (not refunded)$447.64Eliminate - Federal gaso- line tax (8.93)438.71Net overpayment($291.71)By error respondent mailed to petitioner a refund check for 1966 in the amount of $495.87, representing an overpayment of $439.04 plus interest. Petitioner claimed in his petition an additional deduction of $1,276.01 which was not claimed in his Federal income tax return for 1966. The issues presented for decision are: (1) Whether petitioner maintained a tax home in Philadelphia while he worked for United Air Lines in Chicago, so that he may deduct claimed traveling expenses; (2) whether petitioner is entitled to deduct the cost of new clothing as a business expense; (3) whether petitioner is entitled to deduct the value of his old clothing given to a charitable organization; (4) whether petitioner is entitled to deduct "strike expenses"; and (5) whether petitioner qualifies for a tax credit for non-highway use of gasoline under section 6421 (c)(3)(A)(ii), Internal Revenue Code of 1954. 1303 Findings of Fact Some of the facts were orally stipulated in the record and are so found. Robert E. Kennedy (herein called petitioner) resided in Philadelphia, Pennsylvania, at the time he filed his petition in this proceeding. He filed his Federal income tax return for the year 1966 with the district director of internal revenue, Philadelphia, Pennsylvania. Petitioner is a commercial airline flight officer. In November 1965, he applied for a position as a flight officer with United Air Lines. United employed him on January 10, 1966, and sent him to school at its flight training center in Denver, Colorado, until April 9, 1966. On his 1966 Federal income tax return petitioner claimed unreimbursed traveling expenses of $570.47 while he was in Denver. Respondent allowed the deduction. In April 1966, United assigned petitioner to his first flight domicile in Chicago, 256 Illinois, where he lived in an apartment. Petitioner did not choose Chicago, and would have preferred another assignment. By the terms of his contract with United petitioner was obligated to stay in Chicago for at least six months, but after that period he could request transfer to another location. His request304 would be granted if a vacancy existed at the other location and if the vacancy was not filld by a transferee with more seniority. In 1966 United was expanding so rapidly, and vacancies were so numerous, that petitioner expected little or no difficulty in transferring out of Chicago. In fact, after six months, he was able to transfer to another location he preferred. On October 22, 1966, petitioner was transferred to San Francisco in response to his first request. He remained there until August 1968, when he was transferred to New York. At the time of trial petitioner was flying out of New York, while living in Philadelphia. For 16 years prior to his joining United, petitioner had resided at his uncle's home at 5626 Loretto Avenue, Philadelphia, Pennsylvania. In September 1966, he purchased this house from his uncle. While petitioner was stationed at Denver, Chicago, and San Francisco during 1966, he left various possessions in the Philadelphia house. For example, he left tools, books, some furniture, clothing which was too large, automobile and airplane parts, and model electric trains. He also left at an airfield in Philadelphia two airplanes worth several thousand dollars. 305 In his petition the petitioner claimed a deduction of $1,276.01 for traveling expenses, including amounts expended for meals and lodging. At the time of his November 1965 interview with United, petitioner was 40 pounds overweight. Anticipating that his weight could affect his prospects of being employed by United, petitioner began losing weight. By January 10, 1966, petitioner had lost 15 pounds, and by the end of his training he had lost a total of 38 pounds. Although United did not order petitioner to lose weight, it did inform him that he was overweight, and petitioner kept United informed of his weight loss. Because of the importance of physical health to airline pilots, petitioner's weight loss was necessary to his employment. Petitioner, in his slimmer form, needed a new wardrobe. He spent $722.82 for new clothes, and claimed $500 of such amount as a business expense on his 1966 Federal income tax return. None of this amount was spent for uniforms. Petitioner directed his mother to give some of his ill-fitting clothes to charitable organizations, which she did. Petitioner did not prove that the value of this clothing exceeded $100. From July 8, 1966, until August 19, 1966, United's306 flight operations were shut down by a mechanics' strike. From July 18 until August 19, 1966, petitioner was placed on furlough without pay. Petitioner went to Philadelphia, looking for some sort of temporary work. Since petitioner still had to maintain his apartment in Chicago, he thought he was "entitled to something equal to per diem, and so forth, and I guess that is basically what my strike expense was." On his 1966 Federal income tax return petitioner deducted $289 for "strike expenses." Petitioner's 1966 Federal income tax return was dated June 7, 1967, and was received by the district director of internal revenue at Philadelphia on June 12, 1967. Attached to the return was a Form 2688, requesting an extension of time for filing. On his income tax return petitioner claimed a credit of $8.93 for taxes paid for non-highway use gasoline. Respondent does not dispute the amount of the credit, but disallowed it because the return and the claim were not timely filed. Opinion 1. Claimed Traveling Expenses. Generally, amounts expended for food and lodging are "personal, living or family expenses" and are nondeductible under section 262 of the Code and section 1.262-1(b)(3) and307 (5), Income Tax Regs. However, in certain circumstances, such amounts are deductible as ordinary and necessary business expenses under section 162(a)(2). 2 An essential requirement is that such expenses be paid or incurred "while away from home 257 in the pursuit of a trade or business." See Commissioner v. Flowers, 326 U.S. 465">326 U.S. 465 (1946). For purposes of section 162(a)(2), "home" means the taxpayer's principal place of employment and not where his personal residence or house is located, if it is located in a different place from his principal place of employment. See Commissioner v. Stidger, 386 U.S. 287">386 U.S. 287 (1967); Ronald D. Kroll, 49 T.C. 557">49 T.C. 557 (1968); Mort L. Bixler 5 B.T.A. 1181">5 B.T.A. 1181 (1927).308 If a taxpayer accepts temporary work away from his principal place of employment, he is "away from home." E.G. Leach 12 T.C. 20">12 T.C. 20 (1949);, Harry F. Schurer, 3 T.C. 544">3 T.C. 544 (1944). If he accepts work at a new location for an indefinite or indeterminate period, the new location becomes his new "home" for tax purposes. Commissioner v. Peurifoy, 254 F. 2d 483 (C.A. 4, 1957), affirmed per curiam 358 U.S. 59">358 U.S. 59 (1958); Ronald D. Kroll, supra at 562. Naturally, because of his mobility, a bachelor will often have greater difficulty than a married man in showing that it is unreasonable for him to maintain a residence near his trade or business, or that a duplication of expenses is other than a personal whim. Rev. Rul. 60-189, 1 C.B. 60">1960-1 C.B. 60, 68. The petitioner contends that because he was assigned, contrary to his request, to Chicago, and because he intended to transfer from there after six months, his work in Chicago was only temporary. It is entirely irrelevant that petitioner did not care for his Chicago assignment. No doubt many taxpayers with permanent employment would prefer a new job, a different city or a more309 pleasant climate. What is significant here is that the petitioner had only one principal place of employment and that was Chicago until he was transferred to San Francisco. The impermanence of an assignment alone does not make it "temporary." Cf. Floyd Garlock, 34 T.C. 611">34 T.C. 611, 616 (1960). Petitioner had no trade or business in Philadelphia in 1966. It is true that he left a few personal possessions at his uncle's house in Philadelphia, and that he left two airplanes there. It is also true that he bought his uncle's house in September of that year. But these actions were personally, not business, motivated. The evidence shows that petitioner had no immediate plans for returning to work in Philadelphia. His few possessions did not tie him there; and he had no family to consider in choosing his principal place of employment. His choice of transfer from Chicago was San Francisco, not Philadelphia. Under the circumstances Philadelphia cannot be regarded as his tax home during 1966. Consequently, we hold that the claimed traveling expenses in Chicago must be disallowed. 2. New Clothes. During 1966 petitioner lost weight, as required for his new job with United. He claimed a310 $500 deduction for the new clothes he purchased. All were ordinary street clothes. It is well settled that only clothes such as uniforms, which are required for employment and which are not suitable for general or personal wear, qualify as business expenses under section 162. See, e.g., Jerome Mortrud, 44 T.C. 208">44 T.C. 208 (1965); Betsy Lusk Yeomans, 30 T.C. 757">30 T.C. 757 (1958). Accordingly, we hold that respondent properly disallowed the claimed deduction as a personal expense. 3. Old Clothes Donated. As indicated in our findings of fact, the petitioner's mother gave his old clothes to charitable organizations. However, in view of petitioner's sketchy testimony, we have found the value of the clothing to be approximately $100. Cohan v. Commissioner, 39 F. 2d 540 (C.A. 2, 1930). 4. Strike Expenses. Petitioner seeks to deduct $289 as "strike expenses." According to his testimony, the money was paid for rent, food and other necessities while he was not working during the mechanics' strike at United Air Lines. Clearly these are ordinary living expenses and are not deductible. Section 1.262-1(b), Income Tax Regs. With regard to this claimed deduction the petitioner311 testified: "I didn't know any ground for it, and I still don't know any ground for it." Neither do we. 5. Nonhighway Federal Gasoline Tax Credit. Petitioner claimed a credit of $8.93 for taxes paid on nonhighway use gasoline under section 6421. To be entitled to the credit petitioner was required to file a timely return. Section 6421(c)(3)(A)(ii). He testified that on April 17, 1967, the last day for filing, he mailed to respondent a letter requesting an extension of time for filing his Federal income tax return for 1966. Petitioner retained no copy of the letter and respondent has no record of receiving it. In addition, he attached a Form 2688 to his late return. Under the circumstances we are unable to accept his testimony on this point. Since his return was not mailed 258 until June 7, 1967, and his application for an extension of time to file the return was also untimely, petitioner is not entitled to the credit. To reflect our conclusions on the disputed issues, Decision will be entered under Rule 50. Footnotes1. All statutory references are to the Internal Revenue Code of 1954 unless otherwise indicated.↩2. SEC. 162. TRADE OR BUSINESS EXPENSES. (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 trade or busines, including - * * * (2) traveling expenses (including amounts expended for meals and lodging other than amounts which are lavish or extravagant under the circumstances) while away from home in the pursuit of a trade or business; and↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621595/	GEORGE H. FRASER, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Fraser v. CommissionerDocket No. 5929.United States Board of Tax Appeals6 B.T.A. 997; 1927 BTA LEXIS 3349; April 25, 1927, Promulgated 3349 No entry was made on the books of account charging off an amount due from a citizen and resident of an enemy country due to the belief of the petitioner that to make such an entry would be to extend credit to such enemy in violation of law. Such account was eliminated from the balance sheet and from credit statements. Held, that under a reasonable construction of the Revenue Act such debt had been charged off. Almet Reed Latson, Esq., for the petitioner. W. Frank Gibbs, Esq., for the respondent. PHILLIPS 997 The petitioner appeals from the determination by the Commissioner of a deficiency of $1,791 in income tax for 1920 and from the rejection by the Commissioner of a claim for refund of $29,458.29 income tax for 1919. He alleges as error the refusal of the Commissioner to permit the deduction of a debt which he asserts was ascertained 998 to be worthless and charged off during 1919, or, in the alternative, in 1920. FINDINGS OF FACT. George H. Fraser, the petitioner, is a resident of the Borough of Brooklyn, City and State of New York, and now is, and during 1919 and 1920 was, engaged in business under the trade name of3350 Kent Mill Co. The petitioner has been so engaged in business for upwards of thirty years. The petitioner's business is the manufacture of machinery including what is known as a Kent mill, a machine for pulverizing granite and rock for cement. The Kent mill was a patented device, the patents for which were owned by the petitioner. These mills were massive and cost about $2,500 each. In or about the year 1906, the petitioner made a contract with one Curt Von Greuber, a resident and citizen of Berlin, Germany, under the terms of which the petitioner thereafter sold to Von Greuber mills manufactured by the petitioner under the patent above described. The purchase price of said mills was payable by Von Greuber in American dollars or their equivalent in German marks. Von Greuber maintained his office in Berlin, Germany, and also maintained a separate office in England. Shipments were made by the petitioner to Von Greuber in Germany and to such other points in Europe as Von Greuber directed, some shipments being made directly to the customers of Von Greuber. Von Greuber's activities were largely outside of Germany and relatively few of the machines were sold in Germany. The3351 machines were shipped complete in some cases and knocked down in others. Von Greuber maintained a stock of complete machines, parts, and accessories at various points. When sales were made, the terms of sale were entirely within the discretion of Von Greuber, the petitioner looking to him alone for compensation. Shipments to Von Greuber averaged from ten to thirty machines a year. At the inception of the relations, payments for machines were made rather promptly but later payments became somewhat slower and at the time of the outbreak of the war between Great Britain and Germany in 1914, Von Greuber was indebted to the petitioner in the sum of $119,910.82 for machines and parts which had been theretofore shipped to him. The last shipment was made in 1913. At the time of the outbreak of the war, the petitioner was in receipt of a letter from Von Greuber indicating that the business was still continuing with good and sound orders for more than $250,000, that Von Greuber had enlisted in the German army and that he had appointed one Hansen, a Norwegian subject, as general director of his business. 999 Thereafter and on October 24, 1914, the petitioner received a communication3352 from Hansen to the effect that one Walker, an employee of Von Greuber in charge of the English branch of Von Greuber's business, had taken over the English assets and intended to conduct the business in his own name for his own account. The letter charged that Walker was unreliable. This was the first indication that the petitioner had received that Von Greuber had suffered a loss of any assets of his business. Thereafter and on February 14, 1915, the petitioner received a further communication from Von Greuber indicating that it was doubtful how much longer the business could be kept going and containing a suggestion that the petitioner reduce his account by at least 50 per cent and provide for payments in installments. Von Greuber stated that if this could be done he probably could interest new capital in the venture. This letter indicated the prevalence of propaganda in the German industries against American capital and American products. The petitioner did not accept the proposition. From time to time thereafter the petitioner received from various sources information as to German industrial conditions, the existence of an embargo which prevented Von Greuber from shipping3353 machines outside of Germany and the general restriction of industrial enterprises. Thereafter and in the year 1917 Hansen, the general director of Von Greuber's business, called upon the petitioner at his office in New York and told him that unless the petitioner was willing to advance the sum of $20,000 the Von Greuber concern would be unable to carry on. He advised the petitioner that the Von Greuber factory was mortgaged and that the concern itself was heavily in debt and that they had no money with which to meet their obligations. The proposed advance was not made by the petitioner. On June 28, 1919, the treaty of Versailles was signed, imposing heavy burdens upon Germany. In July, 1919, petitioner wrote Von Greuber asking how he was and how he was situated. In reply the petitioner received a letter dated August 12, 1919, in which it was stated that Von Greuber was a prisoner of war, that it was doubtful how much longer they could keep the business going and that Hansen was trying to get orders. No further orders were ever received by the petitioner. This particular branch of the petitioner's business was abandoned and no efforts have been made since that time to3354 reinstate it. No further incident transpired until the latter part of 1920 when the petitioner received a call from Hansen. Hansen advised the petitioner that Von Greuber's business had "gone to pot," that he had 1000 lost his plant and was engaged in engineering, and that he was hardly able to make a living. In 1916 the petitioner made a financial statement to the Carnegie Steel Co. in which he included the Von Greuber account as a part of his assets. These statements were made about every three years. In June, 1919, shortly before the signing of the treaty of Versailles, the petitioner received a communication from the Carnegie Steel Co. requesting a further financial statement. For the purpose of making up this statement, the petitioner took from his books a statement of the debts and liabilities in the form of pencil memoranda and the Von Greuber account was eliminated from this memorandum by the petitioner by a line drawn through it. The word "out" was written on the margin of the memorandum opposite this item. The financial statement was given to the Carnegie Steel Co. in July, 1919, from which the Von Greuber account was eliminated. In answer to a request3355 by the Brier Hill Steel Co. in September, 1920, the petitioner furnished a financial statement. The Von Greuber account was not included as an asset in this statement. The petitioner during all this time made no entries upon his books of account with reference to the Von Greuber item because of his belief that in so doing he would be violating the provisions of the "trading with the enemy act," and that marking the same off upon his books was equivalent to giving credit to an enemy. The Von Greuber item was not deducted upon the petitioner's report for the year 1919 because under the statute he thought it would be necessary to make physical entries in his books in order to charge the same as a bad debt and this the petitioner did not feel free to do. The Von Greuber account was never claimed by the petitioner as a deduction upon any report subsequent to 1919 or 1920 nor has he at any time received any credit for it. No attempt was made to charge off the Von Greuber account after 1919 because of the petitioner's firm opinion that his loss had occurred in that year. The petitioner felt free to eliminate the account from his financial statements because that could be accomplished3356 without physical entries upon his books and for the further reason that, as he viewed it, it did not involve a transaction with an enemy. On March 27, 1924, the petitioner made an entry upon his journal charging the Von Greuber item of $119,910.82 to profit and loss account as of December 31, 1919. Thereupon the petitioner applied for leave to file an amended return for the year 1919 embodying the Von Greuber deduction. The petitioner filed his tax return for the year 1919 showing a taxable net income of $96,742.35, and a taxable liability of $29,458.29. Upon the reaudit by the Commissioner, the return was approved as 1001 filed. The petitioner likewise filed an income-tax return for the year 1920 showing a taxable net income of $104,749.79 and a tax liability of $34,119.87. Upon a reaudit the Commissioner determined an increase in taxable income of $2,985 and an additional assessment of $1,791 for 1920. On neither of these did the petitioner claim as a deduction the debt here in question. A claim for refund of 1919 tax was filed claiming such debt as a deduction in that year or in 1920. Such refund was denied and no deduction was allowed by the Commissioner for3357 either year. Notice of the rejection of the claim for refund of 1919 taxes was mailed by the Commissioner to the petitioner on the same date as the letter notifying petitioner of the deficiency for 1920. The petitioner purports to appeal from the determination for both years. OPINION. PHILLIPS: The Commissioner has moved to dismiss the appeal, so far as it relates to 1919, for want of jurisdiction in the Board to hear and determine the proceeding. The Commissioner has determined no deficiency for that year. He has denied the petitioner's claim for refund and permitted the tax liability to remain as shown on the return filed. In such circumstances we have no jurisdiction of the proceeding, under the Revenue Act of 1926, whatever may have been the situation under the Revenue Act of 1924. Section 274(g) of the Revenue Act of 1926; ; . The proceeding will be dismissed as to that year. It is the contention of the petitioner that the indebtedness of Von Greuber was ascertained to be worthless in 1919, in which year the treaty of Versailles was executed, 3358 imposing heavy burdens upon Germany and German industries. He had learned in 1915 and 1917 that his debtor was in financial difficulties but at the time the treaty was signed had no more definite knowledge of the financial condition of his debtor than in 1917 when he was advised that if he could not advance $20,000, the business of Von Greuber, which was heavily indebted, could not survive. What had happened in the meantime was to him only a matter of conjecture. Shortly after the treaty was signed he wrote Von Greuber and learned that although he was a prisoner of war, his business was still being carried on, although it was doubtful how much longer it could survive. No further investigation was made to determine the precise financial condition of the debtor. We do not conceive that in such circumstances it can be said that the debt was ascertained to be worthless in that year within the meaning of the Revenue Act. While the debt is to be deducted in the year in which the taxpayer ascertains its worthlessness, and some discretion must be given him 1002 to act within sound business judgment, it is our opinion that the information in his possession in 1919 was insufficient3359 upon which to ascertain either worth or worthlessness. In 1920, however, petitioner learned that Von Greuber's plant had been sold under foreclosure, that his property had been taken to pay his debts, and that he was earning a precarious living in engineering. This constituted sufficient information of the situation of his debtor upon which to act. We have accordingly reached the conclusion that it was in 1920 that the debt was ascertained to be worthless. The statute, however, requires that the debts shall not only be ascertained to be worthless, but that they shall be "charged off within the taxable year." The statute is silent as to how or where or in what manner they are to be charged off. If no books are kept, where is the charge-off to be made? If books are kept, must it be done by an entry on the books? Here it is conceded that books were kept and that no charge-off was made thereon until 1924 when the entry was made as of 1919. This entry, made several years after the taxable year involved, and after the books for that year had been closed, seems to us clearly insufficient to meet the requirements of the statute. The only other act to consider was the elimination3360 of the account from the financial statement. While this was first done in 1919, it would seem that under some circumstances a charge-off in a prior year may satisfy the statute, since in such case nothing remains to be charged off within the taxable year. See . The purpose of the statute appears to be to require that some record be made of the ascertainment of worthlessness. An interpretation of the statute which would deny any deduction except when a charge-off was made upon books of account within the limits of the calendar year, especially when it is considered that closing entries are not usually made until after the close of the year, would work a hardship which we can not believe was intended or is required and would attach to acts which are merely clerical an importance as great as is to be given to the substance of the situation. The statute must be given a reasonable interpretation, if possible. Clearly it was the intent that a deduction should be allowed for worthless debts in the year in which worthlessness was ascertained and that the charging off of the debt might take other forms than entries on the*3361 books of the taxpayer. . We are of the opinion that the petitioner met the requirements of the statute when he eliminated the account from his financial statements and that he is entitled to the deduction in 1920. Decision will be entered on 10 days' notice, under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621596/	Roberts Dairy Company v. Commissioner.Roberts Dairy Co. v. CommissionerDocket No. 20442.United States Tax Court1950 Tax Ct. Memo LEXIS 62; 9 T.C.M. (CCH) 1000; T.C.M. (RIA) 50271; October 31, 195062 In 1943 petitioner made a contribution to the National Tax Equality Association. This association was organized in the latter part of 1943 to conduct research activities relative to disparties in Federal and state tax statutes and to disseminate such information to civic organizations and representatives of business, to the public and to Federal and state governments. Held, such contribution is nondeductible in computing gross income under either section 23 (a) (1) (A) or 23 (q) (2), Internal Revenue Code. Harry R. Henatsch, Esq., 1501-1518 City Nat. Bank Bldg., Omaha, Neb., and Robert K. Adams, Esq., for the petitioner. George63 E. Gibson, Esq., for the respondent. JOHNSON Memorandum Findings of Fact and Opinion JOHNSON, Judge: Respondent has determined deficiencies in excess profits tax for the years 1942 and 1943 of $20,574.19 and $54,384.69, respectively. The sole issue for determination is whether or not $750 paid to the National Tax Equality Association in 1943 is deductible from gross income under either section 23 (a) (1) (A) or 23 (q) (2), Internal Revenue Code. All other issues have been waived by petitioner. Part of the facts were stipulated and are so found. Findings of Fact Petitioner is a corporation organized under the laws of the State of Nebraska with its principal place of business at 2901 Cuming Street, Omaha, Nebraska. Its returns for 1943 were filed with the collector of internal revenue for the district of Nebraska. Petitioner is engaged in the dairy business and operates in a manner which is known in the trade as an "independent." It does not produce its own milk, but must purchase it from producers. In the years immediately prior to and including 1943 petitioner was faced with severe competition from dairies functioning in a cooperative64 type of business organization. Petitioner had difficulty retaining its suppliers and customers because of the advantages offered them by the cooperatives. These advantages were made possible because of the stronger financial position of the cooperatives compared with petitioner, brought about to a large degree by their tax-exempt status under section 101 (12) and (13) of the Code. To meet the competition of the cooperatives, petitioner had the alternatives of changing its form of doing business to that of a cooperative type of organization; of placing before its customers, suppliers and interested persons, facts and statistics showing the tax advantage enjoyed by cooperatives, and thereby being able to better explain its competitive position; or, of ultimately realizing a tax status equal to that of the cooperatives. To obtain aid from the services proposed by the National Tax Equality Association in meeting these problems, petitioner paid $750 in October 1943 to the National Tax Equality Association (hereinafter referred to as NTEA), and subsequently received the bulletins, research publications and other literature distributed by NTEA. NTEA was incorporated under the laws of65 the State of Illinois on October 11, 1943. It is a nonprofit organization supported by contributions entitling the contributor to membership for one year. Its articles of incorporation provide that the objects and purposes for which it was organized are: "* * * to conduct educational, scientific and research activities relative to disparities in federal and state tax statutes and other laws and regulations affecting business, and to disseminate such information to civil organizations and representatives of business affected thereby, to the public and to federal and state governments. The Corporation shall be non-sectarian, non-partisan, and no part of the net earnings, if any, of the Corporation shall inure to the benefit of any private shareholder or individual." The first regular meeting of the incorporators of NTEA was held November 18, 1943, at which time the members of the board of directors were nominated and elected. The first regular meeting of the board of directors of NTEA was held on November 19, 1943, at which time the constitution and by-laws were adopted and officers were elected. The remainder of 1943 constituted an organizational period during which time staff66 personnel were employed and research was begun. Two or three bulletins were distributed during this period. NTEA operated under the charter granted in October 1943 until 1949 when the charter was amended to permit the urging of the elimination of tax disparties. While operating under the 1943 charter, bulletins and literature distributed were directed toward informing its members and the public of the tax disparities between private and cooperative business organizations. These bulletins were made available for further distribution by its members and suggestions to that effect were made by NTEA on attached order blanks. NTEA did not engage directly in lobbying activities, had no congressmen on its mailing list and did not request to appear before congressional committees considering changes in the tax statutes. Officials of NTEA did, however, appear before the Ways and Means Committee of the House of Representatives in 1947 at the Committee's request. In March 1946, NTEA, in one of its bulletins, asserted that the inquiry by this Committee concerning tax-exempt businesses was a direct result of the energy given that issue by NTEA. In an NTEA publication dated February 1, 1944, the67 program of NTEA was to be one of dissemination to its members as well as to trade papers, periodicals, and newspapers of information prepared by its research division dealing with unequal taxation. It would also sponsor programs by speakers representing NTEA. It proposed to maintain a Washington counselor to represent the association and its members before congressional committees and other governmental agencies, as well as before state legislatures and other state, county and municipal bodies wherever tax problems arose. Exemption from Federal income tax was granted NTEA by the Commissioner under section 101 (6) of the Code on December 24, 1943. Upon the request of NTEA dated January 10, 1944, the Commissioner reconsidered his previous ruling and modified it to allow exemption from Federal income tax under section 101 (7). On November 19, 1943, a bill was introduced in the House of Representatives which on February 25, 1944, was enacted as the Revenue Act of 1943. Section 117 of the Act required organizations exempt from tax to file information returns. Publicity of NTEA gave credit to NTEA for the inclusion of this section in the bill as a result of NTEA's fact finding and publicity68 having been successfully presented by its members to Congress. NTEA was organized and primarily operated from its inception for the carrying on of propaganda with the ultimate objective being a revision in the tax structure. Opinion The issue in this proceeding for our determination is whether or not a contribution of $750 paid to the National Tax Equality Association in 1943 is deductible from gross income as an ordinary and necessary business expense under section 23 (a) (1) (A)1 of the Code, or in the alternative, deductible under section 23 (q) (2). 269 Contributions to organizations carrying on propaganda or otherwise attempting to influence legislation are nondeductible under section 23 (q) (2). (See Footnote 2). The Supreme Court in Textile Mills Securities Corp. v. Commissioner, 314 U.S. 326">314 U.S. 326, has unequivocally applied that portion of article 23(q)-1 of Regulations 94, which in all material respects is the same as section 29.23(q)-1 3 of Regulations 111, here applicable, to make nondeductible under section 23 (a) (1) (A) expenditures to an organization engaged in the activities set out in the regulation. See also, Mary E. Bellingrath, 46 B.T.A. 89">46 B.T.A. 89. Upon this authority we come to the ultimate question for determination: Was this contribution expended for the exploitation of propaganda or the promotion or defeat of legislation? NTEA, the organization to which the contribution70 was made, was incorporated in October 1943. Officers were elected on November 19, 1943. Its object, as we have found, was to disseminate information to the public and to Federal and state governments relating to tax disparities in which petitioner was vitally interested. The remainder of 1943 was essentially an organizational period with its activities being confined to starting research and to the publication of a few bulletins. Petitioner has failed to show wherein the purpose of the organization of NTEA was any different or that its activities or type of information disseminated was any different in 1943 than in later years operating under the same charter prior to 1949. This being the case, it appears to us that all of its activities adhered to the object of its organization and that the type of information disseminated in later years, which is in evidence, was the type intended upon its incorporation. That NTEA did not regard itself as an organization of the type exempt from income tax under section 101 (6) of the Code (contributions to which are deductible under section 23 (q) (2)), is clearly shown by its request to the Commissioner to change the exemption granted under section71 101 (6) to exemption under section 101 (7) as a business league. Although this was done in January 1944, it appears to have been based on the same evidence and was part of the same correspondence begun in December 1943. Whatever the purpose for this request we can not say, but it does establish that NTEA did not regard itself as an organization of the type exempt under section 101 (6). On November 18, 1943, a bill was introduced in the House of Representatives, which was referred to the Ways and Means Committee, and was later enacted on February 25, 1944, as the Revenue Act of 1943. Section 117 of this Act, as passed, was identical with the bill as introduced which required organizations including cooperatives exempt from tax under section 101 of the Code to file information returns. NTEA, in its publicity, took credit for the inclusion of this section as a result of its fact finding and publicity having been successfully presented to Congress by members of NTEA but not by NTEA directly. In view of the fact that NTEA was organized and operated for such a short period of time in 1943 consideration is given to evidence before us dealing with years subsequent to 1943, merely for clarification72 of the nature of its activities and pattern of its program. However, we do not base our conclusion entirely upon this evidence. As early as February 1944, we have found, NTEA proposed to distribute propaganda to its members as well as to trade papers, periodicals, and newspapers. It would also sponsor programs by speakers representing NTEA. A counselor would be maintained in Washington, D.C., to represent the association and its members before congressional committees. In 1946 NTEA asserted that inquiry by the Ways and Means Committee of the House of Representatives concerning the tax-exempt businesses was a direct result of its energy. In 1947 officials of NTEA appeared before the Ways and Means Committee to present its factual information. Although NTEA engaged in no paid "lobbying" activities nor distributed the propaganda directly to the members of Congress, it makes little practical difference whether NTEA did it directly or merely supplied the ammunition which was further distributed by its members. The end result was the same and the propaganda was just as effective in achieving the ultimate objective. The efforts of NTEA are directed against the tax advantages enjoyed73 by cooperatives and similar business organizations. Since these advantages were acquired through tax statutes specifically granting them, a change must come by way of a revision of the statute and this can be accomplished only by legislation. Hence, the only reasonable purpose for the existence of NTEA is to influence legislation and contributions to it were used for that purpose. In the face of section 101 granting the exemptions, petitioner's contention that revision can be accomplished by means other than legislation does not seem plausible. This being the case we can only conclude that the objectives of its activities were the carrying on of propaganda or otherwise attempting to influence legislation under section 23 (q) (2) and the promotion or defeat of legislation or the exploitation of propaganda within the prohibition of section 29.23(q)-1 of Regulation 111. Therefore, the expenditure here in question is nondeductible under either section 23 (q) (2) or 23 (a) (1) (A). Petitioner has cited several cases as authority for allowing this deduction as a business expense which we think inapplicable. In Luther Ely Smith, 3 T.C. 696">3 T.C. 696, the Court held that no legislation74 was involved inasmuch as an amendment to the Constitution of the State of Missouri was voted by the people and became self-operative without approval of the legislature. In Los Angeles & Salt Lake Railroad Co., 18 B.T.A. 168">18 B.T.A. 168, and the other cases cited by petitioner, which were based on contributions to the Railway Executives Association, as well as Lucas v. Wofford, 49 Fed. (2d) 1027, and Independent Brewing Co. of Pittsburgh, 4 B.T.A. 870">4 B.T.A. 870, the decisions indicated that to be nondeductible the expenditure must have been for illegal purpose. These cases antedate the cases of Textile Mills Securities Corp. v. Commissioner, supra, and Mary E. Bellingrath, supra, both of which disallowed expenditures made for legitimate purposes, but which fell within the prohibition of the phraseology of the regulations. Since the regulations have determined that expenditures made for the exploitation of propaganda or the promotion or defeat of legislation are not deductible as business expenses, we find it unnecessary to determine whether or not these expenditures were ordinary or necessary expenses. Decision will be entered for the75 respondent. Footnotes1. SEC. 23. DEDUCTIONS FROM GROSS INCOME. In computing the net income there shall be allowed as deductions: (a) Expenses. - (1) Trade or Business Expenses. - (A) In General. - All the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, including a reasonable allowance for salaries or other compensation for personal services actually rendered; * * . ↩2. (q) Charitable and Other Contributions by Corporations. - In the case of a corporation, contributions or gifts payment of which is made within the taxable year to or for the use of: * (2) A corporation, trust, or community chest, fund or foundation, created or organized in the United States or in any possession thereof or under the law of the United States, or of any State or Territory, or of the District of Columbia, or of any possession of the United States, organized and operated exclusively for religious, charitable, scientific, veteran rehabilitation service, literary, or educational purposes * , 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; * .↩3. SEC. 29.23 (q)-1. Contributions or Gifts by Corporations. - * * Sums of money expended for lobbying purposes, the promotion or defeat of legislation, the exploitation of propaganda, including advertising other than trade advertising, and contributions for campaign expenses are not deductible from gross income.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621598/	Sunnyside Nurseries, Also Known as Sunnyside Nurseries, Inc., a Corporation, Petitioner v. Commissioner of Internal Revenue, RespondentSunnyside Nurseries v. CommissionerDocket No. 7817-70United States Tax Court59 T.C. 113; 1972 U.S. Tax Ct. LEXIS 39; October 19, 1972, Filed 39 Decision will be entered under Rule 50. Held: Certain structures, commonly known as greenhouses, were "buildings" within the meaning of sec. 48(a)(1)(B), I.R.C. 1954. The greenhouses therefore did not constitute "section 38 property," and investments in such structures were ineligible for tax credits under sec. 38 of the Code. Joe J. Yasaki, for the petitioner.Nicholas G. Stucky, for the respondent. Raum, Judge. RAUM113 The Commissioner determined deficiencies in petitioner's income tax as follows:Year endingDeficiencyJune 30, 1964$ 9,604.69June 30, 19666,130.96June 30, 19679,126.15June 30, 1968148.5640 114 The sole issue remaining for decision is whether certain structures, commonly known as greenhouses, were "buildings" within the meaning of section 48(a)(1)(B), I.R.C. 1954, with the consequence that petitioner's investment in such structures was ineligible for the so-called investment credit provided by section 38 of the Code.FINDINGS OF FACTThe parties have filed a stipulation of facts which, together with accompanying exhibits, is incorporated herein by this reference.Petitioner Sunnyside Nurseries (petitioner or Sunnyside), a California corporation, filed Federal corporate income tax returns for each of its taxable years ending June 30, 1964, 1966, 1967, and 1968, with the district director of internal revenue at San Francisco, Calif. At the time its petition herein was filed Sunnyside's principal office was in Hayward, Calif.Petitioner was engaged in the business of growing and selling a wide variety of flowers and other plants, including chrysanthemums, poinsettias, hyacinths, lilies, tulips, other assorted bulb plants, and about 60 types of prestarted garden plants known as bedding plants. Petitioner also grew foliage crops such as rubber plants and split-leaf41 philodendrons. Sunnyside's markets were located chiefly in the western United States. Petitioner sold certain types of flowers throughout the year, but the demand for most of its plants was seasonal in nature. Its peak market periods came at certain holidays such as Valentine's Day, Easter, Mother's Day, Thanksgiving, and Christmas.Most of Sunnyside's plants were nurtured, for at least parts of their lives, in structures commonly and synonymously known as greenhouses, glasshouses, or hothouses. During the years at issue petitioner made expenditures for the construction of and improvements to such structures, as follows:Year endingGreenhouse investmentJune 30, 1964$ 45,540.12June 30, 196674,558.18June 30, 1967238,268.99June 30, 1968646,322.39Almost all of the greenhouse construction took place at petitioner's production facilities outside Salinas, Calif., in Monterey County; a small portion of the above expenditures related to petitioner's smaller production facilities at Hayward, Calif. The work done at Hayward was identical to the construction at Salinas, as the parties have stipulated "for purposes of this case." Petitioner claimed depreciation42 deductions 115 in regard to its greenhouses, which had useful lives of more than 8 years. The sole issue herein is whether Sunnyside is entitled to investment credits under section 38, I.R.C. 1954, in respect of its greenhouse expenditures, and the resolution of this issue, in turn, depends on whether the greenhouses were "buildings."Sunnyside made expenditures in respect of five greenhouses at Salinas, all of which were completely enclosed, rectangularly based structures. Four of the greenhouses ("sections A, B, C, and D," respectively) were virtually identical in construction, each being approximately 260 feet long and 293.4 feet wide. The space within each of these four greenhouses was a large open area divided into nine parallel bays, each of which was as long as the entire structure and aproximately 32.6 feet wide. The fifth greenhouse ("section E") was approximately 340 feet long and 459.6 feet wide. Its interior was divided into 12 parallel bays, each approximately 340 feet long and 38.3 feet wide. A wide paved aisle or hallway ran perpendicularly to the bays along the entire width of section E. The continuity of the space therein was further broken by a number43 of walls which were strategically placed to accommodate petitioner's production process.The greenhouses were all of steel frame and aluminum bar construction and had concrete floors and foundations. Over each bay was an A-frame roof supported by a series of traverse trusses which, in turn, were supported at both sides of each bay by steel posts set in the concrete floors. The roofs were approximately 16 feet high at the peaks. They were made of ordinary single-strength window glass which admitted the light essential to plant growth. The greenhouse walls were also made of clear glass. Sliding glass-paneled doors were located at both ends of all the bays and also along the longitudinal walls of the endmost bays.After they were built and put into operation, Sunnyside's greenhouses provided a totally artificial environment that permitted the year-round growing of commercially marketable plants in a manner which allowed life cycles to be precisely timed to meet petitioner's demand schedule. Natural environmental conditions in northern California precluded the outdoor growing of plants during certain seasons and did not allow times of maturation to be perfectly controlled. Petitioner's44 business could thus have been conducted on a year-round basis only by using enclosed facilities such as greenhouses, because some of petitioner's plants were perishable and apparently could not be kept on hand for any appreciable length of time.In addition to shielding plants from the elements, Sunnyside's greenhouses permitted quite sophisticated regulation of growing conditions. At the time of year when sunlight became more intense than 116 some of its plants could tolerate, petitioner had helicopters cover the roofs of the structures housing those plants with a whitewash which screened a quantum of light from the greenhouses. Later in the year, when sunlight diminished in intensity, a crane-like, self-operating washing device was placed on the greenhouse roofs to remove the whitewash. Sunnyside also regulated the duration of plants' exposure to light. In order to induce chrysanthemums to bloom daily during the summer months, it was necessary to reduce the number of hours per day they received light. This was accomplished by drawing a black curtain across a bay in which the chrysanthemums grew. To extend the length of time plants received light, petitioner illuminated45 incandescent lights which were spaced throughout each greenhouse. A preset timer mechanism on a control panel in the greenhouse automatically operated the light and curtain systems.Sunnyside's greenhouses also contained thermostatic temperature control systems. Optimal growing temperatures varied for different types of plants and even for one plant at different stages of growth. Above the doors at the ends of the greenhouse bays were louvered windows and fans which ran constantly. When the temperature inside a greenhouse rose above a set level, the louvers opened and the fans drew air from outside into large plastic tubes which ran the length of the bays. These tubes distributed air to the greenhouses through holes in their surfaces. In addition, rows of glass panels, or vents, were built into the roofs and walls of the greenhouses. If the temperature continued to rise after the louvers opened, the vents opened to enhance the circulation of air. The glass walls and roofs of petitioner's greenhouses retained a great deal of heat. However, when the temperature inside a greenhouse fell below a determined level, a system of ground-level and elevated steam-conducting pipes was46 activated to provide radiated heat. The steam for all the greenhouses was generated in a natural-gas powered boiler located in a separate building.Sunnyside used the four greenhouses designated as "sections A through D," respectively, to grow several varieties of plants. At a given time of year, most of the space in these four structures was devoted to the type of plant whose peak selling period was next to arrive. After being cleared out of the greenhouses and sold, each crop was replaced with a new growing crop. Petitioner rotated plants in sections A through D in this manner throughout the year.Sunnyside used section E exclusively to grow chrysanthemums. Section E was divided into a "propagating area" and a "growing area." The initial planting and nurturing of chrysanthemums took place in the propagating area. Prior to planting, petitioner's workers, using a forklift machine, brought wooden trays loaded with small, soil-filled pots into the greenhouse and set the trays upon cinder blocks. Each tray was 8 feet long and 8 feet wide and held about 120 pots. In 117 the propagating area, workers placed plant cuttings, which had been made from mature plants at petitioner's47 facilities at Hayward, into the pots. The workers then watered each plant by hand. Once each week, they washed excess soil from the greenhouse floor with a water hose. The plants were left in the propagating area for about 10 days, during which time the area was kept hot and humid. A mechanical misting system created humidity and irrigated and fertilized the plants in the propagating area. The misting system was operated from the same control panel as were the light and temperature control systems. The greenhouse lighting system supplemented the plants' light requirements during the propagation period.At the conclusion of the propagation period, the trays on which the pots rested were transported by forklift to the growing area of section E, where workers moved the pots to permanent tables. These tables, which were about 8 feet by 60 feet, consisted of series of connected wood planks resting on cinder blocks. A "spaghetti" system irrigated the plants in the growing area. This system consisted of a network of spaghetti-like, thin plastic tubes which fed water and fertilizer to the individual pots. The "spaghetti" were attached to master tubes which ran along each table. 48 These tubes, in turn, were attached to pipes which were laid under the greenhouse floors and which carried water drawn from wells on the Salinas property. Hand-operated valves regulated the flow of water to the master tubes.Temperature, ventilation, and duration of light in the growing area were controlled automatically, as described above. Other needs of the chrysanthemum plants were attended to by Sunnyside's employees. They opened the valves of the irrigation system each day, and they replaced individual "spaghetti" whenever a plant showed that its water supply was deficient. The workers also used hoses to sprinkle the growing area when the air was hot and the vents were open, in order to increase humidity. In addition, they periodically removed extraneous buds from the plants, moved the pots farther apart to allow the plants more growing space, eliminated weeds, fumigated the greenhouses to control insects and diseases, and "pinched" the plants to produce a greater number of flower-bearing branches. Some pinching was also done in the propagating area. The fumigation process sometimes entailed spraying the plants with either an ordinary garden hose or a machine mounted 49 on an electric cart. Fumigation was otherwise done with smoke-emitting canisters usually left in the greenhouses overnight while the workers were absent.Sunnyside sold its chrysanthemum plants in the pots in which they were grown. When the flowers had bloomed and were ready for marketing, petitioner's employees wrapped each pot in decorative foil and placed it in a protective bag. Occasionally they cleaned plants that had suffered fertilizer "burns" or other stains. The workers then packed the 118 bags containing the potted plants in corrugated boxes and stacked the boxes on carts which they had rolled into the growing area. The entire packing process took place in the greenhouse.Sections A through D, unlike section E, had no separate propagating areas; the environmental control equipment in these other greenhouses resembled that in section E's growing area in most respects. The five structures in issue each housed about 50,000 pots, or about 5,000 pots in each bay. Most of the methods used to care for chrysanthemum plants in section E's growing area were employed in sections A through D, although some of the work involved in processing chrysanthemums was not performed50 in respect of certain other plants or else was carried on outside the greenhouses. The length of time different varieties of plants remained in Sunnyside's several greenhouses ranged from a few weeks to several months. Petitioner's greenhouses might have been used to grow other flowers or varieties of vegetation, but they were not economically adaptable to any other purposes.Sunnyside had approximately 86 employees at the time of the trial herein. More than half of such employees worked full time inside the greenhouses, 5 days a week, for approximately 7 1/2 hours a day. They participated in most of those phases of the production cycles of the various plants that took place within the greenhouses. Pathways between the tables on which the plants were grown provided the employees with access to the plants and working space. The greenhouse workers moved from one area to another, spending their time wherever they were needed, and they sometimes worked in one or two greenhouses in addition to the five here in issue. Thus, depending on the stage of development of the plants in a particular structure, as few as 1 or 2 persons or as many as 50 persons might work there on a given day. 51 Also among petitioner's employees were two watchmen who each made two nightly tours of all the greenhouses.The greenhouse personnel occasionally enjoyed lunches and work breaks inside the structures, and section D provided them with some tables and chairs. Most facilities for the employees' recreation and comfort, however, were located elsewhere on petitioner's property and the workers generally took their lunches and breaks at such other places rather than in the greenhouses.At the time it constructed the five greenhouses at Salinas which are the subjects of the present controversy, petitioner was told that such greenhouses would be exempt from the building permit requirements of Monterey County under county ordinances then in effect which so provided in respect of certain "[buildings] or [structures] * * used primarily for agricultural, [or] horticultural * * * purposes." Pursuant to this advice, Sunnyside neither applied for nor received permits for the five greenhouses.Petitioner claimed investment credits in respect of the greenhouse 119 expenditures it had made during the years at issue. The Commissioner determined that the greenhouses "do not constitute assets52 of the type which qualify for the investment credit since they are considered to be buildings or structural components of buildings."OPINIONThe only issue remaining for decision is whether petitioner was entitled to tax credits under section 38, I.R.C. 1954, in respect of its investment in greenhouses. Petitioner's greenhouse expenditures qualified for such credits if the greenhouses constituted "section 38 property." That term is defined by section 48(a)(1), which provided as follows in respect of the years at issue:SEC. 48. DEFINITIONS; SPECIAL RULES.(a) Section 38 Property. -- (1) In general. -- * * * the term "section 38 property" means --(A) tangible personal property, or(B) other tangible property (not including a building and its structural components) but only if such property -- (i) is used as an integral part of manufacturing, production, or extraction or of furnishing transportation, communications, electrical energy, gas, water, or sewage disposal services, or(ii) constitutes a research or storage facility used in connection with any of the activities referred to in clause (i) * * Such term includes only property with respect to which depreciation53 (or amortization in lieu of depreciation) is allowable and having a useful life (determined as of the time such property is placed in service) of 4 years or more. [Emphasis supplied.]There is no disagreement between the parties that the greenhouses were not "tangible personal property." Their sole difference in regard to the structures' qualification under section 48(a)(1)(B), relating to "other tangible property," is whether or not the greenhouses were "buildings." The Commissioner has determined that they were, and we agree.In terms of their physical appearance and function, petitioner's greenhouses were certainly "buildings" in the ordinary sense of the word. They had steel and aluminum frames, concrete floors, and glass walls and roofs which completely enclosed a large volume of space. They were built over concrete foundations. The materials of which they were constructed were commonly used building components, and the structures were permanent in nature. They had doors, vents which resembled windows, and heating systems. A corps of petitioner's employees regularly spent full workdays inside the structures, engaging in a broad range of activities related to the processing54 of commercially marketable plants. As many as 50 persons sometimes worked in a greenhouse at once, often making use of an assortment of 120 machinery and equipment. All of these characteristics are associated with "buildings" as that term is commonly understood.Petitioner contends, however, that "building" is not used in its ordinary sense in section 48(a)(1)(B), but rather in a "technical" sense which excludes highly specialized structures such as greenhouses. But Congress has made it clear that --The term "building" is to be given its commonly accepted meaning, that is, a structure or edifice enclosing a space within its walls, and usually covered by a roof. It is the basic structure of an improvement to land the purpose of which is, for example, to provide shelter or housing or to provide working, office, display, or sales space. The term would include, for example, the basic structure used as a factory, office building, warehouse, theater, railway or bus station, gymnasium, or clubhouse. * * * [H. Rept. No. 1447, 87th Cong., 2d Sess., p. A18 (1962); S. Rept. No. 1881, 87th Cong., 2d Sess., pp. 154-155 (1962).]Consistent with the foregoing principles, section55 1.48-1(e)(1) of the regulations provides as follows:Sec. 1.48-1 Definition of section 38 property.(e) Definition of building and structural components. (1) Buildings and structural components thereof do not qualify as section 38 property. The term "building" generally means any structure or edifice enclosing a space within its walls, and usually covered by a roof, the purpose of which is, for example, to provide shelter or housing, or to provide working, office, parking, display, or sales space. The term includes, for example, structures such as apartment houses, factory and office buildings, warehouses, barns, garages, railway or bus stations, and stores. Such term includes any such structure constructed by, or for, a lessee even if such structure must be removed, or ownership of such structure reverts to the lessor, at the termination of the lease. Such term does not include (i) a structure which is essentially an item of machinery or equipment, or (ii) a structure which houses property used as an integral part of an activity specified in section 48(a)(1)(B)(i) if the use of the structure is so closely related to the use of such property that the structure clearly can56 be expected to be replaced when the property it initially houses is replaced. Factors which indicate that a structure is closely related to the use of the property it houses include the fact that the structure is specifically designed to provide for the stress and other demands of such property and the fact that the structure could not be economically used for other purposes. Thus, the term "building" does not include such structures as oil and gas storage tanks, grain storage bins, silos, fractionating towers, blast furnaces, basic oxygen furnaces, coke ovens, brick kilns, and coal tipples. 157 121 In our view, petitioner's greenhouses resembled the examples of "buildings" in the regulations more closely than those structures which the regulations declare not to be "buildings." Any of the first group of structures would ordinarily be thought of as a "building" in terms of its physical attributes as, we think, would petitioner's greenhouses. The structures in the second group, on the other hand, would generally be regarded as either "storage facilities" or "machines" rather than "buildings." To be sure, the greenhouses participated directly in the processing of growing plants, but to characterize them as "machines" on this account would distort the commonly understood meaning of that term. The greenhouses were more than just processing chambers, for a substantial amount of employee activity took place in them. They shared with the first group of structures in the regulations the characteristic of frequent and regular human occupation. By contrast, those in the second group would ordinarily be entered by persons, if at all, only for purposes of maintenance or to bring in or remove goods. Such goods would usually be processed or stored in these structures entirely58 without the participation of human workers. Cf. Robert E. Catron, 50 T.C. 306">50 T.C. 306, 315-316.The activities of petitioner's employees in the greenhouses were, as petitioner has stressed, supplemental to the structures' function of constructing an environment conducive to controlled plant growth. The regulations provide that the "term 'building' generally means any structure * * the purpose of which is, for example, to provide shelter or housing, or to provide working, office, parking, display, or sales space" (emphasis supplied). Although the regulations do not expressly include structures whose purpose is similar to that of petitioner's greenhouses, its enumeration of purposes is obviously illustrative rather than exhaustive. Cf. Robert E. Catron, 50 T.C. at 311. Such language must be read in light of the congressional dictate that the "term 'building' is to be given its commonly accepted meaning." Cf. Joseph Henry Moore, 58 T.C. 1045">58 T.C. 1045, 1052-1053. The greenhouses plainly served as working areas in conjunction with their function of conditioning the environment. In the circumstances, 59 we think that their overall purpose was within the broad range of purposes contemplated by the regulations.Petitioner has relied upon Central Citrus Company, 58 T.C. 365">58 T.C. 365; Robert E. Catron, 50 T.C. 306">50 T.C. 306; Adolph Coors Co., 27 T.C.M. (CCH) 1351">27 T.C.M. 1351; Rev. Rul. 71-359, 2 C.B. 62">1971-2 C.B. 62; Rev. Rul. 71-104, 1 C.B. 5">1971-1 C.B. 5; Rev. Rul. 69-557, 2 C.B. 3">1969-2 C.B. 3; Rev. Rul. 69-412, 2 C.B. 2">1969-2 C.B. 2; Rev. Rul. 68-132, 1 C.B. 14">1968-1 C.B. 14; Rev. Rul. 66-215, 2 C.B. 11">1966-2 C.B. 11; and S. Rept. No. 92-437, 92d Cong., 1st Sess., pp. 29-30 (1971). None of the facilities considered not to be "buildings" in these cited cases or materials bore as striking a physical resemblance to a "building" as did 122 petitioner's greenhouses. Nor did any of such facilities, in contrast to the greenhouses, provide "working space" where a substantial number of persons were frequently and regularly occupied. 60 By these standards the greenhouses were like the structures held to be "buildings" in Robert E. Catron, 50 T.C. at 312-313; Rev. Rul. 66-156, 1 C.B. 11">1966-1 C.B. 11; Rev. Rul. 66-299, 2 C.B. 14">1966-2 C.B. 14; and Rev. Rul. 68-209, 1 C.B. 16">1968-1 C.B. 16.It is of no consequence that petitioner considered its greenhouses to be exempt from county building permit requirements. Section 1.48-1(c), Income Tax Regs., provides that "Local law shall not be controlling for purposes of determining whether property is or is not 'tangible' or 'personal,'" and we think that local law is likewise irrelevant to a determination of whether property is a "building" under section 48(a)(1)(B) of the Code. In any event, the Monterey County ordinances which were presumably applicable to petitioner's facilities at Salinas provided that certain "[buildings] or [structures] * * used primarily for agricultural, [or] horticultural * * * purposes" required no building permits. Thus, petitioner's greenhouses may have been exempt from permit requirements, and yet have constituted*61 "buildings" under local law. We hold that they were "buildings" under section 48(a)(1)(B) of the Code and that petitioner's claimed investment credits in respect of such structures were properly disallowed.Decision will be entered under Rule 50. Footnotes1. The regulation was recently amended to read as above by T.D. 7203, 37 Fed. Reg. 17123 (1972). The first four sentences of the regulation were left unchanged by T.D. 7203↩. Prior to amendment and during the years at issue, the remainder of the regulation read as follows: "Such term does not include (i) a structure which is essentially an item of machinery or equipment, or (ii) an enclosure which is so closely combined with the machinery or equipment which it supports, houses, or serves that it must be replaced, retired or abandoned contemporaneously with such machinery or equipment, and which is depreciated over the life of such machinery or equipment. Thus, the term "building" does not include such structures as oil and gas storage tanks, grain storage bins, silos, fractionating towers, blast furnaces, coke ovens, brick kilns, and coal tipples." We think that petitioner's greenhouses must be characterized as "buildings" under either version of the regulation.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621599/	John Demerski v. Commissioner.Demerski v. CommissionerDocket No. 2089-68.United States Tax CourtT.C. Memo 1969-96; 1969 Tax Ct. Memo LEXIS 202; 28 T.C.M. (CCH) 533; T.C.M. (RIA) 69096; May 14, 1969, Filed John Demerski, pro se, 105 6th St., Bristol, Conn. Rudolph J. Korbel, for the respondent. FORRESTERMemorandum Findings of Fact and Opinion FORRESTER, Judge: Respondent determined an income tax deficiency against petitioner for the year 1965 in the amount of $132 by disallowing a claimed dependency exemption deduction under section 151(a) and (e) and section 152(a)(1) of the Internal Revenue Code203 1 for petitioner's son, Rovert William Demerski, hereinafter called Robert. Petitioner resided in Bristol, Connecticut, at the time the petition herein was filed and his individual income tax return for the year in issue was filed with the district director for the district of Hartford, Connecticut. During 1963 petitioner, his wife, and his daughter, Laura Ann, who had been born in 1962, lived with the wife's mother in her single-family residence, occupying two bedrooms thereof and having the use of the entire house. In December 1963 petitioner and his wife separated. She continued to live in the same quarters in her mother's house and Laura Ann continued living there with her. In May 1964 petitioner's son, Robert, was born. Douring the year in issue petitioner contends and respondent concedes that petitioner contributed $8 per week toward Robert's support for a total of $416 and petitioner estimates that in addition he contributed gifts, groceries and clothing for Robert in the amount of $50, contending consequently that for the year 1965 his contributions for Robert totaled $466. Petitioner claimed dependency204 exemption deductions for both Robert and Laura Ann on his 1965 return. Respondent has not disturbed the claim for Laura Ann but has disallowed the claim for Robert. 534 We cautioned petitioner at the time of trial herein that it was his burden under section 152 of the Internal Revenue Code to prove that he had furnished more than half of Robert's support for the year in issue and that this necessarily entailed not only proof of his own contributions but also proof of the total amount expended for Robert's support during the year. We have given petitioner the benefit of every doubt, yet we believe that he has failed to sustain his burden of proof on this issue and we so hold. Even giving petitioner credit for the entire $466 which he claims to have contributed for Robert, it seems clear from the record that in 1965 it took more than double that amount to support the son. Petitioner had no proof, or even accurate knowledge, of the total amount so expended but he estimated this total amount at $815. Such estimate was composed of the following items. Rent$180(Based upon the $45 per month rent he had paid his mother-in-law in 1963)Food390($7.50 a week)Utilities90(an "educated guess")Clothing50(an "educated guess")Medical expense$ 80(Petitioner visited his children once each week and remembered no serious illness or major expense for Robert during 1965)Miscellaneous 25Total$815*205 Some of petitioner's above estimates seem to be quite low, particularly the items for food, clothing and miscellaneous expenses. This is especially true when considered in light of petitioner's testimony that his wife had been employed as a stenographer during the entire year in issue and that he believed she had earned about $4,000. We also note that petitioner's list includes nothing for gifts, toys, etc. The record does not prove any of petitioner's items. He testified that they were simply his best estimates. We realize that taxpayer's burden is stern in a case such as this and we sympathize with petitioner's plight. Our foregoing analysis of his estimates is simply our attempt to demonstrate how close this case would have been had petitioner's proof of his estimates been adequate. Slightly more than $100 contributed toward Robert's support (over and above petitioner's estimates) would have served to deny petitioner the deduction which he seeks. Decision will be entered for the respondent. Footnotes1. All references are to the Internal Revenue Code of 1954.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621601/	SPENCER THORPE, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Thorpe v. CommissionerDocket No. 97266.United States Board of Tax Appeals42 B.T.A. 654; 1940 BTA LEXIS 972; August 29, 1940, Promulgated 972 In 1935 the petitioner received $35,000 from his lessee for breach of covenant of a lease entered into in 1924. Held, that the amount received was not from the sale or exchange of a capital asset and that the petitioner is taxable upon the entire amount as ordinary income. A. Calder Mackay, Esq., for petitioner. Byron M. Coon, Esq., and R. T. Miller, Esq., for the respondent. SMITH 654 This proceeding involves a deficiency of $2,229.93 in petitioner's income tax for the year 1935. The questions in issue are whether an 655 amount of $35,000 which the petitioner received in 1935 from his lessee in settlement of the lessee's liability under certain covenants of the lease is taxable to the petitioner as ordinary income as the respondent has determined, or as a capital gain as the petitioner contends; and whether in any event the gain from such payment is taxable to the petitioner in its entirety or whether it is taxable to him and his wife as community income in equal shares. FINDINGS OF FACT. The petitioner is a resident of Los Angeles, California, where he has lived since 1889. He was married in 1904 and has been living973 with his wife in the State of California continuously since that time. In February 1922 the petitioner acquired a lease on a parcel of real estate in downtown Los Angeles for a period of 99 years. Pursuant to the terms of the lease agreement he erected a building on the property, which was completed in March 1924 at a cost of $24,256.14. The building was paid for prior to March 31, 1924, with funds earned by the petitioner in the practice of law after his marriage and while he was a resident of the State of California. On October 1, 1924, the petitioner subleased the property with the improvements thereon to Barker Bros., Inc., for a period of 90 years at a rental of $1,600 a month for the first five years and $2,500 a month for the remaining 85 years. Petitioner paid a commission of $7,395 in securing the sublease. Before execution of the lease agreement with Barker Bros., Inc., the petitioner's wife transferred all of her community interest in the leasehold to the petitioner, who, after execution of the sublease to Barker Bros., Inc., transferred such community interest back to the wife, by a written agreement dated March 24, 1925. The reason for the wife's transfer974 of her community interest in the leasehold to the petitioner prior to the execution of the lease was to avoid the necessity of the wife signing the lease. The leasehold agreement of October 1, 1924, provided that the sublessee, Barker Bros., Inc., would erect on the premises at its own expense a new building costing not less than $300,000, which was to be commenced not later than November 1, 1933, and completed not later than November 1, 1934. The lease agreement further provided that Barker Bros., Inc., would furnish the petitioner a surety bond in the amount of $100,000 in guaranty of the lessee's performance of all of the terms of the lease, including the covenant to erect the building. This bond was executed by the Pacific Indemnity Co., as surety, and Barker Bros., Inc., as principal, under date of December 8, 1926. Barker Bros., Inc., failed to construct the building in accordance with the terms of the lease agreement. Upon expiration of the time 656 within which the building was to have been completed the petitioner called upon the lessee to comply with the terms of the lease agreement and gave written notice of the lessee's default to the surety. After negotiations975 concerning the breach of the lease agreement petitioner entered into a further written agreement with Barker Bros., Inc., under date of January 7, 1935, whereby Barker Bros., Inc., agreed to pay the petitioner $35,000 cash in consideration of petitioner's surrender to it of the bond of the Pacific Indemnity Co. and the acceptance of an amendment to the lease releasing Barker Bros., Inc., from any obligation to erect a new building on the premises. This agreement of January 7, 1935, was styled "AGREEMENT AMENDING LEASE." It did not change any of the material provisions of the original leasehold agreement of October 1, 1924, except those pertaining to the erection of the new building by the lessee. In his income tax return for 1935 the petitioner reported the $35,000 which he received from Barker Bros., Inc., in that year as an amount received in the sale or exchange of a capital asset. Thirty percent thereof, or $10,500, was reported as a capital gain. In his determination of the deficiency herein the respondent has treated the entire amount of $35,000 as an ordinary gain. The $35,000 which the petitioner received from Barker Bros., Inc., in 1935 was not an amount received976 from the sale or exchange of any interest which the petitioner held in the leasehold agreement with Barker Bros., Inc., or in the surety bond given in connection therewith. OPINION. SMITH: In this proceeding the petitioner admits that he realized a gain on the above transaction in the amount of $35,000, less the amount of $7,395 which he paid as a commission in securing the sublease, but he contends that the transaction giving rise to this gain was in substance and effect a sale or exchange of a capital asset, or capital assets, comprising his property rights in the leasehold agreement of October 1, 1924, and the surety bond given in connection therewith, and that the amount of his gain on the transaction is taxable at the capital gain rates as provided for in section 117 of the Revenue Act of 1934. Section 117 of the Revenue Act of 1934 reads in part as follows: SEC. 117. CAPITAL GAINS AND LOSSES. (a) GENERAL RULE. - In the case of a taxpayer, other than a corporation, only the following percentages of the gain or loss recognized upon the sale or exchange of a capital asset shall be taken into account in computing net income: * * * (b) DEFINITION OF CAPITAL ASSETS. 977 - For the purposes of this title, "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 657 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. Granting that the petitioner's interest in the leasehold agreement and in the surety bond given in connection therewith constituted property rights which might be classified as capital assets, we do not think that there was in any sense "a sale or exchange" of those property rights. In substance the petitioner merely agreed to relieve his lessee and the lessee's surety of the obligation to erect a new building on the leased premises in consideration of the lessee's payment of $35,000 in cash. The lease itself was not sold or exchanged or canceled, but was merely amended so as to eliminate the provisions pertaining to the erection of the new building. We held in 978 Walter M. Hort,39 B.T.A. 922">39 B.T.A. 922, that the complete cancellation of a lease for a consideration paid to the lessor was not a sale or exchange of the lease and that the amount received by the lessor for such cancellation was ordinary income and not a capital gain. In Fairbanks v. United States,306 U.S. 436">306 U.S. 436, the Supreme Court held that the redemption by a corporation of its outstanding bonds before their maturity date was neither a sale nor an exchange within the commonly accepted meaning of the words. In Hale v. Helvering, 85 Fed.(2d) 819, it was held that a compromise settlement of promissory notes for an amount less than their face value was not a sale or exchange of capital assets giving rise to a capital loss deduction. In its opinion 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 to979 the maker, not sold to him. In John H. Watson, Jr. v. Commissioner of Internal Revenue,27 B.T.A. 463">27 B.T.A. 463, overruling Henry P. Werner v. Commissioner of Internal Revenue,15 B.T.A. 482">15 B.T.A. 482, it was held that the payment at maturity, of the face amount of bonds purchased at a premium, was not a sale or esxchange resulting in a capital loss. If the full satisfaction of an obligation does not constitute a sale or exchange, neither does partial satisfaction. * * We do not think that the petitioner's agreement to accept a compromise payment of $35,000 in settlement of his claim against his lessee, and the lessee's surety, for breach of a covenant of the lease was in any sense a sale or exchange of a capital asset. Petitioner submits that the amount of $7,395 which he paid as a commission in subleasing the property to Barker Bros., Inc., constituted a part of the cost of the sublease, or the surety bond, or both, and should be applied against the $35,000 which he received in the transaction. This would be true if the payment of the $35,000 had been received in a sale or exchange or other disposition of the sublease 658 but, as we have found, 980 that is not what took place. The sublease was not disposed of by the petitioner, but is still held by him. Moreover, there is no basis for an allocation of any portion of the $7,395 commission to that feature of the leasehold agreement pertaining to the erection of the building of the sublessee. We find no error in the respondent's determination that the entire amount of $35,000 represented taxable gain in 1935. A further contention is made by the petitioner, that in any event the amount of $35,000 constituted community income under the laws of the State of California and is taxable to him and his wife in equal shares. Although the petitioner and his wife filed separate income tax returns for 1935, it does not appear that any portion of the amount of $35,000 was reported by the wife in her return. It is plain from the facts above set forth, we think, that the leasehold interest which gave rise to the income in dispute was community property. It does not follow, however, that such income is not taxable to the petitioner in its entirety. For the law is well settled that the income from community property in the State of California acquired prior to July 29, 1927, the effective981 date of the amendment to the code of California conferring a vested interest in community property upon each spouse (sec. 172(a) of the California Civil Code), is taxable in its entirety to the husband. Hirsch v. United States, 62 Fed.(2d) 128; certiorari denied, 289 U.S. 735">289 U.S. 735; Helen N. Winchester, Administratrix,27 B.T.A. 798">27 B.T.A. 798; Gouverneur Morris,31 B.T.A. 178">31 B.T.A. 178; Clara B. Parker, Executrix,31 B.T.A. 644">31 B.T.A. 644; Estate of J. Harold Dollar,41 B.T.A. 869">41 B.T.A. 869. Since the petitioner acquired the original leasehold interest as well as the sublease to Barker Bros., Inc., prior to July 29, 1927, all of the income therefrom is taxable to him individually. It cannot be questioned, we think, that the $35,000 payment which the petitioner received from Barker Bros., Inc., was income arising from this leasehold interest. This amount was paid to the petitioner by his sublessee in settlement of its obligations under the leasehold agreement. In this respect it was no different from the rents or other revenue received under the leasehold agreement. In 982 Sara R. Preston,35 B.T.A. 312">35 B.T.A. 312, 322, we said: The Board has consistently held that the test of when property is acquired for the purpose of determining whether or not it is community or separate property is not the time of the vesting of the property in the husband or receipt of the income therefrom, but the time of the inception of the rights whereby income is earned. See John M. King,26 B.T.A. 1158">26 B.T.A. 1158; affd., 69 Fed.(2d) 639; Helen N. Winchester, Administratrix,27 B.T.A. 798">27 B.T.A. 798; Gouverneur Morris,31 B.T.A. 178">31 B.T.A. 178; Albert J. Houston,31 B.T.A. 188">31 B.T.A. 188. The controlling principle is that as between husband and wife: * * * when a right, legal or equitable, is acquired whether before or during marriage, all things of value into which the initial right develops 659 by the performance of conditions, the running of time or the like, or into which it is converted by an assignment, or, if the initial right rests in obligation, all that which is obtained through the performance, discharge, satisfaction, enforcement or assignment of the obligation, are deemed in law to have been acquired as of983 the date of the acquisition of the initial right, and take the character, as separate or common, of that right. [Community Property - McKay, § 517.] We sustain the respondent in his determination that the entire amount of $35,000 is taxable to the petitioner in 1935 as ordinary income. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621603/	KATHERINE A. SPALDING, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Spalding v. CommissionerDocket No. 7302.United States Board of Tax Appeals7 B.T.A. 588; 1927 BTA LEXIS 3139; July 8, 1927, Promulgated 3139 The petitioner transferred stock in one corporation, held for investment, in return for stock in another corporation of a like kind and use. Each lot of stock being held by petitioner as an investment, there was an exchange, resulting in no taxable income under section 202(c)(1), Revenue Act of 1921. Burton E. Eames, Esq., for the petitioner. J. S. Halstead, Esq., for the respondent. LOVE 589 This is a proceeding to redetermine a deficiency in income tax for the year 1922, amounting to $784.80. The question is whether there was a sale of shares of stock from which petitioner derived a profit or whether the transaction was an exchange of property upon which no gain or loss should be recognized. FINDINGS OF FACT. On January 10, 1921, petitioner purchased 200 shares of preferred stock of the Corning Glass Works for $98 a share, from Estabrook & Co. of Boston, Mass.Estabrook & Co. is a firm of stock and bond investment brokers of which petitioner's husband is a member. In the latter part of 1922, petitioner's husband advised her to exchange said stock with his firm for shares of preferred stock of the William Whitman Co. At that3140 time Estabrook & Co. owned several thousand shares of such stock. On or about December 1, 1922, certificates for the 200 shares of Corning Glass Works stock, duly indorsed by petitioner, were delivered to Estabrook & Co., and she received for them certificates for 220 shares of preferred stock of the William Whitman Co., from the stock owned by the firm. When Estabrook & Co. received the Corning Glass Works stock it was entered on its books in the firm's own account. On December 1, 1922, the market value of Corning Glass Works preferred stock was $110 a share and the value of the 200 shares was $22,000. On this date William Whitman Co. preferred stock was worth $100 a share and the 220 shares had a value of $22,000. At that time there was an accrued dividend of $400 on the first mentioned stock and of $256.66 on the latter. The petitioner received a check from Estabrook & Co. for the difference of $143.34. A statement was mailed to petitioner by Estabrook & Co. reading as follows: DECEMBER 1, 1922. Sold to Mrs. Katherine A. Spalding:220 Wm. Whitman Company preferred, at 100$22,000.00Dividend from Oct. 1st ms. at 7%256.66$22,256.66Credit proceeds:200 shares Corning Glass Works preferred22,400.00Balance due her143.34Check herewith.3141 The Corning Glass Co. stock had been held by petitioner as an investment, and after acquiring the William Whitman Co. stock, she held it for the same purpose. Each of these companies is engaged in manufacturing and is what is termed, in the parlance of the securities market, an "industrial." 590 OPINION. Love: Section 202(c)(1), Revenue Act of 1921, provides: (c) For the purposes of this title, on an exchange of property, real, personal or mixed, for any other such property * * no gain or loss shall be recognized - (1) When any such property held for investment * * * is exchanged for property of a like kind or use. The respondent does not question that each lot of stock was held for investment, or that the William Whitman Co. stock was property of a like kind or use. His position is that there was a sale of the Corning Glass Works stock, and petitioner realized a profit thereon which is taxable. He argues that petitioner has not sustained the burden which is upon her of proving an exchange within the meaning of the statute. In support of his position he relies largely on the statement which was mailed by Estabrook & Co. to petitioner. This statement shows3142 the transaction as though petitioner purchased the William Whitman Co. stock with proceeds from the sale of the Corning Glass Works stock. However, the uncontroverted evidence of what was actually done shows the essential elements of an exchange. The difference between a sale and an exchange is that in the former property is transferred in consideration of an agreed price expressed in terms of money, while in an exchange property is transferred in return for other property without the intervention of money. 23 C.J., p. 185. Here petitioner owned shares of stock of one corporation; Estabrook & Co. owned shares of another. She transferred her stock to Estabrook & Co. and the latter transferred to her in return stock which they owned of the other corporation, and each thereafter owned and held the stock thus acquired. There was no intermediary or any intermediate transfer. The fact that there was an adjustment of the accrued dividends in which money passed does not affect the nature of the transaction. Each party could have reserved his accrued dividend without affecting the transfer of ownership of the stock. The written statement upon which respondent relies apparently is3143 on a form which was used generally by Estabrook & Co. It is entitled to weight but it is not conclusive and we think it is overcome by the convincing evidence of what was actually done by the parties. Judgment will be entered for the petitioner on the issue raised, on 15 days' notice, under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621604/	WAYNE COPLEY BENTSON, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentBentson v. CommissionerDocket No. 14776-85.United States Tax CourtT.C. Memo 1986-600; 1986 Tax Ct. Memo LEXIS 5; 52 T.C.M. (CCH) 1247; T.C.M. (RIA) 86600; December 29, 1986. Wayne Copley Bentson, pro se. Marikay Lee-Martinez, for the respondent. COUVILLIONMEMORANDUM FINDINGS OF FACT AND OPINION COUVILLION, Special Trial Judge: This case was assigned pursuant to the provisions of section 7456(d) (redesignated as section 7443A by the Tax Reform Act of 1986, Pub.L. 99-514, section 1556, 100 Stat. ) of the Code 1 and6 Rules 180, 181, and 182. Respondent determined a deficiency in petitioner's Federal income tax for 1982 in the amount of $152, and additions to tax under sections 6651(a)(1), 6653(a)(1), and 6653(a)(2) in the amounts of $100, $7, and 50 percent of the interest due on $152, respectively. The issues are whether petitioner had unreported income from salaries or wages and whether petitioner is liable for the additions to tax for the year in question. The deficiency and additions to tax arise from unreported wages of $3,949, purportedly earned by petitioner during 1982. At trial, petitioner admitted he was married as of December 31, 1982. Respondent presented evidence that petitioner's wife, E. Susan Bentson, who is not a party to this proceeding, earned wages of $11,484.29 during 1982. Respondent thereupon moved to amend the answer to attribute one-half of the wife's earnings as taxable income to petitioner, and also to exclude one-half of petitioner's wages of $3,949 as taxable income to7 him for the reason that petitioner and his wife were residents of Arizona during 1982 and, under Arizona Rev. Stat. Ann. section 25-211, all earnings of either spouse during marriage are considered community property. Thus, each spouse is taxable on one-half the earnings of the two. FINDINGS OF FACT At the time the petition was filed, petitioner's legal residence was Payson, Arizona. During 1982, petitioner was employed by Frontier Market of Payson, Arizona, and earned wages of $3,949.50.Petitioner was married to Elizabeth Susan Bentson during 1982, and she earned wages of $11,484.29 as an employee of The Mountain States Telephone and Telegraph Company. Respondent has no record of any income tax return having been filed by petitioner for the year 1982. The determination of the deficiency and additions to tax was based upon Wage & Tax Statements (Form W-2) filed with respondent by the respective employers of petitioner and his wife. Petitioner contends he and his wife filed a return for 1982, and that all taxes due for that year were paid. He also contends he was never audited and that respondent's computer printouts indicate he filed a return for8 1982. OPINION It is well settled that the determinations made by respondent in a notice of deficiency are presumed correct and the burden of proof is on petitioner to show that the determinations are wrong. 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), cert. denied 423 U.S. 1015">423 U.S. 1015 (1973); Rule 142(a). However, under Rule 142(a), with respect to any new matter, increases in deficiency, and affirmative defenses pleaded in the answer, the burden of proof is on respondent. Thus, for the deficiency and additions to tax set out in the notice of deficiency, the burden of proof is on petitioner. However, for any increase in the deficiency and additions to tax resulting from the inclusion of one-half of petitioner's wife's earnings (and the exclusion of one-half of petitioner's earnings), the burden or proof is on respondent. The fact that petitioner was not audited and had no administrative hearing does not preclude respondent from issuing a notice of deficiency. This Court generally will not look behind a deficiency notice to examine evidence used or the propriety of respondent's9 motives or of the administrative policy or procedures involved in making the determinations set out in the notice of deficiency. Proesal v. Commissioner,73 T.C. 600">73 T.C. 600 (1979); Greenberg's Express, Inc. v. Commissioner,62 T.C. 324">62 T.C. 324, 327 (1974). A notice of deficiency only advises the taxpayer that respondent means to assess him and anything that does this unequivocally is good enough. Olsen v. Commissioner,88 F.2d 650">88 F.2d 650, 651 (2d Cir. 1927). Petitioner admitted he earned compensation of $3,949 during 1982. He contends he filed a return for 1982; however, he did not produce a copy of this return nor did he present any other evidence of filing. He contends he paid his taxes for 1982, yet he could not produce evidence of payment and was vague as to the manner in which payment was made. Respondent's records, duly admitted into evidence and corroborated by the testimony of a representative of respondent, established to this Court's satisfaction that no return was filed by petitioner for 1982. We dismiss petitioner's indirect attempt to establish proof of filing by evidence obtained from respondent consisting of internal computer printouts.10 Petitioner's claim that certain code numbers of respondent on these printouts established that he had filed a return. A representative of respondent testified that the code numbers did not represent or indicate a return had been filed. We accept respondent's explanation in this regard and find that petitioner failed to file a return for 1982. As to the increase in the deficiency attributable to the amended answer, we find that respondent has met his burden of proof. Petitioner admitted Elizabeth Susan Bentson was his wife, that they were married as of December 31, 1982, and were residents of Arizona during 1982. A representative of The Mountain States Telephone and Telegraph Co. established that "E. Susan Bentson" was an employee of that company in 1982 and earned wages of $11,484.29, and the address of said employee was the same as that of petitioner. On this record, respondent has established that petitioner is taxable for additional income represented by one-half his wife's earnings. Section 6651(a)(1) provides for an addition to tax for failure to timely file a return unless such failure is due to reasonable cause and not due to willful neglect. Sections 6653(a)(1) and11 (2) provide for additions to tax for underpayment of tax due to negligence or intentional disregard of rules and regulations. Having found that no return was filed for 1982, and no credible reason was advanced by petitioner for the failure to file, the addition to tax under section 6651(a)(1) is sustained. Since petitioner's income was never reported and no payment of tax was made, the underpayment was, at minimum, due to negligence or intentional disregard of rules and regulations. Accordingly, the additions under sections 6653(a)(1) and (2) are sustained. 2Petitioner's motion for summary judgment, filed at the trial of this proceeding, is denied. Decision will be entered under Rule 155.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated; and all Rule references are to the Tax Court Rules of Practice and Procedure.↩2. No income taxes were withheld on the $3,949 wages earned by petitioner, and $86.80 income taxes were withheld on the $11,484 wages earned by petitioner's spouse.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621605/	APPEAL OF BARNES-POPE ELECTRIC CO.Barnes-Pope Electric Co. v. CommissionerDocket No. 1678.United States Board of Tax Appeals2 B.T.A. 1226; 1925 BTA LEXIS 2128; November 6, 1925, Decided Submitted June 3, 1925. 2128 Philip Nichols, Esq., for the taxpayer. Edward C. Lake, Esq., for the Commissioner. 1226 Before STERNHAGEN, LANSDON, GREEN, and LOVE. This is an appeal from the determination of a deficiency in the amount of $4,608.22 in income and profits taxes for the year 1918. The only assignment of error is that the Commissioner erred in not classifying the taxpayer as a personal-service corporation. FINDINGS OF FACT. The taxpayer is a Massachusetts corporation with its domicile in Boston. The business of the corporation is electrical engineering, contracting, and constructing. Its capital stock was $10,000, all paid in, and was owned as follows: Shares.F. L. Barnes199$4,975.00H. S. Pope1994,975.00T. H. Armstrong250.00Barnes and Pope were expert electrical engineers and each devoted his whole time to the business of the corporation. The balance sheets as of January 1 and December 31, 1918, respectively, were as follows: ASSETS.Cash on hand and in banks$8,823.80Trade accounts17,772.75Contracts operating35,300.52Merchandise per inventory5,187.54Bond50.00Office furniture313.00Total$67,447.612129 LIABILITIES.Accounts payable (trade)$16,072.62Accounts payable (other)10,219.78Advance payments on contracts operating26,658.00Reserve for bad debts2,395.55Capital stock10,000.00Surplus (of which $1,966.90 for use as contingent account to take care of deferred payments on contracts operating)2,101.66Total67,447.61ASSETS.Cash on hand and in banks$16,094.02Trade accounts11,427.21Contracts operating7,289.81Merchandise per inventory2,748.52Bond50.00Office furniture349.50Total$37,959.06LIABILITIES.Accounts payable (trade)$9,971.80Accounts payable (other)10,209.19Advance payments on contracts operating993.22Reserve for bad debts2,395.55Contingent account1,966.90Capital stock10,000.00Surplus2,422.40Total37,959.061227 The following is a summary statement of business at close of year: Inventory January 1, 1918$5,187.54Contracts operating35,300.52Purchases during period 191849,062.09Labor30,902.18Miscellaneous contract costs4,464.67$124,917.00Less:Inventory Dec. 31, 19182,748.52Contracts operating7,289.8110,038.33114,878.67Schedule A-5:Interest on bank deposits$192.43Schedule A-12:Contracts, Mutual Liability Insurance Co., onpolicies$33.87Commissions8.35Miscellaneous accounts charged off, allowance, etc245.64Sale of junk10.00297.86Schedule A-14:Auto account863.97Discounts14.11Miscellaneous expense, postage, etc1,249.21Telephone425.61Rent2,297.04Light10.72Insurance351.49Pay roll, office, and stock room2,722.907,935.052130 1228 The work of Barnes and Pope was designing, engineering, and superintending the work contracted to be done by the taxpayer. It had no other superintendent. Each particular contract job was put in charge of a journeyman, and laborers who were more or less experts in that line of work were assigned to assist him. Taxpayer ordinarily had 25 to 30 laborers employed and sometimes as many as 75. Laborers' wages were paid weekly. When a contract was entered into it usually included designing, engineering, furnishing of material and labor of construction, and the contract price was a gross sum. At the end of each 30-day period there would be estimated the proportion of completed work and 80 per cent of the value of such completed work paid for, and on completion of the job the entire balance was due and payable. Barnes and Pope did some designing and engineering for work for which they had no construction contract. On contract work, the materials used were ordinarily purchased from supply houses, on 30 days' time. For job work, requiring but a small amount of material, and short time, the material was supplied from taxpayer's stock. When taxpayer received an order*2131 for special articles, such as a washer, fan, etc., it would purchase same from a supply house on 30 days' time and bill it to its customer at cost, plus 20 per cent profit. Barnes and Pope were men of good business reputation and much of the business of the taxpayer came to it on account of such reputation. In some of the contract work taxpayer gave bond, and in others it was not required to do so. Some of its contracts were awarded as a result of competitive bidding. DECISION. The determination of the Commissioner is approved.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621653/	Estate of Mary Detlefs Nilson, Deceased, Norma Nilson Briggs, Administratrix v. Commissioner.Estate of Nilson v. CommissionerDocket No. 5232-68.United States Tax CourtT.C. Memo 1972-141; 1972 Tax Ct. Memo LEXIS 115; 31 T.C.M. (CCH) 708; T.C.M. (RIA) 72141; June 29, 1972, Filed Russell E. Parsons and Michael K. Lanning for the petitioner. Norman H. McNeil, for the respondent. ATKINSMemorandum Findings of Fact and Opinion ATKINS, Judge: Respondent determined a deficiency in Federal estate tax against the estate of the decedent in the amount of $188,169.83. The only issue presented for decision is whether the estate is entitled to a claimed deduction of $381,000 as a claim against the estate, under section 2053(a)(3) of the Internal Revenue Code116 of 1954. The claimed 709 deduction arose from the settlement of a lawsuit based upon a claim against the estate predicated upon decedent's alleged liability for a tort. Findings of Fact Some of the facts were stipulated. The stipulation of facts, together with the exhibits identified therein, is incorporated herein by reference. The decedent, Mary Detlefs Nilson, a widow, died intestate a resident of the State of California on July 25, 1964. Norma Nilson Briggs is the daughter of decedent and duly appointed administratrix of the decedent's estate. On the date of the filing of the petition in this case, the legal address of the estate was in Studio City, California. Petitioner's Federal estate tax return was filed with the District Director of Internal Revenue at Los Angeles, California. John Robert Briggs (hereinafter "Robert") and Norma Nilson Briggs (hereinafter "Norma") were married in 1950 and had three sons. At the time of Norma's marriage to Robert in 1950, Norma and her mother were beneficiaries of a considerable fortune generated by Norma's father and passed on to Norma and her mother as heirs upon his death. Norma's mother was apparently opposed to Norma's marriage117 to Robert from the outset, and apparently attempted to appropriate all of Norma's attention. Robert had little financial support to contribute to the marriage. However, with the assistance of Norma's financial resources, he engaged in the business of real estate development. On July 19, 1959, Mrs. Nilson was the overnight guest of Norma and Robert. On the morning of the next day, July 20, 1959, Robert, Norma, and Mrs. Nilson got into an automobile, driven by Robert, to take Mrs. Nilson back to her home. Enroute, Robert stopped to fill the automobile's gas tank and a five-gallon can with gasoline. Robert then proceeded to drive into the Santa Monica hills, rather than directly toward Mrs. Nilson's home. At a point alongside a canyon, Robert stopped the car, engaged the parking brake, but left the automatic transmission in "drive" and the motor running. He stated that the motor was overheating, released the hood, and left the car with the women seated in the front seat. After examining the motor, he returned to the door nearest to the driver's side, whereupon the car started moving forward and went over the cliff into the canyon for a distance of 50 or 60 feet where it temporarily118 came to rest on a small ledge. Norma and Mrs. Nilson were able to extricate themselves before the car tumbled to the floor of the canyon. Thereafter, with Mrs. Nilson as the complaining witness, Robert was charged with attempting to kill Norma and Mrs. Nilson. The theory of the prosecution was that Robert, deliberately and with intent to kill the women, caused the car to run over the cliff. Robert pleaded not guilty to the charges on the ground that the occurrence was an accident. He also pleaded not guilty on the ground of insanity. Mrs. Nilson was the chief prosecution witness. However, Norma testified in behalf of Robert. In January 1960, a jury returned a verdict of guilty. Thereafter, Robert abandoned his plea of not guilty by reason of insanity and appealed the judgment of conviction. The judgment was affirmed on February 26, 1962, by the California District Court of Appeal ( People v. Briggs, 19 Cal. Rptr. 772">19 Cal. Rptr. 772(. Robert then took the case to the California Supreme Court. On September 26, 1962, that Court reversed the judgment of conviction and remanded the case for a new trial ( People v. Briggs, 58 C. 2d 385, 374 P. 2d 257). The basis for reversal119 by the California Supreme Court was prejudicial error arising from the trial court's admission of certain accusatory statements by Mrs. Nilson and the arresting officers at the scene. The court stated that the evidence was sufficient to sustain the guilty verdict, if the jury believed, as it did, the testimony of Mrs. Nilson for the prosecution and rejected the testimony of Robert and Norma for the defense. However, the court stated in its opinion: "From this review of the evidence, it is our conclusion that although it is sufficient to sustain the two jury verdicts [guilty on each count of attempted murder of Mrs. Nilson and Norma], it is so close (without consideration of the diary), that any substantial error tending to discredit the defense, or to corroborate the prosecution, must be considered as prejudicial." The diary mentioned by the court was a diary kept by Mrs. Nilson which had been marked for identification but had not been received into evidence at the trial, and thus had not been considered by the jury. The court pointed out that the diary was full of expressions of hatred for her son-in-law, that it showed a positive motive for obtaining Briggs's conviction, contained120 material 710 which cast grave doubt on the credibility and mental condition of the prosecutor's chief witness, and would have added to the great weight of material which tended to bolster the defense witnesses. It further pointed out that the diary would be available for impeachment purposes at a new trial. Within a few months of the reversal of the judgment of conviction, in about January 1963, Mrs. Nilson became ill and was unable to testify for the prosecution. On April 20, 1964, the District Attorney dismissed the criminal charges against Robert. Thereafter, on July 25, 1964, Mrs. Nilson died. While the marriage of Norma and Robert was hectic and discordant, they lived together under the same roof except for a period of seven months in 1960 during Robert's trial and the prosecution of his appeal, when he was incarcerated in the county jail. Besides being a key witness for the defense, Norma borrowed in excess of $200,000 from E. F. Hutton & Company, in Los Angeles; and from the proceeds of the loan, secured by a pledge of her own property, she paid all the costs of Robert's defense of the criminal charges. Norma was the sole surviving heir of her mother. Under the law121 of California, title to her mother's estate passed to Norma, subject to creditors' claims, as of the date of death. The gross estate was approximately $2,900,000. Robert had conversation with Norma after Mrs. Nilson's death, during which he threatened to file a claim against the estate based upon malicious prosecution by the decedent of the criminal case. Robert was of the opinion at that time that whatever the amount of his claims, such amount would be a legitimate deduction for Federal estate tax purposes and that Norma could not dispute its merits. On February 15, 1965, Robert filed with the clerk of the probate court, a creditor's claim for $1,500,000 which included punitive damages of $500,000,, against Mrs. Nilson's estate. For several years prior to 1965, Robert and Norma had been clients of Michael K. Lanning, an attorney at law. After Mrs. Nilson's death, Lanning was engaged as attorney for the estate, and at a point in time when Norma determined that Robert might actually press a claim against the estate for malicious prosecution, she consulted Lanning relative to the merits of the claim and Robert's contention about possible estate tax benefits. On or about February 15, 1965, Lanning122 referred the problem to Charles H. Manaugh, an attorney at law who maintained his office near Lanning. Manaugh was also a certified public accountant and advised clients with respect to tax problems. Both lawyers advised Norma to reject Robert's claim, and on February 18, 1965, Norma as administratrix of her mother's estate, notified Robert that his claim was rejected in its entirety. On April 12, 1965, Robert filed a complaint for malicious prosecution in the Superior Court of the State of California for the County of Los Angeles against Norma, as administratrix of her mother's estate, and ten other unnamed defendants (Doe's I to X), alleging generally that Mrs. Nilson, individually, and in concert with the other defendants, maliciously and without probable cause had instituted the criminal proceedings against him. The complaint was filed by Robert in propria persona. While claim was made for general, special, and punitive damages, no amounts were alleged. Lanning and Manaugh, as counsel in charge of the defense of the malicious prosecution suit, forthwith initiated discovery proceedings, consisting of written interrogatories and requests for admissions of facts directed to Robert. 123 Thereafter, on May 28, 1965, Manaugh and Lanning, as counsel for the estate, filed a demurer to Robert's complaint for malicious prosecution. The demurrer specifically alleged that Robert's complaint did not state a cause of action, and that it lacked specificity in several respects, including the amount of damages sustained. In an accompanying memorandum of points and authorities, it was stated that punitive damages are not recoverable against an estate and that Robert's prior conviction was conclusive evidence of probable cause, absent fraud, and a bar to Robert's action for malicious prosecution. At the argument on the demurrer, the Judge indicated that he believed that Robert had stated a cause of action. In ruling on the demurrer, the Judge struck those paragraphs of the complaint which had been complained of for lack of specificity, with leave to Robert to amend; he struck the provisions of the complaint praying for punitive damages; but he did not dismiss the complaint for 711 failure to state a cause of action, as the estate had prayed in the demurrer. Robert subsequently filed an amended complaint on July 7, 1965, alleging therein that his conviction had been obtained124 by perjured testimony and that he had sustained general damages of $1,500,000. After the filing of Robert's complaint Manaugh and Lanning attempted to convince Robert that his claim should be abandoned because of the disruption it caused in the marital relationship with Norma and because, they stated, the claim did not have merit from a legal standpoint. However, Robert continued to press his claim and his contention that there would be tax savings for Norma. Robert avoided confrontation with Manaugh and Lanning, and he avoided replying to their interrogatories and requests for admissions. He also engaged his own counsel. Manaugh proceeded with further discovery in an extensive deposition of Robert extending over a four-day period that began on Friday, June 18, 1965. At the noon hour recess on that day, Robert was served with a complaint for divorce by Norma, to which Robert filed an answer and a cross-complaint for divorce on July 5. The above-mentioned discovery deposition was concluded on June 25. As a result of that deposition and of the California court's action in ruling on the demurrer, Manaugh became convinced that Robert's case had merit. On July 12, 1965, Manaugh had125 a conference with Norma, and he advised her to settle with Robert for an amount less than $500,000. Manaugh pointed out that there were no witnesses which he could call in defense; that in view of the Judge's ruling on the demurrer the case would likely go to the jury; that Robert could be an effective witness before a jury; and that the estate was highly solvent with over $2,000,000 of assets. Manaugh instructed Norma to herself conduct settlement negotiations with Robert because after the vigorous examination in the deposition Robert was bitter and hostile toward him. On the same date of July 12, in response to a telephone call from Robert, Norma invited him to her residence (they [were] living apart, at least since the filing of Norma's divorce complaint) to discuss settlement. At the meeting, Robert insisted on $1,000,000 which was rejected by Norma. On the next day, Robert and Norma again discussed settlement and he lowered his offer to $500,000, which Norma also rejected. After discussions, Robert further lowered his demand to $400,000, but Norma likewise rejected that figure. And on the succeeding day, July 14, bargaining at $1,000 at a time, Robert came down to $388,000. 126 Norma at that point contacted Manaugh, and upon advising him that that figure was the lowest to which she could bring Robert, she was told by Manaugh to agree to it. No specific items making up the oral settlement were discussed between Robert and Norma at that time. Within a few days after the foregoing oral agreement had been reached by and between Robert and Norma, Norma's counsel forwarded to Robert's counsel a draft compromise agreement relating to the tort action and a draft property settlement relating to the divorce action. The draft compromise agreement provided that Robert would dismiss his complaint in consideration of the payment to him of the sum of $388,000, to be paid by the estate in the form of transfers of four parcels of realty of an agreed value of $127,000 and cash in the amount of $261,000 in satisfaction of general damages and loss of earnings in the respective amounts of $370,152 and $17,848. The draft property settlement agreement provided, among other things, for a division of the community property between the spouses, that the tort settlement was to be Robert's separate property; and that Robert would pay the E. F. Hutton debt. On July 26, 1965, counsel127 for Robert returned various settlement documents to Norma's counsel. The tort compromise agreement had been revised, increasing the settlement figure by $5,000 to $393,000 and concomitantly increasing the cash requirement from $261,000 to $266,000. The $393,000 was allocated, $363,608 to general damages, $17,667 for loss of earnings, and $11,725 for legal expenses incurred in defense of the criminal action. There was no mention of the E. F. Hutton debt in the proposal from Robert. Counsel for Norma promptly objected to Robert's revisions to the settlement and his pressure on Norma and their children, and threatened to proceed with litigation of both the tort and divorce cases unless Robert ceased such conduct. Thereafter, on August 14, 1965, upon arrangement by their counsel, Robert and Norma, individually and as executrix of the estate, with their respective counsel, met 712 in the office of counsel for Robert and executed a compromise and settlement agreement relating to the tort action and a property settlement agreement which settled their respective property rights and provided for withdrawal of their respective pleadings in the divorce action. In these final agreements, 128 the E. F. Hutton debt of $211,000, which Norma had contracted for the purposes above-mentioned and which Robert had repeatedly stated that he intended to pay, was taken out of the property settlement agreement where it had appeared as a debt of Norma to be paid by Robert, and was inserted in the tort compromise and settlement agreement. The settlement figure remained at $388,000, payable by the estate in the form of transfers of four parcels by the real estate of an agreed value of $127,000 and cash in the amount of $261,000. The estate was to pay the cash portion as follows: $211,000 direct to E. F. Hutton & Company, and $50,000 to Robert. On September 1, 1965, a petition for an order approving the settlement of Robert's claim was filed with the probate court. Thereafter on September 21, 1965, a 16-page document entitled "Declaration of Counsel in Support of Petition for Order Approving Compromise and Settlement," signed by Norma's counsel, was filed with the court. On September 29, 1965, the petition came on for hearing, at which time Norma's counsel were present and prepared to testify in support of the petition. The presiding judge briefly examined the file before him, and then, 129 without asking any questions of the witnesses who were present, stated: If the suit went to trial, I do not believe Briggs would obtain such a sum. I will approve it. I realize it's her money and her business if she wants to give it away, but I can't put my blessing on it. Thereafter, on October 6, 1965, the probate judge who had heard the matters on September 29, entered an order approving the compromise, which order was filed on October 7. In that order it was ordered that Norma, as administratrix, execute the requisite conveyances of the four parcels of real estate to Robert and pay to him $261,000 - $50,000 to him directly and $211,000 directly to E. F. Hutton & Company. Subsequently, E. F. Hutton & Company was paid by a check drawn on the estate's commercial bank account by Norma, as administratrix, in the amount of $211,000; an estate check in the amount of $50,000 was made payable to Robert; and property of a value of $127,000 was deeded over to him by Norma, as administratrix of the estate. On Schedule J of the estate tax return, a deduction was claimed in the amount of $381,000, described as "settlement of lawsuit against estate, amounts paid to Robert Briggs, plaintiff, 130 for full release of all claims against estate. 1The respondent, in his statutory notice of deficiency, denied the claimed deduction, stating that it was not allowable as a deduction under section 2053 of the Internal Revenue Code. Opinion Section 2053(a) of the Internal Revenue Code of 1954 provides that the value of the taxable estate shall be determined by deducting from the value of the gross estate such amounts for claims against the estate as are allowable by the laws of the jurisdiction under which the estate is being administered. The amount herein in question is the amount of $381,000, a portion of the amount of $388,000 paid by the estate in settlement of Robert's suit against the estate for malicious prosecution by the decedent. The respondent does not deny that a bona fide payment131 in settlement of a tort claim against an estate is deductible in determining the value of the taxable estate. Indeed, section 20.2053-4 of the Estate Tax Regulations provides in part as follows: The amounts that may be deducted as claims against a decedent's estate are such only as represent personal obligations of the decedent existing at the time of his death, whether or not then matured * * . Only claims enforceable against the decedent's estate may be deducted. * * Liabilities imposed by law or arising out of torts are deductible. See Smith v. United States, (D. Mass.) 16 F. Supp. 397">16 F. Supp. 397, affirmed per curiam on another issue (C.A. 1) 92 F. 2d 704. 2However, the respondent contends that the amount in question in the instant case 713 is not deductible. It is his position that Robert's claim was frivolous and that the inducement for compromise did not lie in a realistic appraisal of the defense to132 his claim. Rather, it is his position that the inducement was to abate his continuing harassment and threats to his wife Norma, reconciliation between the spouses, and estate tax saving. It is further his position that the decree of the probate court approving the settlement of such claim was not based upon a consideration of the merits and is not binding on this Court, citing, among other things, section 20.2053-1(b)(2) of the Estate Tax Regulations. 3133 From our appraisal of this record, we are not satisfied that the decree of the California probate court, pursuant to which the payments here involved were made, was entered after a consideration of the tort settlement on its merits. The document was prepared by counsel for the estate, and so far as the evidence in this record shows, the probate judge signed the order in accord with his prior remarks in open court. We accordingly agree with respondent that the decree of the probate court is not binding upon us. Wolfsen v. Smyth, (C.A. 9) 223 F. 2d 111; Smith v. United States, supra; see also Second National Bank of New Haven v. United States, 387 U.S. 456">387 U.S. 456. We have, however, felt it proper to appraise the merits on our own, and having done so, we are satisfied, for reasons presently to be shown, that the payments to Robert represented payments in settlement of a bona fide claim against the estate, and as such are properly deductible for estate tax purposes. We cannot accept the respondent's argument that Robert's claim was frivolous in that he could134 not make out a prima facie case or prove damages and that accordingly there was no bona fide or enforceable claim under local law. In this connection we note that the California judge who ruled on the estate's demurrer to Robert's original complaint was of the opinion that Robert had made out a cause of action and he refused to grant the prayer of the demurrer which sought dismissal on that ground. Counsel for the estate came to believe that too, and after an assessment of their litigating chances in the light of their total lack of defense witnesses (Mrs. Nilson was dead and Norma could hardly testify against Robert after having testified for him at his criminal trial), the potentially damaging effect of Mrs. Nilson's diary showing hatred of Robert, Robert's anticipated effectiveness as a witness before a jury and the equities with him (including seven months spent in jail), and the extensive assets in the estate, they concluded that the case had better be settled than taken to court. Respondent lays much stress on the remarks of the probate judge in open court on September 29, 1965, set out in the findings of fact. However, it is to be noted that the judge expressed doubt as to135 the amount of damages which he thought Robert could have recovered at trial. He did not say that he did not believe that Robert had a cause of action, and the fact remains that he did enter a decree approving the settlement and authorizing the payment. No one, of course, will ever know what Robert would have received if the case had gone to trial. However, both of the counsel for the estate testified that they thought a good settlement had been made. The evidence clearly establishes that the amount of the settlement was fixed after vigorous arms' length bargaining and dickering between Norma and Robert. Under all the circumstances we accept the amount of the settlement as a reasonable one. Respondent's final argument is stated as follows: "The bases for compromise of the tort claim were tax saving, the need to placate Robert and reconciliation of Norma and Robert, none of which support a deduction for estate tax purposes." 714 From our consideration of the evidence, we reach a different conclusion. Testimony of Norma and the two counsel for the estate [refutes] the contention that the settlement was dictated by a tax saving motive. Robert presented this as a reason for paying136 him off, but neither Norma nor her counsel ever gave their assent. Norma did not want to pay Robert anything, for placative purposes or otherwise, and consented to do so only upon the advice and recommendations of her counsel, after their appraisal of the hazards of litigation. We think that the settlement was entered into for the purposes of ridding the estate of what was believed to be a valid cause of action against it and thereby avoid troublesome, expensive, and potentially protracted litigation, and the possibility of a judgment against it of a greater amount. In his argument on this last point, respondent lays special stress on the $211,000 which was paid to E. F. Hutton & Company, and which respondent claims was shifted from the property settlement incident to the divorce, over to the compromise and settlement of the tort claim. As we view the record, there was no such shift. In the proposed property settlement, Robert undertook to pay off the moneys which Norma had borrowed to pay for his defense of the criminal action. Prior to the making of the property settlement, Robert and Norma had agreed on the $388,000 tort settlement, $261,000 of which was to be paid in cash. All137 that was accomplished in the final tort settlement effected on August 14, 1965, was to earmark $211,000 of that cash settlement for payment to Hutton, and thereby assure Norma that Robert's undertaking to pay that debt would be carried out. We find in the settlement no cloak for a gift to Robert, and we accordingly hold that the petitioner-estate properly deducted the $381,000 as a claim against the estate. Decision will be entered under Rule 50. Footnotes1. The stipulation of facts states that cash and property of the total value of $388,000 was paid to Robert. The record contains no explanation for the different amount of $381,000 claimed as a deduction in respect of payments made to him.↩2. For a discussion of the deductibility of tort claims, see Lowndes and Kramer, Federal Estate and Gift Taxes (Second Edition, 1962), section 15.13.↩3. Such section of the regulations provides as follows: (2) Effect of court decree. The decision of a local court as to the amount and allowability under local law of a claim on administrative expense will ordinarily be accepted if the court passes upon the facts upon which deductibility depends. If the court does not pass upon those facts, its decree will, of course, not be followed. For example, if the question before the court is whether a claim should be allowed, the decree allowing it will ordinarily be accepted as establishing the validity and amount of the claim. However, the decree will not necessarily be accepted even though it purports to decide the facts upon which deductibility depends. It must appear that the court actually passed upon the merits of the claim. This will be presumed in all cases of an active and genuine contest. If the result reached appears to be unreasonable, this is some evidence that there was not such a contest, but it may be rebutted by proof to the contrary. If the decree was rendered by consent, it will be accepted, provided the consent was a bona fide recognition of the validity of the claim (and not a mere cloak for a gift) and was accepted by the court as satisfactory evidence upon the merits. It will be presumed that the consent was of this character, and was so accepted if given by all parties having an interest adverse to the claimant. * * *↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4537572/	Nebraska Supreme Court Online Library www.nebraska.gov/apps-courts-epub/ 05/29/2020 08:07 AM CDT - 581 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 State of Nebraska, appellee, v. Lorenzo Montoya, appellant. ___ N.W.2d ___ Filed April 17, 2020. No. S-19-660. 1. Criminal Law: Courts: Appeal and Error. In an appeal of a criminal case from the county court, the district court acts as an intermediate court of appeals, and its review is limited to an examination of the record for error or abuse of discretion. 2. ____: ____: ____. When deciding appeals from criminal convictions in county court, an appellate court applies the same standards of review that it applies to decide appeals from criminal convictions in dis- trict court. 3. Constitutional Law: Search and Seizure: Motions to Suppress: Appeal and Error. In reviewing a trial court’s ruling on a motion to suppress based on a claimed violation of the Fourth Amendment, an appellate court applies a two-part standard of review. Regarding histori- cal facts, an appellate court reviews the trial court’s findings for clear error, but whether those facts trigger or violate Fourth Amendment protection is a question of law that an appellate court reviews indepen- dently of the trial court’s determination. 4. Rules of Evidence. In proceedings where the Nebraska Evidence Rules apply, the admissibility of evidence is controlled by the Nebraska Evidence Rules; judicial discretion is involved only when the rules make discretion a factor in determining admissibility. 5. Judges: Evidence: Appeal and Error. An appellate court reviews for abuse of discretion a trial court’s evidentiary rulings on the sufficiency of a party’s foundation for admitting evidence. 6. Rules of Evidence: Hearsay: Appeal and Error. Apart from rulings under the residual hearsay exception, an appellate court reviews for clear error the factual findings underpinning a trial court’s hearsay rul- ing and reviews de novo the court’s ultimate determination to admit evidence over a hearsay objection. - 582 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 7. Constitutional Law: Witnesses: Appeal and Error. An appellate court reviews de novo a trial court’s determination of the protections afforded by the Confrontation Clause of the Sixth Amendment to the U.S. Constitution and article I, § 11, of the Nebraska Constitution and reviews the underlying factual determinations for clear error. 8. Convictions: Evidence: Appeal and Error. In reviewing a criminal conviction for a sufficiency of the evidence claim, whether the evidence is direct, circumstantial, or a combination thereof, the standard is the same: An appellate court does not resolve conflicts in the evidence, pass on the credibility of witnesses, or reweigh the evidence; such matters are for the finder of fact. The relevant question for an appellate court is whether, after viewing the evidence in the light most favorable to the prosecution, any rational trier of fact could have found the essential ele- ments of the crime beyond a reasonable doubt. 9. Search and Seizure: Evidence: Trial. Evidence obtained as the fruit of an illegal search or seizure is inadmissible in a state prosecution and must be excluded. 10. Constitutional Law: Criminal Law: Police Officers and Sheriffs: Investigative Stops: Search and Seizure: Words and Phrases. The investigatory stop is limited to brief, nonintrusive detention during a frisk for weapons or preliminary questioning; it is considered a “seizure” sufficient to invoke Fourth Amendment safeguards, but because of its less intrusive character requires only that the stopping officer have spe- cific and articulable facts sufficient to give rise to reasonable suspicion that a person has committed or is committing a crime. 11. Constitutional Law: Criminal Law: Police Officers and Sheriffs: Arrests: Search and Seizure: Probable Cause. Arrests are character- ized by highly intrusive or lengthy search or detention, and the Fourth Amendment requires that an arrest be justified by probable cause to believe that a person has committed or is committing a crime. 12. Probable Cause: Words and Phrases. Reasonable suspicion entails some minimal level of objective justification for detention, something more than an inchoate and unparticularized hunch, but less than the level of suspicion required for probable cause. 13. Investigative Stops: Police Officers and Sheriffs: Probable Cause. Whether a police officer has a reasonable suspicion based on sufficient articulable facts depends on the totality of the circumstances and must be determined on a case-by-case basis. 14. Motions to Suppress: Trial: Pretrial Procedure: Appeal and Error. When a motion to suppress is denied pretrial and again during trial on renewed objection, an appellate court considers all the evidence, both from trial and from the hearings on the motion to suppress. - 583 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 15. Investigative Stops: Motor Vehicles. The witnessing of a driving viola- tion, however minor, is sufficient to support a stop. 16. Investigative Stops: Motor Vehicles: Police Officers and Sheriffs: Probable Cause. Reasonable proof of the accuracy of the radar equip- ment indicating to the law enforcement officer that the defendant was speeding need not be demonstrated in order to support reasonable suspi- cion for a stop of the vehicle for speeding. 17. ____: ____: ____: ____. The appropriate inquiry for an investiga- tory stop for speeding is whether a reasonable police officer had a minimal level of objective justification for the belief that speeding had occurred. 18. Trial: Evidence: Motions to Suppress: Waiver: Appeal and Error. A failure to object to evidence at trial, even though the evidence was the subject of a previous motion to suppress, waives the objection, and a party will not be heard to complain of the alleged error on appeal. 19. Blood, Breath, and Urine Tests: Drunk Driving: Evidence: Proof. The four foundational elements which the State must establish by rea- sonable proof as foundation for the admissibility of a breath test in a driving under the influence prosecution are as follows: (1) that the test- ing device was working properly at the time of the testing, (2) that the person administering the test was qualified and held a valid permit, (3) that the test was properly conducted under the methods stated by the Department of Health and Human Services, and (4) that all other statutes were satisfied. 20. Administrative Law: Blood, Breath, and Urine Tests: Records: Proof. Where the records of the maintenance of a machine are relied on to prove that the machine was properly maintained for purposes of providing foundation for breath test results, the records admitted at trial must show by satisfactory evidence that the inspections com- plied with all requirements of title 177, chapter 1, of the Nebraska Administrative Code. 21. Administrative Law: Appeal and Error. The construction of the regu- lations is a matter of law in connection with which an appellate court has an obligation to reach an independent determination regardless of the ruling of the court below. 22. Administrative Law. For purposes of construction, a rule or regulation of an administrative agency is generally treated like a statute. 23. Statutes: Appeal and Error. An appellate court will not resort to interpretation to ascertain the meaning of statutory words that are plain, direct, and unambiguous. 24. Statutes: Legislature: Intent. A collection of statutes pertaining to a single subject matter are in pari materia and should be conjunctively - 584 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 considered and construed to determine the intent of the Legislature, so that different provisions are consistent, harmonious, and sensible. 25. Statutes. It is impermissible to follow a literal reading that engenders absurd consequences where there is an alternative interpretation that reasonably effects a statute’s purpose. 26. Administrative Law: Blood, Breath, and Urine Tests: Proof. Amended certificates of analysis to correct clerical errors provide sat- isfactory evidence that the inspections of an approved breath testing device complied with the requirements of title 177 of the Nebraska Administrative Code. 27. Constitutional Law: Hearsay. Only testimonial statements cause the declarant to be a witness within the meaning of the Confrontation Clause. 28. Rules of Evidence. Unless the regularly conducted activity of a busi- ness is the production of evidence for use at trial, business records are not testimonial. 29. Constitutional Law: Hearsay: Blood, Breath, and Urine Tests. Neither original simulator solution certifications relating to maintenance of breath testing devices nor amended certifications are testimonial for purposes of the Confrontation Clause, because the simulator solution certifications are prepared in a routine manner without regard to any particular defendant. 30. Sentences: Appeal and Error. Absent an abuse of discretion by the trial court, an appellate court will not disturb a sentence imposed within the statutory limits. 31. ____: ____. Where a sentence imposed within the statutory limits is alleged on appeal to be excessive, the appellate court must determine whether a sentencing court abused its discretion in considering and applying the relevant factors as well as any applicable legal principles in determining the sentence to be imposed. 32. Judgments: Words and Phrases. An abuse of discretion occurs when a trial court’s decision is based upon reasons that are untenable or unrea- sonable or if its action is clearly against justice or conscience, reason, and evidence. 33. Sentences. In determining a sentence to be imposed, relevant factors customarily considered and applied are the defendant’s (1) age, (2) men- tality, (3) education and experience, (4) social and cultural background, (5) past criminal record or record of law-abiding conduct, and (6) moti- vation for the offense, as well as (7) the nature of the offense and (8) the amount of violence involved in the commission of the crime. 34. ____. The appropriateness of a sentence is necessarily a subjective judg- ment and includes the sentencing judge’s observation of the defendant’s - 585 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 demeanor and attitude and all the facts and circumstances surrounding the defendant’s life. 35. Sentences: Rules of Evidence. The sentencing phase is separate and apart from the trial phase, and the traditional rules of evidence may be relaxed following conviction so that the sentencing authority can receive all information pertinent to the imposition of sentence. 36. Sentences: Evidence. A sentencing court has broad discretion as to the source and type of evidence and information which may be used in determining the kind and extent of the punishment to be imposed, and evidence may be presented as to any matter that the court deems relevant to the sentence. 37. Sentences. It is permissible for a sentencing court to consider the infor- mation that a defendant has been charged with but not yet tried for alleg- edly illegal acts committed after the offense for which the defendant is being sentenced. 38. Drunk Driving. Whether or not there are passengers in a vehicle, driv- ing under the influence presents a serious threat to public safety. 39. Sentences: Appeal and Error. It is not the function of an appellate court to conduct a de novo review of the record to determine whether a sentence is appropriate. Appeal from the District Court for Lancaster County, Andrew R. Jacobsen, Judge, on appeal thereto from the County Court for Lancaster County, Thomas E. Zimmerman, Judge. Judgment of District Court affirmed. Joe Nigro, Lancaster County Public Defender, and Sarah J. Safarik, for appellant. Douglas J. Peterson, Attorney General, and Matthew Lewis for appellee. Heavican, C.J., Miller-Lerman, Cassel, Stacy, Funke, Papik, and Freudenberg, JJ. Freudenberg, J. NATURE OF CASE The defendant appeals his conviction and sentence for driv- ing under the influence, which were affirmed on intermedi- ate appeal to the district court. The defendant argues that the - 586 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 county court should have granted his motions to suppress challenging his stop for lack of reasonable suspicion, his arrest for lack of probable cause, and the results of the test of his breath alcohol content because the machine used was not at the time of its calibration accompanied by a certificate of analysis of the wet bath solutions containing the name of the person who actually tested the solutions as required by the rules and regulations of Nebraska’s Department of Health and Human Services. Amended certificates of analysis were later obtained, which listed the correct name of the person who tested the solutions. The defendant also asserts that the evidence was insufficient to support his conviction and that his sentence was excessive. BACKGROUND Lorenzo Montoya was charged in the county court for Lancaster County with one count of operating a motor vehicle while under the influence, in violation of Neb. Rev. Stat. § 60-6,196 (Reissue 2010), by operating or being in actual physical control of a motor vehicle while under the influence of alcoholic liquor or of any drug or when he had “a concen- tration of eight-hundredths of one gram or more by weight of alcohol per two hundred ten liters of his or her breath,” on or about March 12, 2017. Montoya was also charged with having one or more prior convictions under Neb. Rev. Stat. § 60-6,197.02 (Cum. Supp. 2018), having committed one prior offense in November 2008 and another in April 2008. Stop and Arrest At trial, Trooper Michael Thorson of the Nebraska State Patrol testified that he first observed Montoya’s vehicle on March 12, 2017, at approximately 1:50 a.m., traveling in front of him going the same direction. Montoya’s vehicle appeared to be traveling faster than the 35-mile-per-hour speed limit. Thorson also observed the vehicle cross over the center line. According to Thorson, the road was curved, but the weather and road conditions were normal. - 587 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 Thorson waited until the vehicle was at a good location for radar detection and used his radar to detect the vehicle’s speed. Thorson testified that he is trained at estimating speeds and is certified in the operation of radar devices. Thorson testified that, as required, he had checked his radar at the beginning of his shift on March 12, 2017, with tuning forks to ensure it was working properly. The radar displayed that the vehicle was traveling at 50 miles per hour. Thorson initiated a traffic stop. Montoya was the driver of the vehicle. There were passengers in the front passenger seat and in the back. When Thorson approached the stopped vehicle, he immediately detected a distinct odor of alcoholic beverage. He noticed that Montoya’s eyes were bloodshot and glossy, which Thorson explained was “typical for someone who’s been drinking.” Thorson asked Montoya to sit in the passenger seat of the police cruiser, where Thorson administered a horizontal gaze nystagmus test. Thorson testified that it is his usual practice to conduct this test inside his police cruiser in order to eliminate outside distractions such as lights. Thorson described that he and Montoya faced each other during the test. Thorson testified that Montoya demonstrated six out of six of the possible clues the test looks for. According to Thorson, observation of four out of the six impairment clues indicates a high probability that the individual “is under the influence of alcohol at a .10 or above.” Observing more clues indicates that the individual has an even higher breath alcohol concentration. Thorson also conducted the walk-and-turn test on Montoya. Thorson testified that Montoya exhibited two out of two of the standardized clues for intoxication during the instructional phase of the test and five out of eight of the clues during the walking phase of the test. According to Thorson, demonstrating only two out of these eight clues is considered failing the test. After conducting the horizontal gaze nystagmus and the walk-and-turn tests, Thorson asked Montoya if he wished to participate in the one-legged stand test. Montoya declined. - 588 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 Montoya had initially reported to Thorson during the stop that he had consumed only one “tall boy.” Montoya later reported during the stop that, between 11:30 p.m. and 1:45 a.m., he had consumed three “tall boys,” each containing 24 to 32 ounces of beer. Thorson arrested Montoya and took him to a nearby facility where Montoya’s breath alcohol content could be tested by a DataMaster machine. The DataMaster tests a sample of a per- son’s breath with an infrared detector to determine a person’s breath alcohol content. The test was conducted approximately 1 hour after Montoya’s last reported drink. Thorson followed the appropriate checklist to ensure proper operation of the test. The test showed that Montoya had a concentration of .134 of a gram of alcohol per 210 liters of breath. Thorson testified that he is trained in driving under the influ- ence investigation and certified in performing a DataMaster test. He has 12 years of experience in which he has conducted approximately 3,000 driving under the influence investiga- tions. Thorson opined that Montoya was under the influence of alcohol when he operated his motor vehicle on March 12, 2017. DataMaster Officer Grant Powell testified at trial that he is the DataMaster maintenance supervisor for Lancaster County. He conducted the inspections and calibration check of the DataMaster that tested Montoya’s breath sample. The purpose of calibration verification is to ensure that the DataMaster machine is accurately reading the alcohol content of breath samples. Rules and regulations of the Department of Health and Human Services, which appear in title 177 of the Nebraska Administrative Code, require that calibration must occur within 40 days prior to the subject sample. Powell described that the process utilized by Lancaster County law enforcement and approved under title 177 involves two tests with wet bath water and alcohol mixtures, one containing a tar- get value of .080 and the other of .150. The solutions produce - 589 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 a vapor at the target values when heated to the approximate temperature of exhaled breath. The wet bath simulator solutions used by Lancaster County law enforcement are provided by a company in North Carolina, RepCo Marketing (RepCo). When shipped, the simulator solu- tions are accompanied by certificates of analysis which con- tain information required by the regulations, including the name of the person who prepared, tested, and supplied the solution. Powell conducted an inspection of the DataMaster subse- quently used to test Montoya’s breath alcohol content within the required 40-day period. The digital display, operational lights, operational condition, and printer all passed their required testing. Powell testified that the DataMaster machine used to test Montoya’s breath sample was calibrated within the required 40-day period and that it passed both the internal check and the wet bath solution check. Powell signed a certifi- cation so reflecting. Powell elaborated that the DataMaster in question was cali- brated using simulator solutions from lots 16801 and 16104, which were accompanied by certificates of analysis from RepCo certifying that the solutions were accurate for their target values. The certificates of analysis originally accompa- nying the simulator solutions stated that a RepCo employee, Alma Palmer, had prepared, tested, and supplied the simulator solutions contained in those lots. On April 19, 2018, Powell became aware that the person who had tested the solutions in lots 16801 and 16104 was not the person whose name appeared on the certificates of analysis. On May 7, RepCo sent amended certificates of analysis for those lots stating that a RepCo employee, Colby Hale, not Palmer, was the person who had prepared, tested, and supplied the simulator solutions. The amended certificates were created to put the person’s name on them who had actually tested those solutions. Nothing else in the amended certificates was different from the original certifi- cates of analysis. - 590 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 Powell testified that he had no concerns about the accu- racy of the target values for the simulator solutions in lots 16801 and 16104 or about whether the solutions were work- ing correctly when he conducted the relevant calibration of the DataMaster used to conduct the test on Montoya’s breath sample. Powell noted that the solutions were tested not just at RepCo, but also by a separate company. Further, the solutions were run through four different DataMaster machines, each with their own unique internal reference standards, and the solutions did not test outside of the 5-percent margin of error on any of the four machines. Powell noted that the “test card” for Montoya’s breath sample showed a normal breath flow rate, a successful blank test and internal standard check, two analyses of the breath sample without any noted errors, and then another successful blank test. Powell testified that in his professional opinion the DataMaster utilized to test Montoya’s breath alcohol content was in proper working order on the date of the test, March 12, 2017. Motion to Suppress Evidence Obtained as Result of Stop Before trial, on October 31, 2017, Montoya had moved to suppress all fruits of the stop of his vehicle that was allegedly without reasonable suspicion or probable cause, in violation of the 4th and 14th Amendments to the U.S. Constitution, article 1, section 7, of the Nebraska Constitution; and Nebraska statutes. Thorson’s testimony at the pretrial hearing on the motion largely mirrored that given at trial. He testified in more detail regarding his training in the operation of the radar and how the radar in his police cruiser works. He described the annual, more sophisticated calibration test of his radar. Thorson testified at the pretrial hearing that Montoya’s vehicle was 300 to 500 feet ahead of him when he first saw it. Thorson was traveling the speed limit and saw the vehicle getting further and further away from him. There were no - 591 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 other vehicles in the area. Thorson testified that it was his usual practice to visualize the speed of a vehicle before taking a Doppler reading and to put that in his report. Thorson noted that “[f]or whatever reason,” he did not include his visual estimation of Montoya’s speed in his report, and that there- fore, “I’m not going to sit up here and speculate as to what my visual estimation was at the time.” Thorson testified that a “good Doppler tone” is a consistent high-pitched noise, which indicates that there are no outside influences such as obstacles or bad weather interfering with the device’s readings. There was a good Doppler tone when he took the radar reading of Montoya’s vehicle. The court overruled the pretrial motion to suppress. At the beginning of trial, Montoya asked for a standing objection based on an alleged lack of reasonable suspicion for the stop, which the court granted. Also, during Thorson’s testimony at trial, Montoya renewed his objection to any admission of evidence derived from the stop. The trial court overruled the renewed objections. Motion to Suppress Evidence Obtained as Result of Arrest Montoya had also moved before trial to suppress all evidence resulting from his warrantless arrest, because law enforce- ment lacked probable cause and, therefore, the arrest violated Montoya’s rights under the 4th and 14th Amendments to the U.S. Constitution; article 1, § 7, of the Nebraska Constitution; and Nebraska statutes. At the pretrial hearing on the motion, Thorson did not dis- pute defense counsel’s assertion that the National Highway Traffic Safety Administration training manual specifies that the horizontal gaze nystagmus test shall be conducted while the subject is standing. Thorson testified, however, that dur- ing his training course he was told it would not negatively impact the validity of the test if the subject was seated rather than standing. - 592 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 Thorson further testified at the pretrial hearing that after Montoya failed the horizontal gaze nystagmus test and the walk-and-turn test, he had Montoya sit in his vehicle for a 15-minute observation period before administering a prelimi- nary breath test. Thorson checked Montoya’s mouth both at the beginning and at the conclusion of the observation period. At the conclusion of the observation period, Thorson asked Montoya if he had regurgitated any stomach fluid, belched, eaten anything, or put anything into his mouth while Thorson was not looking. Montoya responded that he had burped. Thorson asked Montoya if he had regurgitated “any type of stomach fluid whatsoever” when he burped, and Montoya answered that he had not. Thorson then administered the pre- liminary breach test, which showed a breath alcohol content of .176. Thorson explained that it is not part of the mandatory pro- tocol for the observation period to ask whether the subject has regurgitated stomach fluid or belched. Thorson explained that it was his understanding based on consultations with others in law enforcement that burping without regurgitating stomach fluid does not affect the test. Thorson agreed with defense counsel, however, that it could impact the test if the subject burped up something that was not solid like vomit or regurgita- tion, and which contained alcohol. Thorson testified that if the subject in any way indicates that something may have come up out of the subject’s stomach, then he restarts the observa- tion time. Defense counsel argued that the results of the horizontal gaze nystagmus test could not support probable cause because Montoya was not standing during the test. Further, recorded conversation in the video, wherein Thorson asked Montoya to “[t]ry to straighten your head out,” indicated there were issues with Montoya’s being positioned correctly for the test. Defense counsel also argued that the preliminary breath test could not create probable cause because Montoya had burped. Though Montoya had indicated upon Thorson’s questioning that he had - 593 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 not “regurgitated in his mouth,” Montoya had elaborated that he would have let it out and not swallowed it, had he done so. According to defense counsel, this exchange did not eliminate the possibility that something had come up into Montoya’s mouth that could have impacted the test. According to defense counsel, without the results of the preliminary breath test and the horizontal gaze nystagmus test, the remaining indicia of impairment observed by Thorson would be insufficient to establish probable cause. The court overruled the pretrial motion to suppress. At trial, Montoya did not renew the motion to suppress the fruits of the arrest for an alleged lack of probable cause. Motion to Suppress Datamaster Results for Lack of Foundation In a separate motion, Montoya had also moved before trial to suppress the results of the DataMaster breath test for the rea- son that the test was administered without proper compliance with Neb. Rev. Stat. §§ 27-104 and 29-822 (Reissue 2016) and 60-6,201 (Reissue 2010), as well as title 177. The pretrial motion specifically challenged the DataMaster results on the ground that the 40-day check of the DataMaster was conducted without valid certificates of analysis for either lot 16801 or lot 16104, because the certificates of analysis falsely listed Palmer as the person who tested the solutions. The evidence presented at the pretrial hearing was similar to that at trial. The court overruled the motion. At the beginning of trial, Montoya asked for a standing objection based on the failure of the certificates of analysis to comply with title 177, which was granted. Montoya renewed his objection at trial during the admission of the results of Montoya’s breath test, on the grounds that (1) the DataMaster test was out of compliance with title 177, (2) the amended certificates contained inadmissible hearsay and were not busi- ness records because they were not created near the time of the event, and (3) the failure to have Hale available for - 594 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 cross-examination violated the Confrontation Clause. The court again overruled the motion. Verdict and Sentence Montoya was found guilty. At the sentencing hearing, the court found that Montoya had two prior convictions of driving under the influence, making this his third offense. The State noted at sentencing that Montoya had been arrested twice since March 12, 2017, the date of the underlying offense; once for driving under the influence and the other time for driving during revocation and false reporting. Defense coun- sel brought to the court’s attention the fact that Montoya had recently received a diagnosis of “alcohol use disorder” and that he had an upcoming job interview. Defense counsel also pointed out that Montoya had not yet been convicted of the charged crimes relating to the arrests occurring after March 12. The trial court noted that it was giving “consideration” to the charges Montoya was currently facing, “which certainly you haven’t been convicted of.” The court sentenced Montoya to a jail term of 180 days, a fine of $1,000, and a 15-year license revocation with the ability to apply for an interlock device permit. Appeal to District Court Montoya appealed to the district court, assigning that the county court erred in overruling his three motions to suppress, in finding the evidence sufficient to support the jury’s verdict, and by imposing an excessive sentence. The district court affirmed the conviction and sentence. Montoya appealed to the Nebraska Court of Appeals, and we moved the case to our docket. ASSIGNMENTS OF ERROR Montoya assigns that the district court erred by (1) affirm- ing the county court’s order that denied his motion to suppress fruits of the stop, (2) affirming the county court’s order that - 595 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 denied his motion to suppress fruits of his arrest, (3) affirming the county court’s order that denied his motion to suppress the DataMaster results for lack of foundation, (4) finding sufficient evidence to support Montoya’s conviction, and (5) finding that Montoya’s sentence was not excessive. STANDARD OF REVIEW [1] In an appeal of a criminal case from the county court, the district court acts as an intermediate court of appeals, and its review is limited to an examination of the record for error or abuse of discretion. 1 [2] When deciding appeals from criminal convictions in county court, we apply the same standards of review that we apply to decide appeals from criminal convictions in dis- trict court. 2 [3] In reviewing a trial court’s ruling on a motion to sup- press based on a claimed violation of the Fourth Amendment, an appellate court applies a two-part standard of review. Regarding historical facts, an appellate court reviews the trial court’s findings for clear error, but whether those facts trig- ger or violate Fourth Amendment protection is a question of law that an appellate court reviews independently of the trial court’s determination. 3 [4] In proceedings where the Nebraska Evidence Rules apply, the admissibility of evidence is controlled by the Nebraska Evidence Rules; judicial discretion is involved only when the rules make discretion a factor in determining admissibility. 4 [5] We review for abuse of discretion a trial court’s evi- dentiary rulings on the sufficiency of a party’s foundation for admitting evidence. 5 1 State v. McCave, 282 Neb. 500, 805 N.W.2d 290 (2011). 2 Id. 3 State v. Hartzell, 304 Neb. 82, 933 N.W.2d 441 (2019). 4 State v. Swindle, 300 Neb. 734, 915 N.W.2d 795 (2018). 5 Id. - 596 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 [6] Apart from rulings under the residual hearsay excep- tion, we review for clear error the factual findings underpin- ning a trial court’s hearsay ruling and review de novo the court’s ultimate determination to admit evidence over a hearsay objection. 6 [7] An appellate court reviews de novo a trial court’s deter- mination of the protections afforded by the Confrontation Clause of the Sixth Amendment to the U.S. Constitution and article I, § 11, of the Nebraska Constitution and reviews the underlying factual determinations for clear error. 7 [8] In reviewing a criminal conviction for a sufficiency of the evidence claim, whether the evidence is direct, circum- stantial, or a combination thereof, the standard is the same: An appellate court does not resolve conflicts in the evidence, pass on the credibility of witnesses, or reweigh the evidence; such matters are for the finder of fact. 8 The relevant question for an appellate court is whether, after viewing the evidence in the light most favorable to the prosecution, any rational trier of fact could have found the essential elements of the crime beyond a reasonable doubt. 9 ANALYSIS Montoya asserts that the district court erred by affirming the county court’s orders denying his motions to suppress the fruits of the stop, to suppress the fruits of the arrest, and to suppress the DataMaster test results for lack of foundation. He also asserts that there was insufficient evidence to support his conviction and that his sentence was excessive. We disagree with Montoya’s arguments and affirm the judgment of the dis- trict court. 6 State v. Draganescu, 276 Neb. 448, 755 N.W.2d 57 (2008). 7 State v. Smith, 302 Neb. 154, 922 N.W.2d 444 (2019). 8 State v. McCurdy, 301 Neb. 343, 918 N.W.2d 292 (2018). 9 Id. - 597 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 Motions to Suppress Under Fourth Amendment [9] Montoya’s motions to suppress the fruits of the stop and to suppress the fruits of the arrest were brought under the Fourth Amendment. Both the Fourth Amendment to the U.S. Constitution and article I, § 7, of the Nebraska Constitution guarantee against unreasonable searches and seizures. 10 Evidence obtained as the fruit of an illegal search or seizure is inadmissible in a state prosecution and must be excluded. 11 There are three tiers of police encounters under Nebraska law. 12 The first tier of police-citizen encounters involves no restraint of the liberty of the citizen involved, but, rather, the voluntary cooperation of the citizen is elicited through non- coercive questioning. 13 This type of contact does not rise to the level of a seizure and therefore is outside the realm of Fourth Amendment protection. 14 Only the second and third tiers of police-citizen encounters are seizures sufficient to invoke the protections of the Fourth Amendment to the U.S. Constitution. 15 [10] The second category, the investigatory stop, as defined by the U.S. Supreme Court in Terry v. Ohio, 16 is limited to brief, nonintrusive detention during a frisk for weapons or pre- liminary questioning. 17 This type of encounter is considered a “seizure” sufficient to invoke Fourth Amendment safeguards, but because of its less intrusive character requires only that the stopping officer have specific and articulable facts sufficient to 10 State v. Hartzell, supra note 3. 11 Id. 12 State v. Schriner, 303 Neb. 476, 929 N.W.2d 514 (2019). 13 Id. 14 Id. 15 Id. 16 Terry v. Ohio, 392 U.S. 1, 88 S. Ct. 1868, 20 L. Ed. 2d 889 (1968). 17 State v. Schriner, supra note 12. - 598 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 give rise to reasonable suspicion that a person has committed or is committing a crime. 18 [11] The third type of police-citizen encounters, arrests, is characterized by highly intrusive or lengthy search or deten- tion. 19 The Fourth Amendment requires that an arrest be justified by probable cause to believe that a person has committed or is committing a crime. 20 The stop of Montoya’s vehicle after the radar detected he was speeding was a second-tier encounter. Montoya argues that the evidence was insufficient to support reasonable suspicion for the stop because Thorson did not memorialize in his police report his visual estimation of Montoya’s traveling speed and because his radar gun could, in theory, have malfunctioned. We find no merit to this argument. [12-14] Reasonable suspicion entails some minimal level of objective justification for detention, something more than an inchoate and unparticularized hunch, but less than the level of suspicion required for probable cause. 21 Whether a police officer has a reasonable suspicion based on sufficient articulable facts depends on the totality of the circumstances and must be deter- mined on a case-by-case basis. 22 When a motion to suppress is denied pretrial and again during trial on renewed objection, an appellate court considers all the evidence, both from trial and from the hearings on the motion to suppress. 23 [15] The witnessing of a driving violation, however minor, is sufficient to support a stop. 24 Although we have held that the accuracy of the radar equipment must be demonstrated in order to support a conviction for speeding—if the evidence was based 18 Id. 19 Id. 20 Id. 21 State v. Rogers, 297 Neb. 265, 899 N.W.2d 626 (2017). 22 Id. 23 State v. Piper, 289 Neb. 364, 855 N.W.2d 1 (2014). 24 See State v. Barbeau, 301 Neb. 293, 917 N.W.2d 913 (2018). - 599 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 on the radar readings 25—we have never held that a police report containing a preradar visual estimation of speed is necessary to demonstrate such accuracy. Rather, reasonable proof that the particular radar equipment employed on a specific occasion was accurate and functioning properly is all that is required. 26 [16,17] More to the point, reasonable proof of the accuracy of the radar equipment indicating to the law enforcement officer that the defendant was speeding need not be demonstrated in order to support reasonable suspicion for a stop of the vehicle for speeding. 27 The appropriate inquiry for an investigatory stop for speeding is whether a reasonable police officer had a mini- mal level of objective justification for the belief that speeding had occurred. Thorson testified that he had checked his police cruiser’s radar device at the beginning of his shift to ensure it was work- ing properly, he waited until the best moment to take the radar reading, there was a good Doppler tone, and the radar read that Montoya was driving 50 miles per hour in a 35-mile-per-hour zone. This provided ample circumstances demonstrating that the stop was based on more than an inchoate and unparticular- ized hunch. We conclude, like the county court and the district court on intermediate appeal, that the radar reading gave Thorson rea- sonable suspicion to stop Montoya’s vehicle for speeding. We find it unnecessary to reach the question of whether Thorson’s observation of the vehicle crossing the centerline also sup- ported reasonable suspicion for the stop. And Montoya does not challenge the continuation of the second-tier detention based on Thorson’s observations that led him to administer the field sobriety tests. The county court did not err in overruling Montoya’s motion to suppress the fruits of the stop, and the district court did not err in affirming that ruling. 25 See State v. Snyder, 184 Neb. 465, 168 N.W.2d 530 (1969). 26 State v. Kudlacek, 229 Neb. 297, 426 N.W.2d 289 (1988). 27 See Taylor v. Wimes, 10 Neb. Ct. App. 432, 632 N.W.2d 366 (2001). - 600 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 Montoya also asserts on appeal that the fruits of the third- tier encounter, the arrest, should have been suppressed because Thorson lacked probable cause. Montoya argues that Thorson lacked probable cause to arrest him for driving under the influence because Montoya was seated while Thorson per- formed the horizontal gaze nystagmus, there was no video of Thorson’s administering the horizontal gaze nystagmus test to confirm it was performed correctly, and Thorson did not know if Montoya had regurgitated anything containing alcohol dur- ing the observation period for the preliminary breath test. [18] Montoya did not preserve this error for appellate review. A failure to object to evidence at trial, even though the evi- dence was the subject of a previous motion to suppress, waives the objection, and a party will not be heard to complain of the alleged error on appeal. 28 Foundation for DataMaster Results and Confrontation Clause Montoya next argues that the county court should have granted his motion to suppress the DataMaster test results, because the certificates of analysis accompanying the calibra- tion solutions originally did not contain the name of the person who actually tested them. Montoya argues that the test results were thus supported by insufficient foundation because there is no authority under title 177 for amended certificates and the amended certificates did not “accompany” the solutions in strict compliance with title 177. 29 He also argues that the admission of the amended certificates violated the Confrontation Clause because he had no opportunity to confront Hale. [19] The four foundational elements which the State must establish as foundation for the admissibility of a breath test in a driving under the influence prosecution are as follows: (1) that the testing device was working properly at the time of the 28 State v. Goynes, 303 Neb. 129, 927 N.W.2d 346 (2019). 29 Brief for appellant at 30. - 601 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 testing, (2) that the person administering the test was qualified and held a valid permit, (3) that the test was properly conducted under the methods stated by the Department of Health and Human Services, and (4) that all other statutes were satisfied. 30 Reasonable proof is all that is required to meet the founda- tional requirements. 31 [20] Section 60-6,201(3) provides that “[t]o be considered valid,” breath tests “shall be performed according to methods approved by the Department of Health and Human Services.” The rules and regulations of the Department of Health and Human Services relating to the analysis for the determination of alcohol content in blood or breath are contained in title 177, chapter 1, of the Nebraska Administrative Code. We have held with regard to the admission of breath sample test results where the records of the maintenance of a machine are relied on to prove that the machine was properly maintained, the records admitted at trial must show by satisfactory evidence that the inspections complied with all requirements of title 177. 32 [21-25] The construction of the regulations is a matter of law in connection with which an appellate court has an obliga- tion to reach an independent determination regardless of the ruling of the court below. 33 For purposes of construction, a rule or regulation of an administrative agency is generally treated like a statute. 34 An appellate court will not resort to interpreta- tion to ascertain the meaning of statutory words that are plain, direct, and unambiguous. 35 A collection of statutes pertaining to a single subject matter are in pari materia and should be 30 State v. Jasa, 297 Neb. 822, 901 N.W.2d 315 (2017). 31 See State v. Kudlacek, supra note 26. 32 State v. Bullock, 223 Neb. 182, 388 N.W.2d 505 (1986). 33 See In re Application No. OP-0003, 303 Neb. 872, 932 N.W.2d 653 (2019). 34 State v. McIntyre, 290 Neb. 1021, 863 N.W.2d 471 (2015). 35 Shelter Mut. Ins. Co. v. Freudenburg, 304 Neb. 1015, 938 N.W.2d 92 (2020). - 602 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 conjunctively considered and construed to determine the intent of the Legislature, so that different provisions are consistent, harmonious, and sensible. 36 It is impermissible to follow a lit- eral reading that engenders absurd consequences where there is an alternative interpretation that reasonably effects a stat- ute’s purpose. 37 The DataMaster is an approved breath testing device 38 and, under the regulations, must be calibrated by the maintenance officer every 40 days and within 40 days prior to an analy- sis. 39 Section 008 encompasses the “List of Approved Methods, Breath Testing Instruments, Calibration Devices, and Internal Reference Standards.” Before placement into service at a test- ing site, the “internal quartz standard” of the DataMaster shall have the calibration checked with an alcohol wet bath simula- tor solution or dry gas standard. 40 The regulations outline how testing device calibration and calibration verification shall be performed. 41 The regulations further specify that the wet bath simulator solution “must be accompanied by a certificate of analysis” and that the certificate of analysis “must contain” cer- tain information, including the “[n]ame of the person who tested the solution.” 42 In State v. Krannawitter, 43 we held in the context of a motion for new trial that the discovery that the wrong name had been listed in the original calibration certificates did not mean the DataMaster test results would probably have been inadmis- sible. We explained that the discovery of the name error was 36 Id. 37 Id. 38 See 177 Neb. Admin. Code, ch. 1, § 008 (2016). 39 See 177 Neb. Admin. Code, ch. 1, §§ 009 and 010 (2016). 40 See 177 Neb. Admin. Code, ch. 1, § 008.03A (2016). 41 See 177 Neb. Admin. Code, ch. 1, § 008.04 (2016). 42 See 177 Neb. Admin. Code, ch. 1, § 008.04A (2016). 43 State v. Krannawitter, ante p. 66, 939 N.W.2d 335 (2020). - 603 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 accompanied by amended calibration certificates containing the correct name, which we held were independent foundational evidence supporting the admission of the DataMaster test results. We noted that whether there is sufficient foundation is a question for the trial court, and the trial court had found that the founda- tional elements were met by the amended certificates. The trial court likewise found here that the foundational ele- ments for the admission of Montoya’s breath test results had been met, and we find no error in its judgment. In considering whether the trial court properly overruled a renewed objection at trial to evidence on the ground of lack of foundation, we consider the evidence submitted at trial as well as the evidence submitted at the pretrial hearing on the objection. 44 Though the name listed for the person who tested the solutions was origi- nally incorrect, the certificates of analysis listed the correct name of the person who tested them by the time of the admission of the test results at trial. [26] In this context of a clerical error, we disagree with Montoya’s suggestion that to “accompan[y]” under § 008.04A is limited to the moment the solution is shipped to the rel- evant law enforcement agency. Although Montoya is cor- rect that there is no reference to “amended certificates” in title 177, it does not follow that they are impermissible. The solutions utilized in calibrating the DataMaster within 40 days prior to the test of Montoya’s breath sample have at all times been accompanied by certificates of analysis contain- ing all the categories of information required under title 177. There is nothing in title 177 suggesting that clerical errors in certificates of analysis cannot be corrected. The inflex- ibility Montoya proposes could have the absurd consequence that a DataMaster test could be deemed unreliable despite undisputed evidence at the time of trial that the records of maintenance of the machine complied with all regulatory requirements. We hold that amended certificates of analysis 44 See State v. Piper, supra note 23. - 604 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 to correct clerical errors provide satisfactory evidence that the inspections of an approved breath testing device complied with the requirements of title 177. [27] We also disagree with Montoya’s suggestion that the amended certificates were inadmissible to provide founda- tion for the DataMaster test results because they violated the Confrontation Clause. The Confrontation Clause provides, in rel- evant part: “In all criminal prosecutions, the accused shall enjoy the right . . . to be confronted with the witnesses against him . . . .” 45 Only testimonial statements “cause the declarant to be a ‘witness’ within the meaning of the Confrontation Clause.” 46 “It is the testimonial character of the statement that separates it from other hearsay that, while subject to traditional limita- tions upon hearsay evidence, is not subject to the Confrontation Clause.” 47 If the statements are nontestimonial, then no further Confrontation Clause analysis is required. 48 [28,29] In Melendez-Diaz v. Massachusetts, 49 the U.S. Supreme Court said that unless the regularly conducted activity of a business is the production of evidence for use at trial, busi- ness records are not testimonial. We have accordingly held that neither original simulator solution certifications 50 nor amended certifications 51 are testimonial for purposes of the Confrontation Clause. In either case, the simulator solution certifications are prepared in a routine manner without regard to any particular defendant. 52 In Krannawitter, we explained that there was no 45 U.S. Const. amend. VI. Accord Davis v. Washington, 547 U.S. 813, 126 S. Ct. 2266, 165 L. Ed. 2d 224 (2006). 46 Davis v. Washington, supra note 45, 547 U.S. at 821. 47 Id. 48 State v. Fischer, 272 Neb. 963, 726 N.W.2d 176 (2007). 49 Melendez-Diaz v. Massachusetts, 557 U.S. 305, 129 S. Ct. 2527, 174 L. Ed. 2d 314 (2009). 50 See State v. Fischer, supra note 48. 51 See State v. Krannawitter, supra note 43. 52 See State v. Fischer, supra note 48. - 605 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 indication either on the face of the amended certificates or in the testimony at trial that the amended certificates at issue in that case were prepared for a particular criminal proceeding. 53 That is also true here. The amended certificates provided satisfactory evidence that the inspections of the DataMaster complied with the require- ments of title 177, and their admission did not violate the Confrontation Clause. The trial court did not err in overruling Montoya’s motion to suppress the DataMaster test results for lack of foundation, and the district court did not err in affirm- ing the order of the county court. Sufficiency of Evidence Montoya’s challenge to the sufficiency of the evidence depends upon the success of his argument that the DataMaster test results were inadmissible. Having concluded that the DataMaster test results demonstrating .134 of a gram of alco- hol per 210 liters of Montoya’s breath were admissible, we find the evidence sufficient to support Montoya’s conviction for driving under the influence. Excessive Sentence Challenge Lastly, Montoya argues that his sentence to a jail term of 180 days was excessive. Montoya’s sentence was within the statutory limits. The statutory penalty range was a mandatory minimum of 90 days’ imprisonment and a $1,000 fine and a maximum of 1 year’s imprisonment and a $1,000 fine. 54 It is also required that a person convicted of driving under the influence who has had two prior convictions shall, as part of the judgment of conviction, have his or her operator’s license revoked for a period of 15 years. 55 [30-32] Absent an abuse of discretion by the trial court, an appellate court will not disturb a sentence imposed within the 53 State v. Krannawitter, supra note 43. 54 See Neb. Rev. Stat. § 28-106(1) (Reissue 2016). 55 Neb. Rev. Stat. § 60-6,197.03(4) (Cum. Supp. 2018). - 606 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 statutory limits. 56 Where a sentence imposed within the statu- tory limits is alleged on appeal to be excessive, the appellate court must determine whether a sentencing court abused its discretion in considering and applying the relevant factors as well as any applicable legal principles in determining the sen- tence to be imposed. 57 An abuse of discretion occurs when a trial court’s decision is based upon reasons that are untenable or unreasonable or if its action is clearly against justice or con- science, reason, and evidence. 58 [33,34] In determining a sentence to be imposed, relevant factors customarily considered and applied are the defendant’s (1) age, (2) mentality, (3) education and experience, (4) social and cultural background, (5) past criminal record or record of law-abiding conduct, and (6) motivation for the offense, as well as (7) the nature of the offense and (8) the amount of violence involved in the commission of the crime. 59 The appropriateness of a sentence is necessarily a subjective judgment and includes the sentencing judge’s observation of the defendant’s demeanor and attitude and all the facts and circumstances surrounding the defendant’s life. 60 [35-37] Montoya asserts that the county court improperly considered the fact that he committed acts after March 12, 2017, leading to charges of crimes related to driving under the influence, but on which he has not been tried. The sentencing phase is separate and apart from the trial phase, and the tradi- tional rules of evidence may be relaxed following conviction so that the sentencing authority can receive all information pertinent to the imposition of sentence. 61 A sentencing court has broad discretion as to the source and type of evidence and 56 State v. Iddings, 304 Neb. 759, 936 N.W.2d 747 (2020). 57 State v. Becker, 304 Neb. 693, 936 N.W.2d 505 (2019). 58 Id. 59 Id. 60 Id. 61 State v. Jenkins, 303 Neb. 676, 931 N.W.2d 851 (2019). - 607 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 information which may be used in determining the kind and extent of the punishment to be imposed, and evidence may be presented as to any matter that the court deems relevant to the sentence. 62 It is permissible for a sentencing court to consider the information that a defendant has been charged with but not yet tried for allegedly illegal acts committed after the offense for which the defendant is being sentenced. 63 And the court’s statements from the bench indicate it gave appropriate weight to the fact that Montoya had not actually been convicted of the charged crimes. Montoya also argues that his sentence was excessive in light of his efforts at obtaining employment and his recent diagno- sis with an “alcohol use disorder” as a result of his initiative to receive treatment. Montoya asserts, further, that the court did not adequately take into account that no one was injured during the commission of his crime, no children were in the vehicle, and he was cooperative with law enforcement after he was stopped. [38] Causing bodily injury while driving under the influence is a separate crime with a different sentencing range; 64 the sen- tencing range for the crime Montoya was charged with already takes into account that no one was physically harmed. Although Montoya did not have children in the vehicle, there were two adult passengers placed at risk. And whether or not there are passengers in a vehicle, driving under the influence presents a serious threat to public safety. 65 [39] Montoya’s cooperation and his efforts toward employ- ment and treatment were weighed by the sentencing court against the gravity of this third-time offense endangering public safety. It is not the function of an appellate court to conduct a 62 State v. Anglemyer, 269 Neb. 237, 691 N.W.2d 153 (2005). 63 See, State v. Becker, supra note 57; State v. Williams, 282 Neb. 182, 802 N.W.2d 421 (2011). 64 See Neb. Rev. Stat. § 60-6,198 (Cum. Supp. 2018). 65 See State v. Rice, 269 Neb. 717, 695 N.W.2d 418 (2005). - 608 - Nebraska Supreme Court Advance Sheets 305 Nebraska Reports STATE v. MONTOYA Cite as 305 Neb. 581 de novo review of the record to determine whether a sentence is appropriate. 66 Like the district court, we find no abuse of discretion in the sentence imposed. CONCLUSION For the foregoing reasons, we affirm the judgment of the district court, which found no error in the challenged rulings by the trial court. Affirmed. 66 State v. Gibson, 302 Neb. 833, 925 N.W.2d 678 (2019).	01-04-2023	05-29-2020
https://www.courtlistener.com/api/rest/v3/opinions/4475070/	OPINION. Van Fossan, Judge: The sole question is whether or not the salary of Francis C. Mullen received while he was in the employ of the American Red Cross in Puerto Rico in 1945,,1946, and 1947 was exempt income under the provisions of section 251 (a) (1) and (3) of the Internal Revenue Code.1 The percentage requirements in the two subsections (a) .(1) and (3) are conjunctive — it must be shown that 80 per cent of the gross income was derived from sources within a possession of the United States and also that 50 per cent of such income was derived from the active conduct of a trade or business within a possession of the United States. Arnold Bruckner, 42 B. T. A. 3. The income of petitioners, they being residents of the State of Texas during the taxable years, was community income within the community property laws of that state. Since the income of each is community income, the rights of each of the petitioners in that income are “perfectly equivalent to each other.” Hopkins v. Bacon, 282 U. S. 122. Thus the income of Francis C. Mullen is composed of one-half of his earnings and one-half of the income earned by his wife; the income of Margaret S. Mullen is composed of one-half of the income , earned by her and one-half of that earned by her husband. The following table compares the earnings of each and source to the total: [[Image here]] It is apparent from the above, first, that less than 80 per cent of the community income was, in any year, derived from sources within Puerto Rico and, second, that, since Francis C. Mullen’s income is composed of one-half of what he earned in Puerto Rico and one-half of what his wife earned in the United States, less than 80 per cent of his income was .derived from sources within a possession of the United States. The petitioners refer us to I. T. 3665,1944 C. B. 161, which contains the following language from E. R. Kaufman, 9 B. T. A. 1180: The earnings of the husband from personal services become immediately a part of the community. Any exemption from taxation in relation to those earnings immediately attaches to the total amount, and whatever right the wife may have to report one-half thereof can not affect its taxable status and convert into taxable income that which was exempt when it came into the community. In that case, however, the earnings of the husband, as an employee of a state, were exempt from Federal income tax under the Revenue Act of 1921 and that- exemption applied regardless of the later inclusion of the earnings in the community. There was no other test which the earnings had to meet in order to be exempt. The earnings of the 'husband in the present case were not exempt when they came into the community, because, in order to be exempt, the requirements of section 251 have to be complied with first. There is no choice as to when section 251 must apply, that is, before or after the amount earned by each spouse is brought into the community. The rights of each spouse in income being equivalent when it is earned, the question of whether or not any part of that income is exempt under section 251 must follow after a hypothetical distribution of the income between the spouses, for it is not until then that their respective rights in the earnings of each are known. In their application to the earnings of the spouses, the principles of community property law do not await the determination of the source of those earnings — they apply at once. In our opinion the petitioners have not satisfied the requirements of section 251 (a) (1) of the code, and we so hold. . Reviewed by the Court. Decisions will he entered for the respondent. SEC. 251. INCOME FROM SOURCES WITHIN POSSESSIONS OF UNITED STATES. (a) General Rule. — >In tlie case of citizens of the United States or domestic corporations, satisfying the following conditions, gross income means only gross income from sources within the United States— (1) If 80 per centum or more of the gross income of such citizen or domestic corporation (computed without the benefit of this section) for the three-year period immediately preceding the close of the taxable year (or for such part of such period immediately preceding the close of such taxable year as may be applicable) was derived from sources within a possession of the United States ; and (2) If, in the case of such corporation, 50 per centum or more of its gross income (computed without the benefit of this section) for such period or such part thereof was derived from the active conduct of a trade or business within a possession of the United States ; or (8) If, in case of such citizen, 50 per centum or more of his gross income (computed without the benefit of this-section) for such period or such part thereof was derived from the active conduct of a trade or business within a possession of the United States either on his own account or as an employee or agent of another.	01-04-2023	01-16-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621655/	GEORGE T. PAPPAS and VOULA G. PAPPAS, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent; DUTTONS, INC., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentPappas v. CommissionerDocket Nos. 13862-80, 13863-80.United States Tax CourtT.C. Memo 1981-639; 1981 Tax Ct. Memo LEXIS 107; 42 T.C.M. (CCH) 1598; T.C.M. (RIA) 81639; October 29, 1981. Jack H. Calechman, for the petitioners. David N. Brodsky, for the respondent. TANNENWALDMEMORANDUM FINDINGS OF FACT AND OPINION TANNENWALD, Chief Judge: Respondent determined the following deficiencies in petitioners' Federal income taxes and additions to tax: Docket No. 13862-80 (George T. Pappas and Voula G. Pappas108 ) UnderpaymentAddition to taxYearof tax(Sec. 6653(b)) 11974$ 16,686.05$ 8,343.03197511,187.745,593.8719764,084.902,042.451977368.00Docket No. 13863-80 (Duttons, Inc.) Taxable yearUnderpaymentAddition to taxendedof tax(Sec. 6653(b))7/31/75$ 13,514.71$ 6,757.367/31/761,149.77574.897/31/77937.04468.52After concessions by respondent, the issues remaining for decision are: (1) whether petitioners had unreported income for each of the years in question; 2(2) whether the Pappases are entitled to dependency exemptions for Mrs. Pappas' nieces; (3) whether the petitioners are liable for the additions to tax under section 6653(b). FINDINGS OF FACT Some of the facts have been stipulated and are found accordingly. Petitioners George T. Pappas (Mr. Pappas) 109 and Voula G. Pappas (Mrs. Pappas) timely filed joint Federal income tax returns for the years in issue with the Internal Revenue Service Center, Andover, Massachusetts. At the time they filed their petition in this case, Mr. and Mrs. Pappas resided in Dorchester, Massachusetts. Petitioner Duttons, Inc. (Duttons) is a Massachusetts corporation with its principal place of business in Quincy, Massachusetts, at the time it filed its petition herein. For the taxable years in issue, Duttons timely filed its Federal income tax returns with the Internal Revenue Service, Andover, Massachusetts. During the years 1974 through 1977, Duttons owned and operated a restaurant located in Quincy, Massachusetts. The Pappases owned 100 percent of the stock of Duttons and were employed full-time by Duttons to operate the restaurant. Mrs. Pappas came to this country from Greece in 1948. In 1951, the Pappases opened a restaurant, Duttons, in Boston, Massachusetts. In 1968, Duttons was forced to relocate; the restaurant moved to its present location in Quincy. The Pappases lived modestly; they had no children and worked at Duttons seven days a week. In 1951, Mr. and Mrs. Pappas began saving110 money from their wages at Duttons. The cash, originally stored in boxes throughout the Pappases' house, was later moved to a safe in the basement of their home. By January 1, 1974, the Pappases had accumulated $ 20,000. Of this $ 20,000, the Pappases deposited $ 14,000 in their various bank accounts in 1974 and deposited the remaining $ 6,000 in 1975. The Pappases had no accumulated cash on hand on January 1, 1976. During 1974 and 1975, Mr. and Mrs. Pappas made deposits to one joint checking account and two joint savings accounts. In 1976, the Pappases made deposits to one joint savings account and one joint checking account. In 1974 and 1975, deposits were also made to a joint savings account bearing the names of Mrs. Pappas and her brother, John Karrasas (Mr. Karrasas). Deposits to these six accounts totaled $ 56,426.76 in 1974, $ 43,024.87 in 1975 and $ 25,539.86 in 1976. In addition to the $ 20,000 accumulated cash, the Pappases' source of funds for each of the years in question was: 197419751976Net Salary$ 13,513.00$ 6,118.16$ 8,521.26Rents2,160.002,160.003,240.00Pensions4,020.004,020.004,020.00Dividends492.51Total$ 19,693.00$ 12,298.16$ 16,273.77111 Duttons maintained a general checking account and a payroll account during the years in issue. On its corporate Federal income tax returns for the taxable years ended July 31, 1975, July 31, 1976, and July 31, 1977, Duttons reported gross sales in the amounts of $ 324,995.09, $ 300,885.07, and $ 293,203.39, respectively. These amounts were deposited into Duttons' two checking accounts; the accounts reflect no deposits in addition to the reported amounts of gross sales. The Pappases wrote checks from their personal checking account payable to Duttons totaling $ 7,600 in 1974, $ 2,850 in 1975, and $ 13,300 in 1976. 3In 1960, Mrs. Pappas brought her sister and her sister's family over to this country from Greece. A year later her sister's husband died, leaving his wife and four daughters. During the years in issue, Mrs. Pappas assisted in the support of her nieces by buying them clothes. The children's mother also contributed towards their support. In 1974 and 1975, the Pappases claimed dependency112 exemptions for three of Mrs. Pappas' nieces and in 1976 for two of her nieces. OPINION Respondent has determined that the petitioners have unreported taxable income for the years in issue. With respect to the Pappases, respondent calculates that the excess of bank deposits over the Pappases' net salary, rental income, pension, and reported dividends constitutes unreported income in the amount of $ 36,733.76 in 1974, $ 30,726.11 in 1975 and $ 9,266.09 in 1976. The source of these excess deposits, respondent contends, is distributions from Duttons. In turn, respondent has determined that Duttons has unreported taxable income in the amount of these distributions: $ 49,278.32, $ 5,110.76, and $ 6,700.00 for the taxable years ended July 31, 1975, July 31, 1976, and July 31, 1977. 4 Respondent asserts additions to tax pursuant to section 6653(b) against both the Pappases and Duttons based upon the fraudulent omission of taxable income from their returns. Mr. and Mrs. Pappas do not argue that the use of the bank deposits method as the basis113 of respondent's asserted deficiencies is improper. Rather, the Pappases' position is that the excess deposits came from three nontaxable sources: prior accumulated cash; income of Mr. Karrasas; and loan repayments by Mrs. Pappas' brother-in-law (Mr. Psarros). 5At the trial, Mrs. Pappas testified that (1) from 1951 onward, she and her husband accumulated savings of approximately $ 50,000; (2) in 1973 or 1974, when the Pappases' basement was flooded, the money, kept in a safe in the basement, began to get moldy; (3) the Pappases then began to deposit the money in their bank accounts; and (4) the deposits were made in amounts of approximately114 $ 1,000 to $ 2,000 and it took between one to two years to deposit the entire sum. Although Mrs. Pappas testified that the cash hoard totaled $ 50,000, respondent's agent testified that earlier Mrs. Pappas had told him that her cash hoard was approximately $ 20,000. The Pappases contend that respondent is erroneously treating, as theirs, funds belonging to a third party -- Mr. Karrasas. In support of that claim, Mrs. Pappas testified that (1) she and Mr. Karrasas opened a joint savings account (the Karrasas' account) into which funds of Mr. Karrasas were deposited in order to keep those funds beyond the control of Mr. Karrasas' wife (whom he was divorcing); (2) she then wrote checks from her and her husband's checking accounts to pay Mr. Karrasas' rent, utilities, and other expenses; and (3) the sum of deposits to the Karrasas' account and checks written by her to cover Mr. Karrasas' expenses, totaling $ 7,709 for 1974, $ 9,309 for 1975, and $ 1,623 for 1976, 6 should be deducted from petitioners' excess deposits. 115 In addition to credits for their cash hoard and Mr. Karrasas' funds, the Pappases explain that $ 3,000 of the excess deposits represents the repayment of a loan by Mr. Psarros (Mrs. Pappas' brother-in-law). In August of 1975, Mrs. Pappas wrote three checks of $ 1,000 each to Mr. Psarros -- a loan to enable him to do some work on his home. Mrs. Pappas testified that in late 1975 or early 1976 Mr. Parros repaid the loan and that she returned the $ 3,000 to her checking account. As we said in -- It is, of course, true that the existence of bank deposits, although not explained or accounted for in a satisfactory manner, does not of itself show that the sums deposited were or were not income. But where the Commissioner has determined that they were, the taxpayer has the burden of proving that the determination was wrong. See Rule 142(a). 7The determination of whether and in what amount the petitioners had unreported income in the years in issue ultimately116 turns on our evaluation of the credibility of witnesses. We need not accept a witness' testimony as true even though it is uncontroverted; we are entitled to take into account whether it is improbable, unreasonable, or questionable. See, e.g., . Although the evidence indicates that the Pappases lived relatively frugally, we do not believe that they had accumulated savings in their basement safe of $ 50,000 on January 1, 1974. The Pappases presented no evidence to convince us that their earnings were sufficient or their expenses small enough to permit them to accumulate that significant an amount of cash. Additionally, at least as early as 1971, the Pappases had a savings account into which they made regular deposits and which had a balance of $ 8,426.41 on December 31, 1973. Although we are unable to determine precisely the amount of the Pappases' accumulated cash on January 1, 1974, based on the evidence presented, we believe that it was $ 20,000, of which $ 14,000 was deposited during 1974 and $ 6,000 during 1975. See. e.g., , affd. 117 per curiam ; , affd. sub nom. . 8We hold that the Pappases have not sustained their burden of proof with respect to the funds which they argue belong to Mr. Karrasas and those they contend are a loan repayment by Mr. Psarros. The Pappases presented no corroborating evidence from Mr. Karrasas or Mr. Psarros. Although Mrs. Pappas testified that she deposited Mr. Psarros' loan repayment of $ 3,000 in her checking account in late 1975 or early 1976, her account does not show a deposit of $ 3,000 during this time period. 9The existence of a joint bank account between Mrs. Pappas and Mr. Karrasas does not of itself prove whose funds118 are in that account. In 1975, the deposits to that account were over 200 percent of what Mrs. Pappas testified Mr. Karrasas' annual wages were. Nor is there sufficient evidence by which we could find that some lesser portion of the Karrasas' account than the amount originally claimed actually belonged to Mr. Karrasas. As indicated above, we hold that respondent erred in not crediting the Pappases for deposits from their accumulated cash savings of $ 20,000. With respect to the remaining excess deposits, however (with one exception to be dealt with below), the Pappases have not sustained their burden of convincing us that those desposits represent anything other than distributions from their controlled corporation, Duttons. Respondent has asserted a deficiency against Duttons on the basis that the source of the Pappases' unreported income is Duttons', which it likewise has failed to report. Again, the petitioner, Duttons, bears the burden of proof with respect to the asserted deficiency. Rule 142(a). Duttons presented no evidence refuting the asserted deficiency except that offered to prove that the Pappases had no unreported income. Therefore, our finding of a deficiency119 with respect to the Pappases inevitably brings us to the conclusion that Duttons has failed to satisfy its burden of proof. We hold that Duttons has unreported taxable income in the amount determined by the respondent reduced by the $ 20,000 of the Pappases' cash hoard. 10The Pappases contend that, should we uphold respondent's determination and find the source of their unexplained deposits to be diverted income of Duttons, we should allow them credit for those checks made payable to Duttons from the Pappases' personal accounts (the Duttons checks). Respondent denies credit for the Duttons checks on the theory that they are corporate distributions fully taxable to the Pappases and recontributions to Duttons' capital. It is well established that corporate funds received by shareholders may be taxed to those shareholders as a dividend even absent the formalities of a corporate dividend declaration120 and payment. E.G., , affd. per curiam ; , affd. per curiam . As a result of our holding as to the cash hoard, petitioners had unreported income of $ 16,733.76 in 1974, $ 24,726.11 in 1975, and $ 9,266.09 in 1976. Our findings of fact show that the Pappases paid by check to Duttons the amounts of $ 7,600 in 1974, $ 2,850 in 1975, and $ 13,300 in 1976. Even if we assume arguendo that, because of the relationship between the Pappases and Duttons, the former received the funds under a claim of right (cf. , 11 the actual payments to Duttons are properly reductions in the income attributable to the Pappases for the respective years of repayment. , modified in other respects . Certainly, the Pappases should not be treated less favorably than they would have been treated had they been held to be embezzlers. See ;121 . Duttons, however, has presented no evidence to show that the Pappases' checks to its stem from anything other than unreported corporate income. Thus, in determining Duttons' deficiency, no reduction is to be made for the Duttons checks. By way of summary: The Pappases' deficiency is credited for their cash hoard of $ 20,000 and the Duttons checks; 12 Duttons' deficiency is reduced only by the Pappases' cash hoard. Additionally, respondent seeks to disallow the dependency exemptions claimed by the Pappases for Mrs. Pappas' nieces. In order to be entitled to a dependency exemption, the Pappases, in addition to satisfying other requirements not at issue here, must have provided over half of each niece's support for each year involved. 122 Section 152(a). 13In order to carry their burden of proof, the Pappases must show both the total amount spent by all persons to support each niece and the amount spent by the Pappases to support each niece. . Mrs. Pappas' testimony is vague and sparse on these points. She testified that she bought some clothes for her nieces, who lived with their mother, that their mother was earning approximately $ 4,000 per year and also contributing toward their support, and that the children themselves were not employed. Petitioners produced only a compilation of their checks showing that they spent $ 207.88 in 1974, $ 800 in 1975, and $ 1,500 in 1976 for the support of their nieces. Based on the insufficiency of evidence presented, we hold that the Pappases123 have not satisfied their burden of proof and are not entitled to dependency exemptions for Mrs. Pappas' nieces. See . Respondent has determined that petitioners' unreported income is taxable as follows: Duttons' income is fully taxable to it with no offsetting deductions; the Pappases' income is a dividend taxable as ordinary income. The petitioners presented no evidence of any additional deductions that should offset Duttons' income or of the absence of sufficient earnings and profits which would preclude the distributions from being taxable to the Pappases as ordinary income. See sections 316, 301. Therefore, with adjustments as discussed above for the cash hoard and the Duttons checks, respondent's determinations of the underlying deficiencies stand. We must next determine whether or not any part of the underpayment of tax for each year in issue was due to fraud within the meaning of section 6653(b). Respondent must establish petitioners' fraud by clear and convincing evidence. Rule 142(b). Respondent appears to base his claim of fraud on two points: the petitioners' failure to produce corroborating124 witnesses to substantiate their claim that the excess deposits came from nontaxable sources, and the proposition that consistent understatements of income in substantial amounts over several years, standing alone, provide persuasive evidence of fraud. With respect to respondent's first point, we reiterate that respondent bears the burden of proof with respect to fraud and note that respondent has likewise failed to present witnesses, who appear to have been available, to refute Mrs. Pappas' testimony as to the nontaxable sources of petitioners' income. As regards respondent's second argument, we recognize that respondent has determined that Duttons and the Pappases have failed to report substantial amounts of income for each of the years in question, and to a large extent we have upheld his determinations. We have upheld those determinations, however, not because the record proves that petitioners had unreported taxable income, but because petitioners did not carry their burden of persuading us that the excess amounts determined by respondent were nontaxable. Therefore, although we agree with respondent that "consistent understatements of income in substantial amounts over a number125 of years by knowledgeable taxpayers, standing alone, are persuasive evidence of fraudulent intent to evade taxes," , that principle is not applicable to the present case. 14 Respondent cannot meet his burden of proof on the basis of petitioners' failure to discharge their burden of proof with respect to the deficiencies. ; . The unexplained bank deposits are not in themselves clear and convincing evidence of fraud. . Additionally, we note that, although the absence of one or all of the following indicia is not conclusive evidence of the lack of fraud, respondent has failed to prove any of the following badges of fraud: excessive dealings in cash; the placement of assets in others' names; the holding of an unusually large number of bank accounts in a variety of locations; and failure to cooperate with respondent during the course of his investigation. *126 See ; ; . 15Based on the evidence presented in this case, including the testimony of the witnesses whom we saw and heard, and on the considerations discussed above, we hold that respondent has not sustained his burden of proving that petitioners' underpayments of tax were due to fraud. Accordingly, the Pappases and Duttons are not liable for the section 6653(b) additions to tax. Decisions will be entered under Rule 155. Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended and in effect during the years in issue. All rule references are to the Tax Court Rules of Practice and Procedure.↩2. Respondent has conceded that there is no deficiency with respect to George T. Pappas and Voula G. Pappas for 1977.↩3. Of these checks, $ 8,350 were written in Duttons' taxable year ended July 31, 1975, $ 6,400 in the year ended July 31, 1976, and $ 8,400 in the year ended July 31, 1977.↩4. The differences in amounts are accounted for by the fact that Duttons was on a fiscal year and the Pappases were on a calendar year.↩5. On brief, petitioners contend that, in addition to these three sources, they should be allowed a credit against the excess deposits for depreciation and a $ 200 dividend exclusion. This argument misses the mark. Depreciation deductions do not provide a source of cash to petitioners. Respondent has not challenged the petitioners' depreciation deductions. Although the Pappases properly reported net dividends of $ 292.51 on their 1976 return, respondent in his bank deposits analysis has credited the Pappases with gross dividends of $ 492.51.↩6. We note that if Mr. Karrasas' funds were all deposited into the Karrasas' account, the Pappases would be entitled to a credit for the sum of those deposits. But to allow, as petitioners claim, an additional credit for expenses paid from those funds would be to allow a double credit.↩7. See also , affd. without published opinion .↩8. See also, , affd. per curiam ; , affd. .↩9. Cf. , affd. .↩10. See ; ; , affd. per order (9th Cir. April 20, 1973).↩11. In another context, it has been held that amounts diverted by shareholders of a corporation are not embezzled funds. , affd. per curiam .↩12. For the taxable year 1976, the credit is limited to the amount of the Pappases' unreported income for that year, i.e., $ 9,266.09.↩13. Section 152(c) provides that under certain circumstances a group of persons who have jointly provided over half a dependent's support may designate one of their members to claim the dependency exemption. The Pappases do not contend, nor have they presented any evidence that would permit us to find, that they are entitled to dependency exemptions under section 152(c).↩14. See .↩15. See also ; , affd. per curiam .↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621656/	JAMES C. ZINGARO, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentZingaro v. CommissionerDocket No. 12309-82.United States Tax CourtT.C. Memo 1983-716; 1983 Tax Ct. Memo LEXIS 68; 47 T.C.M. (CCH) 494; T.C.M. (RIA) 83716; December 1, 1983. 68 James C. Zingaro, pro se. Donna J. Pankowski, for the respondent. KORNERMEMORANDUM OPINION KORNER, Judge: Respondent determined a deficiency in petitioner's calendar year 1979 income tax in the amount of $6,894. The also issue which we must decide is the propriety of respondent's action in disallowing a $26,000 deduction claimed by petitioner on account of alleged gambling losses in that year. At the time of filing his petition herein, petitioner resided in New Castle, Pennsylvania. He filed a Federal income tax return for the calendar year 1979. Petitioner was unemployed at all times during the taxable year 1979. In his return for that year, the sole gross income reported was from gambling winnings on horseraces, in the amount of $160,006. On that same return, petitioner reported and claimed itemized deductions for his gambling losses on horseraces in the amount of $149,200. Upon audit, respondent allowed $123,200 of the claimed gambling losses, and disallowed the balance of $26,000, for failure of petitioner to substantiate such additional amount. The burden of proof to establish the claimed additional $26,000 of gambling losses was upon69 the petitioner. . At trial, petitioner claimed that he had betting slips or tickets to support the claimed amount of his losses, but no such items were put in evidence. A schedule was introduced in evidence, purporting to show losses, wins, and the net difference, on a daily and monthly basis. The daily losses and wins were aggregated into single figures, without regard to the number of races on which petitioner bet. Petitioner testified that he prepared these schedules on a weekly basis, but offered nothing to substantiate their accuracy. Indeed, in one case respondent demonstrated that the schedule was in error, in that for March 3, 1979, petitioner's schedule showed losses of $667 and no wins, whereas the form W-2G issued by the racetrack at which petitioner bet, showed him with gross winnings of $1,029.60, and net winnings of $823.60. Petitioner admitted that there could be errors in his schedules. Nothing else appearing, we must hold that petitioner has failed to bear his burden of proof to show error in respondent's determination. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621657/	EDWIN L. DANA, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. FRA M. DANA, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Dana v. CommissionerDocket Nos. 67669, 67670.United States Board of Tax Appeals36 B.T.A. 231; 1937 BTA LEXIS 747; June 25, 1937, Promulgated 747 1. The jurisdiction of the Board is not limited to the correctness of the theory upon which the deficiency was determined, but includes the correctness of the determination of the deficiency upon any proper theory. Gowran v. Commissioner, 87 Fed.(2d) 125, and cases cited therein. 2. Under a contract between a partnership, composed of petitioners, and a group, composed of secured partnership creditors, the purpose of which was to continue the loans of such creditors in the then business of the partnership, a corporation was organized to which the partnership transferred its property in exchange for 9,698 shares of stock out of 10,000 shares issued. Under the same contract and as a part of the one transaction, immediately prior to that transfer the group released their obligations and equitable title to the partnership property, securing such obligations, and received from the corporation bonds and short term notes in the sum of those obligations, and 2,000 shares of stock in the corporation from the partnership. Held:(1) The transaction must be viewed as an entirety. When so considered, the partnership exchanged property to a corporation for 7,698748 of its 10,000 issued shares of stock. And the group constructively exchanged money in the amount of its released obligations against the partnership for bonds, notes, and 2,000 shares of stock of the corporation. Halliburton v. Commissioner, 78 Fed.(2d) 265; Hazeltine Corporation v. Commissioner, 89 Fed.(2d) 513; Claude Neon Lights, Inc.,35 B.T.A. 424">35 B.T.A. 424, followed. (2) Since the fair market value of the stock and the securities received by the partnership and the group was not substantially proportionate to such value of their respective interests prior to the exchange, the transaction was one in which gain or loss was recognizable. Revenue Act of 1928, sec. 112(b)(5). United Carbon Co. v. Commissioner, 90 Fed.(2d) 43, followed. (3) The partnership then sustained a deductible loss measured by the difference between the cost of the property exchanged and the fair market value of 7,698 shares of stock received by them in exchange therefor. Revenue Act of 1928, sec. 111(a) and (c) and sec. 113(a). F. S. Jacobsen, Esq., and E. G. Toomey, Esq., for the petitioners. Elden McFarland,749 Esq., and C. R. Marshall, Esq., for the respondent. LEECH232 These consolidated proceedings involve the redetermination of deficiencies in income taxes and penalties for the calendar year 1929 in the amount of $1,707.03 tax and $426.76 penalty, in each case. The error assigned in both proceedings is that the respondent erred in disallowing as a deduction, for that year, from income of a partnership, consisting of the two petitioners, the amount of $202,554, the then value of 2,000 shares of the capital stock of the E. L. Dana Livestock Co. transferred by the petitioners to certain persons in 1929. From the stipulations and oral testimony, we make the following findings of fact. FINDINGS OF FACT. The petitioners, husband and wife, are residents of the State of Wyoming. The petitioners were engaged, as individuals, prior to 1927, in the cattle business. The location of that business was a ranch, located partly in Wyoming and partly in Montana. On account of the drought in 1919 and the deflation in and following 1920, they suffered losses. On September 13, 1924, petitioner E. L. Dana, owning those valuable ranch lands, improved and adapted750 for the running of cattle, upon which there were then approximately 900 cattle, unable to borrow money from any bank, borrowed $300,000 from a number of eastern people, hereinafter designated the "Ann Arbor Group", consisting of about 100 members, for the purpose of purchasing or acquiring cattle. This loan was secured by a trust on the property of petitioner E. L. Dana in favor of the Ann Arbor Group, which, in addition to creating the relationship of debtor and creditor for the loan between petitioners and the group, provided a life of five years for the trust and that petitioners should pay 6 percent interest for the money or give to the trust one-half the profits of the ranch in lieu of interest. On January 1, 1927, the petitioners entered into a general partnership, which partnership carried out the trust agreement with the Ann Arbor Group with its knowledge and consent. During 1929, but prior to the expiration of the trust agreement in that year, it was determined that the profits for the five-year period of the trust agreement would exceed $800,000, half of which would be due and payable to the Ann Arbor Group at the expiration of the trust agreement, which sum the partnership, 751 composed of petitioners, would be unable to pay without selling all the cattle owned by the partnership and applying the proceeds thereof in discharge of that indebtedness. Having failed again to secure other financing of this obligation, the partnership, consisting of petitioners, on 233 June 1, 1929, made the following proposal to the "Ann Arbor Group": The following plan is presented to the Ann Arbor Associates of Mr. E. L. Dana for a continuance of the cattle venture in which you are now engaged. * * At the close of 1928 there was due to the Ann Arbor Associates $543,599.46, this being the sum due after deducting $105,000.00 of the original investment returned to the Associates in the fall of 1928. * * * If all the cattle are cleaned up in the fall of 1929, there will be an additional profit for the Ann Arbor Associates of another $110,000.00 or thereabouts so that in the fall of 1929 the total due the Ann Arbor Associates will be in the neighborhood of $650,000.00. Of this latter sum $455,000.00 is profit from the venture and $195,000.00 is the remaining capital not returned so that by the fall of 1929 the venture will have produced an earning of 150%. These752 figures are approximate. I do not think they will vary much if any but I cannot assure them as being final. It is now proposed to continue this venture indefinitely, the proposal coming as a result of Mr. Dana's desire to remain in business with his Ann Arbor Associates and to deliver to these Associates further profits resulting from the business. It is proposed to organize a corporation which will use as a part of its corporate name Dana either as the Dana Cattle Company or some such title. This corporation will be of Wyoming and will be incorporated for 10,000 shares of common stock of no par value. To this corporation will be turned the Parkman Ranch consisting of Approximately 25,000 acres. All the feed now on hand or prodeced during 1929, all the equipment now on the property necessary for successful operations and all remaining cattle and horses. The cattle will consist largely of cows and the 1929 calf crop. There will be assigned to this corporation all the leases for the grazing lands of the Crow Reservation. The new corporation will take the property subject to the mortgage indebtedness now existing against the lands and which is approximately $180,000.00. 753 It is further proposed to pay to the Ann Arbor Associates in cash during the fall of 1929 $195,000.00. This will return to the Ann Arbor Associates all of their original investment and will leave due them $455,000.00. This represents the profit of this venture. The $455,000.00 will be covered by a bond issue of $400,000.00 and $55,000.00 of short time notes. The short time notes at 7% due on or before one year, the $400,000.00 bond issue to be at 7% and to run for ten years but to be retired at the rate of one tenth each year beginning from the second year, these bonds and short time notes to be delivered to the Ann Arbor Associates as their profit from the original investment and in addition with each $100.00 bond Mr. Dana will deliver one-half share of the common stock of the new corporation. The result of this offer is that the Ann Arbor Associates receive back in money all of their original investment. They receive 7% bonds and short time notes for their profit and as a further profit they receive one-half share of the common stock of the new corporation. * * * * * * The proposed corporation will be managed by a board of directors consisting of five, two to be chosen754 by the Ann Arbor Associates, three to be selected 234 from the West, Mr. Dana being the president and one director. This board of directors will manage the affairs of the corporation through a manager who will reside upon the properties it being Mr. Dana's wish to give up his active management in order that he and Mrs. Dana may ease up from heavy work and reside in Helena, Montana. Mr. Dana has in mind one or two very excellent men to be employed as managers. As president of the corporation Mr. Dana will receive a salary to be determined later by the directors. Mr. Dana will visit the property as often as required with the purpose of laying out the work with the manager and giving the plant a general supervision. * * * This proposal was accepted and its terms carried out in substance. After the creation of the corporation, in 1929, the partnership, in compliance with the foregoing proposal, in writing formally purported to offer to convey the assets of the partnership, including the ranch, all livestock and equipment, to the corporation, the material portion of which follows: In return for property aforesaid, and as a consideration for the conveyances, assignments, 755 sales and deliveries thereof, the E. L. Dana Livestock Co. shall deliver to me or my nominees, as the case may be, (1) Nine thousand, six hundred ninety-eight (9698) shares of the nonassessable capital stock of the E. L. Dana Livestock Co., free and clear of any liens or incumbrances. (2) Expressly assume, agree and covenant to pay the obligations of the undersigned due to the Ann Arbor group of (a) Three Hundred Forty-nine Thousand, one Hundred Ninety-nine Dollars and Forty-six cents ($349,199.46), accrued profits to December 31, 1928, and (b) One-half of the profits due to said group for the year 1929, if any, and when determined, by the issuance of Four Hundred Thousand Dollars ($400,000.00) ten-year, seven per cent (7%) bonds of E. L. Dana Livestock Co., secured by due and regular corporate mortgage and deed of trust upon the real property of the corporation in Sheridan County, Wyoming, and Big Horn County, Montana, and by the issuance of short term seven per cent (7%) notes of the corporation for the balance of 1929 profits, if any are realized. The fulfillment of said agreement with the Ann Arbor group we expressly stipulate that said trustees shall extinguish and756 discharge the trust of November 17, 1924, only concurrent with the due execution, acklowledgment, delivery and establishment of the corporate trust deed mentioned. The corporation purported to accept this offer. The conveyance by the partnership was made. A certificate for 9,698 shares of stock was issued to E. L. Dana and Fra M. Dana, petitioners. A certificate for one qualifying share was issued to Louis P. Hall and Edwin C. Goddard, each. Petitioner E. L. Dana then bought 235 these shares. Both the latter certificates were then canceled, and a certificate or certificates for 2,000 shares were issued to the "Ann Arbor Group", or its members, and two certificates for 3,850 shares each, were issued to petitioners. The other terms of the purported offer were executed. It is stipulated that: The total value of the property thus sold and delivered was $1,642,839.67, and the liens and encumbrances against said property assumed by said corporation were in the sum of $661,191.31, and the net value of the property sold and conveyed to the said corporation, and the cost or basis thereof to said co-partners, was $981,648.36, and which properties of said net value petitioner757 and his co-partner sold and delivered for 9,698 shares of the capital stock of said corporation and which capital stock cost the petitioner and his co-partner $101.22 per share in property and was by said co-partnership parted with as herein set forth. The entire authorized capital stock of 10,000 shares of the E. L. Dana Livestock Co. was issued. Of the original $300,000 petitioner E. L. Dana borrowed from the Ann Arbor Group, $105,000 was repaid in cash in 1928, and $195,000 was repaid in cash in 1929. In 1929, prior to the conveyance of the partnership property to the corporation, the partnership obligations to the Ann Arbor Group and their equitable title to the partnership property, securing those obligations, were released by the group. The fair market value of the 7,698 shares of stock received by petitioners was then $101.22 per share, or $779,191.56. The fair market value of the 2,000 shares received by the Ann Arbor Group was $202,400 and the bonds and short term notes they received were worth face value. The purpose of the proposal of the partnership to the Ann Arbor Group in 1929 and the reason for transferring the 2,000 shares of common stock to them was758 to induce that group to permit its capital to remain in the business so that petitioners might be able to continue in that business, avoid the loss of the property which they had accumulated, and both petitioners and the Ann Arbor Group enjoy profits on their stock in the corporation. The partnership, consisting of petitioners, filed a partnership return for the year 1929, in which they deducted as a loss, the amount of $202,454, representing the value of the 2,000 shares of stock transferred to the Ann Arbor Group, and, as a result, reported a total loss of $143,743.30 on that return. On auditing this return, the respondent disallowed the asserted loss, determined the distributable income of the partnership was in the amount of $58,710.70, and that one-half of that sum was distributable and therefore taxable 236 to each petitioner as partners. Respondent then prepared an income tax return for 1929 for each petitioner, showing that taxable income, and after determining the present deficiency, imposed a 25 percent penalty upon each for failure to file any return for that year. OPINION. LEECH: The Revenue Act of 1928 is controlling. The question presented is whether759 the partnership, which consisted of petitioners, was entitled to any deduction from gross income in the computation of its income for 1929 then distributable and taxable to petitioners (sec. 182(a)), 1 by reason of the transfer of 2,000 shares of E. L. Dana Livestock Co. common stock to the Ann Arbor Group. Both petitioners and respondent take the position that this transfer was an isolated transaction and is to be so treated here. The petitioners then argue it constituted a deductible expense, or loss. They cite ; ; 760 ; Stephen M. Clement, 30; B.T.A. 757; ; . Respondent answers that the transfer was neither, but was a capital expenditure and therefore not deductible. Our jurisdiction is not limited to the soundness of respondent's reasons for his action, but necessarily includes the correctness of that action upon any proper theory. , and cases cited therein. We do not think this stock transfer was isolated and thus susceptible of such separate and simple treatment. This stock was transferred to the Ann Arbor Group by petitioners - not by virtue of an independent contract, but in carrying out the specific terms of the very agreement which gave rise to the E. L. Dana Livestock Co. The various steps taken in fulfilling that contract must be viewed as a whole. , and cases cited therein. And, when so considered, the entire transaction constituted an exchange of certain761 property of petitioners and the Ann Arbor Group, for stock, bonds and short term notes of that newly organized corporation. 237 It is true the parties have stipulated that: The total value of the property thus sold and delivered was $1,642,839.67 and the liens and encumbrances against said property assumed by said corporation were in the sum of $661,191.31, and the net value of the property sold and conveyed to the said corporation, and the cost or basis thereof to said co-partners, was $981,648.36, and which properties of said net value petitioner and his co-partner sold and delivered for 9698 shares of the capital stock of said corporation and which capital stock cost the petitioner and his co-partner $101.22 per share in property and was by said co-partnership parted with as herein set forth. Likewise, they have stipulated that the partnership offered to sell all the property used in the business of the partnership to the E. L. Dana Livestock Co., for 9,698 shares of the capital stock of that company, and other considerations, as set out in the purported offer in the findings of fact, and that this offer was accepted. But this Board is not bound to accept a stipulation762 of fact as such where the record demonstrates its error. , affirming . Thus, it is also stipulated that the single contract providing for the creation of the corporation, the acceptance of corporate bonds and short term notes by the Ann Arbor Group for the amounts due them from petitioners under the earlier trust agreement, and petitioners' transfer of their property to the corporation for stock, also provided that the partnership should transfer the disputed stock to the Ann Arbor Group. That stock was undoubtedly given to that group as an additional inducement and consideration to them for what was in effect a purchase of obligations of the new company. In addition, it effectuated one of petitioners' purposes stated in their proposal to the Ann Arbor Group, which, with its acceptance, constituted the contract between that group and petitioners in the execution of the terms of which the corporation was formed. That purpose was that the Ann Arbor Group should continue to share in the "profits" of petitioners' cattle business. 763 The substance of all these essentially connected steps in the execution of the petitioners' contract with the Ann Arbor Group was that petitioners exchanged their equity in the ranch property, together with certain personal property, for 7,698 shares of stock in the newly organized E. L. Dana Livestock Co. Simultaneously, having released their claims against and equity in the partnership property upon their constructive payment, the Ann Arbor Group, in effect, exchanged their money, in the amount of those obligation, for bonds, short term notes and 2,000 shares of stock in that company. See ; . Whether this concurrent exchange by petitioners and the Ann Arbor Group with the company was one in 238 which gain or loss to petitioners was recognizable, is controlled by section 112(a) and the last provision of (b)(5).2764 The Ann Arbor Group received all the bonds and notes of the corporation. They constructively exchanged $455,000 cash for those bonds, notes, and stock having a total fair market value of $657,440. It is immaterial that the Ann Arbor Group received their stock in the corporation, not directly therefrom, but through petitioner E. L. Dana, who was so obligated by the contract. The petitioners' partnership exchanged property with a fair market value of $981,648.36, for stock then worth $779,191.56. Thus, "the amount of the stock and securities received by each is [not] substantially in proportion to his interest in the property prior to the exchange." . It follows that the partnership sustained a deductible loss in the amount of the difference between the cost of the property exchanged and that of the stock received therefor. Revenue Act of 1928, secs. 111(a) and (c) 3 and 113(a).4 Since this sum exceeds the contested deficiencies, none such exist. The disputed ad valorem penalties fall with the deficiencies. 765 . Reviewed by the Board. Decision will be entered for the petitioners.Footnotes1. SEC. 182. TAX OF PARTNERS. (a) General rule.↩ - There shall be included in computing the net income of each partner his distributive share, whether distributed or not, of the net income of the partnership for the taxable year. If the taxable year of a partner is different from that of the partnership, the amount so included shall be based upon the income of the partnership for any taxable year of the partnership ending within his taxable year. 2. SEC. 112. RECOGNITION OF GAIN OR LOSS. (a) General rule. - Upon the sale or exchange of property the entire amount of the gain or loss, determined under section 111, shall be recognized, except as hereinafter provided in this section. (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; but in the case of an exchange by two or more persons this paragraph shall apply only if the amount of the stock and securities received by each is substantially in proportion to his interest in the property prior to the exchange. ↩3. SEC. 111. DETERMINATION OF AMOUNT OF GAIN OR LOSS. (a) Computation of gain or loss. - Except as hereinafter provided in this section, the gain from the sale or other disposition of property shall be the excess of the amount realized therefrom over the basis provided in section 113, and the loss shall be the excess of such basis over the amount realized. (c) Amount realized.↩ - The amount realized from the sale or other disposition of property (other than money) received. (other than money) received. 4. SEC. 113. BASIS FOR DETERMINING GAIN OR LOSS. (a) Property acquired after February 28, 1913.↩ - The basis for determining gain or loss from the sale or other disposition of property acquired after February 28, 1913, shall be the cost of such property * * *.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621659/	ROBERT J. DENISON, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent GEORGE F. BAKER, III, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentDenison v. CommissionerDocket Nos. 5485-74 5565-74.United States Tax CourtT.C. Memo 1977-430; 1977 Tax Ct. Memo LEXIS 13; 36 T.C.M. (CCH) 1759; T.C.M. (RIA) 770430; December 22, 1977, Filed Emil Sebetic,Sidney O. Friedman, and Michael A. Varet, for petitioners. Michael A. Menillo, for the respondent. TANNENWALDMEMORANDUM FINDINGS OF FACT AND OPINION TANNENWALD, Judge: Respondent determined the following deficiencies in petitioners' Federal income taxes: Docket No.197019715485-74$ 87,778.00$293.005565-74137,708.000 Petitioner in docket No. 5485-74 having conceded the deficiency for 1971, the issues remaining for our decision are: 1) Whether payments received by petitioners in exchange for their relinquishment of their rights to acquire interests in a corporation are taxable as capital gain or ordinary income; and 2) Whether Baden Securities International Corporation, a small business corporation of which petitioners were shareholders, is entitled to a deduction for automobile expenses and a loss incurred on the sale of an automobile. FINDINGS OF FACT Some of the facts have been15 stipulated and are found accordingly. The stipulation of facts and attached exhibits are incorporated herein by this reference. Petitioner Robert J. Denison (Denison) is an individual who resided in New York, New York, at the time of filing his petition herein. Petitioner George F. Baker, III, (Baker) is an individual who resided in New York, New York, at the time of filing his petition herein. Both petitioners filed their income tax returns for the year in question with the Office of the Internal Revenue Service at New York, New York. Petitioners were associated in business with Richard B. Nye (Nye). 1 Petitioners and Nye were experienced in security analysis and portfolio management. In 1969, the three men were the sole general partners of First Security Company, a limited partnership with assets of approximately $12,000,000, which was engaged in making equity investments in securities. They were also the sole shareholders of Baden Securities Corporation and Baden Securities International Corporation, which acted as investment advisors to offshore funds, one of which had assets of about $40,000,000. In addition, petitioners and Nye, together with a London bank, were16 sole shareholders of Woodwall, Incorporated, an investment advisor to an offshore equity fund. City Investing Company ("Investing") is a publicly owned corporation listed on the New York Stock Exchange which is experienced in real estate.In March, 1969, Nye proposed to Investing that it sponsor separate funds which would invest in real estate and securities and that a new corporation be organized, to be owned jointly by Investing and by petitioners and Nye, which would directly or through subsidiaries, manage and render investment advice to these funds. Petitioners and Nye thought the relationship would be beneficial to them because Investing had experience in real estate which they lacked. The proposal was attractive to Investing because petitioners and Nye were well respected and Investing believed their participation would help attract capital. They recorded their agreement in a Memorandum of Understanding ("Memorandum"), dated April 17, 1969, as follows: 1. A new corporation called City Security17 Corporation ("CSC") will be formed in an appropriate jurisdiction in the United States. The outstanding capital stock of CSC will be owned 62 1/2% by City Investing Company, or a whollyowned subsidiary of City Investing Company, and 37 1/2% 2 by Baden Securities Corporation, or Messrs. Baker, Denison and Nye. 2. Messrs. Baker, Denison and Nye will be entitled, at their election, to one or [sic] three seats on the Board of Directors of CSC and will each become Vice Presidents of CSC. Additional members of the board and officers of CSC may be nominated by City Investing Company. 3. Three funds will be formed: a. an offshore fund to be sold in Europe whose investments will be primarily in United States real estate, b. a domestic real estate trust, to be sold in the United States whose investments will be primarily in United States real estate, and c. a private fund of up to $50,000,000 to be contributed by City Investing Company. 4. All advisory and management functions relating to the above funds will be handled by CSC or wholly-owned subsidiaries of CSC. Such functions will include: a. real estate18 management; b. real estate brokerage; c. investment advice. 5. It is City Investing Company's intention to build an "in-house" investment management capability and, to that end, City may hire one or more financial analysts or fund managers to become employees of CSC or subsidiaries.Nevertheless, it is understood that Messrs. Baker, Denison, and Nye will be available for investment advisory functions, in their capacity as officers of CSC, for not less than two years from the date the first fund is functioning. 6.It is intended that, at an appropriate time, shares of CSC will be offered to the public and that such offerings may include shares owned by the stockholders of CSC. It was contemplated that the new corporation, City Security Corporation, ("Security"), would have full-time employees to take care of day-to-day operations. Petitioners expected to be available for general advice as to security investments and Investing was expected to be available for general advice as to real estate investments. Neither petitioners nor Investing were to be compensated for these services. Although it was not expected that they would be required to invest much capital, it was19 understood that petitioners, Nye, and Investing would all contribute their pro rata share to the extent necessary. Security was incorporated on May 19, 1969, and Denison was designated a director. It was agreed that, at least for the time being, petitioners and Nye would not be officers as the Memorandum provided. Stock certificates of Security were not issued until 1973. C. I. Mortgage Group, the only fund that was actually formed, was a domestic real estate trust organized in Massachusetts under a Declaration of Trust on May 15, 1969. Petitioners and Nye participated with Investing in finding personnel to operate Mortgage Group and in meeting with counsel and underwriters with respect to a contemplated public offering of securities of Mortgage Group. Because of unfavorable conditions in the securities market in the summer of 1969, the public offering was postponed. In order to achieve a favorable operating record in the meantime, it was agreed that Mortgage Group, through Lehman Brothers ("Lehman"), should attempt a private placement of its securities to raise $20,000,000. Investing and one of its subsidiaries each invested $5,000,000 in common stock. Petitioners and20 Nye caused a fund which they managed to invest $2,000,000 in debentures and warrants. In the fall of 1969, market conditions improved and Investing decided to proceed with a public offering of Mortgage Group's securities. In connection with this offering, Investing informed petitioners and Nye that the manager of Mortgage Group would be owned solely by Investing. As a result, petitioners and Nye asserted a claim for breach of contract against Investing. On the basis of estimated earnings of Security and the price-earnings ratio of comparable management companies, they estimated their damages at a couple million dollars. Subsequently, Investing, petitioners, and Nye reached a settlement whereby petitioner and Nye assigned all their interests under the Memorandum to Investing for the sum of $250,000 each. Baden Securities International Corporation ("Baden") was organized by petitioners and Nye in January, 1969, to act as investment advisor to a Netherlands Antilles Fund. They were the sole shareholders of Baden and, except for a brief period in 1970, were also the sole employees. The corporation's office was at 245 Park Avenue, New York, New York, in 1970. For the year at21 issue, Baden filed a United States Small Business Corporate Income Tax Return. Petitioners' and Nye's activities consisted of meeting with and transporting current and prospective clients (many of whom were wealthy Europeans) and meeting with salesmen, security analysts and other portfolio managers. To provide transportation to these meetings and for clients, Baden purchased a 1969 Cadillac in February, 1970, and hired chauffeurs to drive it. Baden sold the car at a loss on November 16, 1970. OPINION The first issue for our decision is whether the payments received by petitioners from Investing are taxable as capital gains, as petitioners contend, or as ordinary income, as respondent contends. Resolution of this issue depends, first, upon whether the petitioners' rights under the Memorandum constituted capital assets under section 1221 3 and, second, upon whether the transfer of these rights to Investing constituted sales or exchanges under section 1222. On the first question, respondent argues that petitioners were to receive stock in22 exchange for services, that the receipt of stock would have been taxable to them as compensation, and that the settlement received in lieu thereof is, therefore, taxable as ordinary income. Petitioners, on the other hand, contend that the stock would have been a capital asset and that an executory contract to acquire a capital asset is itself a capital asset. It is well settled that an amount received as a substitute for ordinary income is taxable as ordinary income even though a property right has technically been transferred. See Hort v. Commissioner,313 U.S. 28">313 U.S. 28 (1941); Commissioner v. P. G. Lake, Inc.,356 U.S. 260">356 U.S. 260 (1958). Similarly, there is no question that an executory contract to acquire a capital asset is itself a capital asset. Turzillo v. Commissioner,346 F.2d 884">346 F.2d 884 (6th Cir. 1965), revg. T.C. Memo. 1963-317; Dorman v. United States,296 F.2d 27">296 F.2d 27 (9th Cir. 1961). The question is, thus, factual, namely, whether petitioners were to receive stock of Security as compensation for services or as the fruits of an anticipated capital investment. See Buena Vista Farms, Inc. v. Commissioner,68 T.C. 405">68 T.C. 405, 411-412 and n.8 (1977).23 That the sums were received by petitioners by way of a settlement of their rights does not change the essential nature of that question. See Gidwitz Family Trust v. Commissioner,61 T.C. 664">61 T.C. 664, 672 (1974). In our view, the record herein clearly demonstrates that petitioners' interests under the Memorandum were to acquire investments in the stock of Security, i.e., in the nature of a joint venture with Investing. As prospective shareholders, they were expected to make proportionate contributions to the capital of Security, albeit that the operations of Security were to be highly leveraged. Cf. Carriage Square, Inc. v. Commissioner,69 T.C. 119">69 T.C. 119 (1977), and particularly the concurring opinions therein. To be sure, the Memorandum provided that petitioners were to be available "for investment advisory functions, in their capacity as officers." But, the day-to-day operations of Security were to be handled by an in-house staff and petitioners were fully occupied in running their other businesses. Moreover, in point of fact, they never did become officers. Under all the circumstances, we are satisfied that whatever services petitioners were expected24 to perform were those normally expected of investors and were incidental to their status as equity owners. 4In short, we are satisfied that the instant case falls within the principles upon which the decisions in Turzillo v. Commissioner,supra, 5 and Dorman v. United States,supra, rest. 6 In James v. Commissioner,53 T.C. 63">53 T.C. 63 (1969), relied upon by respondent, this Court found that, in the circumstances of that case, the stock received by the taxpayer was in exchange for services. It is, therefore, distinguishable. 25 Respondent next contends that, even if petitioners' interests constituted capital assets, they still are not entitled to capital gains treatment on the ground that the transfer of their rights under the Memorandum did not constitute a "sale or exchange" as required by section 1222. Petitioners' rights were not extinguished leaving nothing to be transferred to Investing, as respondent contends. To the contrary, petitioners' right to acquire a 28.6 percent interest in Security passed to Investing just as surely as if actual stock had been transferred. Turzillo v. Commissioner,supra.See United States Freight Company v. United States,422 F.2d 887">422 F.2d 887, 892-893 (Ct. Cl. 1970). Accord Commissioner v. Ferrer,304 F.2d 125">304 F.2d 125 (2d Cir. 1962), modifying 35 T.C. 617">35 T.C. 617 (1961). The fact that Investing simply enlarged its participation in Security does not require a different result. Commissioner v. Ferrer,supra at 130-131. The transaction was a transfer of petitioners' contractual rights to Investing and the fact that Investing's economic position was the same as it would have been if the rights had been released26 directly to Security is beside the point. See Kuper v. Commissioner,533 F.2d 152">533 F.2d 152, 156-157 (5th Cir. 1976), revg. on other grounds 61 T.C. 624">61 T.C. 624 (1974), and cases discussed thereat. 7 See also, Bittker & Eustice Federal Income Taxation of Corporations and Shareholders (3d Ed. 1971), sec. 9.25. Finally, respondent argues for the first time on brief, that the payments to petitioners amounted to extortion and are, therefore, taxable as ordinary income under Rutkin v. United States,343 U.S. 130">343 U.S. 130 (1952). Respondent purports to find evidence of extortion in petitioners' testimony that their leverage in the settlement negotiations lay in their ability to inform the SEC that the October 30, 1969, prospectus was erroneous in that it failed to reflect their interests under the Memorandum. We think respondent's interpretation is unreasonable. The record, read as a whole, shows that Investing had decided it wanted full ownership of the venture and that it was willing to buy out petitioners' interests in order to enable it to proceed. There is simply no evidence27 of extortion. Cf. Gidwitz Family Trust v. Commissioner,supra.The second issue for decision is whether Baden, a small business corporation, is entitled to deduct automobile expenses as an ordinary and necessary business expense under section 162(a) and to deduct a loss incurred on the sale of the same automobile under section 165(a).Respondent does not question the amounts of the claimed deductions nor does he seem to question that some type of transportation was an appropriate component of Baden's business. Rather, the main thrust of his argument is that the use of a chauffeured Cadillac by Baden was extravagant and that, as a consequence, petitioners have failed to sustain their burden of proof. We reject respondent's position to the extent that it seeks to engraft a per se exception of "extravagance" to the usual rule of what is otherwise considered a legitimate expenditure in connection with a business. This Court has on several occasions held that the expenses of a chauffeur driven automobile were deductible. Estate of Bartholomew v. Commissioner,4 T.C. 349">4 T.C. 349, 362 (1944); Miller v. Commissioner,29 B.T.A. 1061">29 B.T.A. 1061, 1070 (1934);28 Kay v. Commissioner,10 B.T.A. 534">10 B.T.A. 534 (1928). Compare Buck v. Commissioner,47 T.C. 113">47 T.C. 113, 120 (1966). And, respondent himself has rejected any such exception in the area of entertainment expenses under section 274. See Rev. Rul. 63-144, 2 C.B. 129">1963-2 C.B. 129, 137. We have evaluated the record herein (including the testimony of the witnesses whom we saw and heard) recognizing that there is no "verbal formula that will provide a ready touchstone" for decision. See Welch v. Helvering,290 U.S. 111">290 U.S. 111, 115 (1933). We have taken into account the nature of Baden's business, the fact that many of its clients were wealthy Europeans and the generally obnoxious traffic situation in midtown and lower Manhattan (an element which, we think may properly be said to be within the ambit of "experience with the mainsprings of human conduct," see Commissioner v. Duberstein,363 U.S. 278">363 U.S. 278, 289 (1960)). On the basis of the foregoing, we conclude -- albeit without enthusiasm -- that petitioners have satisfied their burden of proof that the expenditures in question met the standards of "ordinary and necessary" laid down in Deputy v. Dupont,308 U.S. 488">308 U.S. 488 (1940)29 and Welch v. Helvering,supra.In so concluding, we recognize that there appears to have been some use of the automobile by petitioners and Nye which might be characterized as "personal" (see section 262), but we think that, as far as the record herein is concerned, such use was so "distinctly secondary and incidental" that it can be ignored as de minimis. See International Artists, Ltd. v. Commissioner,55 T.C. 94">55 T.C. 94, 104 (1970). Having found that the automobile was, for all practical purposes, used entirely in the business of Baden, there is no question but that Baden is entitled to a deduction under section 165(a) for the loss incurred on its sale. Riss v. Commissioner,57 T.C. 469">57 T.C. 469 (1971), modifying 56 T.C. 388">56 T.C. 388 (1971), relied upon by respondent, involved property used primarily for the benefit of the corporate taxpayers' shareholders and is, therefore, clearly distinguishable. See also, International Trading Co. v. Commissioner,484 F.2d 707">484 F.2d 707 (7th Cir. 1973), revg. 57 T.C. 455">57 T.C. 455 (1971). Decision in docket No. 5485-74 will be entered under Rule 155.Decision in docket No. 5565-74 will30 be entered for petitioner. Footnotes1. Richard B. Nye v. Commissioner,↩ docket No. 5487-74, was dismissed on April 2, 1976, for lack of jurisdiction in the absence of a proper statutory notice of deficiency.2. Later reduced by mutual agreement to 28.6 percent.↩3. All section references are to the Internal Revenue Code of 1954, as amended and in effect during the taxable year in question.↩4. There is some evidence that petitioners' reputations as investment advisors were an element in attracting Investing to the contemplated project. But, Investing's reputation was a similar countervailing element which influenced the petitioners. In any event, we seriously question whether the element of reputation can sustain a finding of ordinary income on the part of a co-investor who is obligated to pay full value for his investment. Cf. Hunley v. Commissioner,T.C. Memo. 1966-66↩.5. The reversal of our decision (T.C. Memo 1963-317">T.C. Memo. 1963-317) simply represents the fact that the Court of Appeals took a different view of the evidence. See Putchat v. Commissioner,52 T.C. 470">52 T.C. 470, 476 (1969), affd. per curiam 425 F.2d 737">425 F.2d 737 (3d Cir. 1970). Cf. Finney v. Commissioner,253 F.2d 639">253 F.2d 639 (9th Cir. 1958), revg. in part T.C. Memo. 1956-247↩. 6. See also Crisp v. Commissioner,T.C. Memo. 1973-6↩.7. See also, Revzin v. Commissioner,T.C. Memo. 1977-68↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621660/	Estate of Benjamin Lowenstein, Deceased, Leo Lowenstein and Harry Groedel, Executors, Petitioners, v. Commissioner of Internal Revenue, RespondentLowenstein v. CommissionerDocket Nos. 111414, 104543United States Tax Court3 T.C. 1133; 1944 U.S. Tax Ct. LEXIS 81; July 21, 1944, Promulgated 81 Decision will be entered under Rule 50. Decedent created three trusts, each of which named one of his adult children a life beneficiary and himself the trustee. Upon the death of the life beneficiary the trust terminated and the corpus was to be distributed to persons other than decedent. He retained no express power of revocation and had no reversionary interest. Broad powers of management and control were vested in him as trustee. Held, under the New York law, which governs the trusts, the powers granted the trustee do not constitute implied powers to revoke the trust or revest the corpus in the grantor and the trust income is not taxable to the grantor under section 166, Revenue Acts of 1936 and 1938; held, further, the control which the trustee could legally exercise over the trust corpus was insufficient to make the trust income taxable to the grantor under section 22 (a), Revenue Acts of 1936 and 1938. Helvering v. Clifford, 309 U.S. 331">309 U.S. 331, distinguished. Mark Eisner, Esq., for the petitioners.J. Richard Riggles, Jr., Esq., for the respondent. Arnold, Judge. ARNOLD 1134 OPINION.These consolidated proceedings82 involve deficiencies in income tax of decedent Benjamin Lowenstein as follows:Docket No. 111414, 1936$ 62,507.91Do 193851,165.30Docket No. 104543, 19378,479.69In Docket No. 104543 the respondent disallowed a deduction claimed by decedent for commissions paid by him on the sale of securities and commodities and determined a deficiency of $ 8,479.69 for 1937. In his answer respondent claims an increased deficiency of $ 73,326.51 on the theory that the income of three trusts created by decedent for his children was taxable to him. In Docket No. 111414 deficiencies for 1936 and 1938 were determined by including in decedent's income the income of the aforementioned trusts for those years.The cases were submitted upon a stipulation of facts, together with exhibits attached thereto. We adopt the facts as stipulated as our findings of fact herein. In so far as material to the issues presented, they are substantially as follows:Benjamin Lowenstein, hereinafter called decedent, died on or about August 15, 1941, leaving a last will and testament which was duly admitted to probate in the Surrogate's Court, County of New York, on or about September 17, 1941. 83 The will named Leo Lowenstein and Harry Groedel as executors. They duly qualified as such and letters testamentary were issued to them on or about September 18, 1941. Decedent filed his income tax returns for the years in question with the collector for the third district of New York.On June 11, 1930, decedent executed in New York three indentures respectively designated as "declarations of trust," one for the benefit of his son, Leo Lowenstein, as life beneficiary; one for the benefit of his daughter, Doretta Wallace, as life beneficiary; and one for the benefit of his daughter, Carrie L. Groedel, as life beneficiary. Leo Lowenstein was born September 4, 1887, and on June 11, 1930, had been married and divorced and was then living in New York City. Doretta Wallace was born September 22, 1888, and on June 11, 1930, was married and living with her husband and five children in Brookline, Massachusetts. Carrie L. Groedel was born February 26, 1892, and on June 11, 1930, was married and living with her husband and two children in Deal, New Jersey. The three trust instruments contain substantially the same provisions, in so far as here material. In each, decedent is named as original84 trustee and provision is made for successor trustees in case of his death or resignation. In each trust indenture Benjamin Lowenstein declares property described as:Promissory note of Wallau Realty Co., Inc., dated June 11, 1930, payable on demand, with interest at 2% per annum, endorsed to the order of Benjamin 1135 Lowenstein as trustee of the trust created for * * * by declaration of trust dated June 11, 1930.is held in trust by him and will continue to be held by him in trust. In each trust it is provided that upon the death of the designated life beneficiary the principal is payable to the lawful issue of such beneficiary. If no issue survive, then to the issue then living of Benjamin Lowenstein, share and share alike per stirpes and not per capita. In the Leo Lowenstein trust upon his death the principal is payable to his sister, Doretta Wallace, if living, and if she be not then living, to her issue surviving her, and if no issue survive her, then to the issue of Benjamin Lowenstein, as in the other trusts. Other material provisions of the instruments, as typified by those of the Doretta Wallace trust, are as follows:1. The trustee shall hold the said property85 as a trust fund and shall manage, invest, reinvest and keep the same invested and shall pay the net issues, income and profits thereof to Doretta Wallace, daughter of the said Benjamin Lowenstein during her natural life.2. Upon the death of the said Doretta Wallace the trustee shall divide the principal of the trust fund then in his hands into as many equal parts or shares as shall equal the number of the said Doretta Wallace's children then living and of her children then dead leaving lawful issue then living. If said Doretta Wallace shall leave no issue her surviving the principal of the trust shall upon her death be paid share and share alike, per stirpes and not per capita, to the issue then living of said Benjamin Lowenstein. * * 9. The original trustee, Benjamin Lowenstein, is authorized to invest and reinvest the principal of said trust in any manner whatsoever in his sole discretion, including any form of investment not authorized by law, including, without limiting the generality of the foregoing, any stock, bond, mortgage, business loan, debt or claim, secured or unsecured, whether or not income producing and whether or not speculative, and any loss that shall result86 from such investment shall be borne by the principal of the said fund and shall not be chargeable in any manner to him.10. Any trustee hereunder is authorized to sell, exchange, mortgage, lease or otherwise dispose of the whole or any part of the principal fund whether real, personal or mixed, at public or private sale and upon such terms and conditions as to the trustee may seem proper, and to execute and deliver any and all instruments necessary or proper to carry out such powers. The original trustee, Benjamin Lowenstein, is authorized and empowered to acquire in his individual capacity, the whole or any part of the said fund upon such sale, exchange, mortgage, lease or other disposition; and such transactions shall not be invalidated or affected in any way or to any extent by reason of the fact that he may be acting in both representative and individual capacities.11. Any trustee shall have the right to permit any part of the said fund to remain invested as long as he may deem fit in any form of investment in which the same shall be invested at the time that the fund is received by him as trustee.* * * 13. For greater convenience the several trusts hereinbefore created may87 be kept collectively in one or more funds by any trustee.1136 14. Any trustee hereunder is authorized in his sole discretion and as he may elect in making division or divisions or distribution or distributions at any and all times, whether such division or distribution be preliminary, partial or final, or for the purpose of allotting, setting apart or setting up one or more of the trusts herein created, to make such distribution wholly or partly in specie or kind and at such valuations of each piece or portion thereof as he shall think just, without the necessity or obligation of converting the whole or any part of the trust fund into cash and without requiring the consent, authority or direction so to do of any beneficiary and without requiring the consent of any Court; and such trustee is authorized to put such valuations on the same as he shall consider just and fair and such distributions, allotments and valuations shall be final and conclusive and binding upon the parties interested hereunder. * * 16. All income accrued on any securities hereunder at this time and all income accrued on any additional securities or property which the said Benjamin Lowenstein may add88 to the principal of this trust, shall be treated as income hereunder and distributed as such.17. Any trustee is hereby authorized and empowered in his discretion, to vote in person or by proxy upon all stocks or other securities held by him as such; to deposit any of the securities at any time forming part of the trust fund herein under any plan or plans of reorganization that may commend themselves to his good judgment and to accept the new securities which may be offered under such plan or plans in exchange for such original securities and to pay any and all assessments levied or imposed under such plan or plans of reorganization and to charge the amount thereof against the principal of said trust fund; to enter into such voting trust agreements as he may deem proper and to accept voting trust certificates in exchange for stock certificates; to exchange the securities of any corporation or company for other securities issued by the same, or by any other corporation or company at such times and upon such terms and conditions as he shall deem proper; to consent to the reorganization, consolidation or merger of any corporation or company or to the sale or lease of its property or 89 any portion thereof, to any person, corporation or company or to the lease of any person, corporation or company of his or its property or any portion thereof to such corporation or company, and upon such reorganization, consolidation, merger, sale or lease, to exchange the securities held by it for the securities issued in connection therewith; to pay all assessments, subscriptions and other sums of money as said trustee may deem expedient for the protection of his interest as holder of any stocks, bonds or securities of any corporation or company and to exercise any option contained in any stocks, bonds or other securities for the conversion of the same into other securities or to take advantage of any rights to subscribe for additional stocks, bonds or other securities and to make any and all necessary payments therefor and generally to exercise with respect to all stocks, bonds or other investments held by said trustee, all rights, powers and privileges as are or may be lawfully exercised by any person owning similar property in his own right.18. Any trustee may at his option transfer and hold, but at his risk, any corporate securities hereunder in the name of a nominee instead90 of in the name of himself as trustee, or in his own name without adding words showing his fiduciary capacity.19. Said Benjamin Lowenstein shall have the right at any time and from time to time during the continuance of the trust hereby created to assign, transfer, deliver or deposit with any trustee hereunder additional securities or property which thereupon shall become a part of the trust estate and pledged in every respect to the trust and the terms and conditions of this instrument.1137 Decedent did not resign as trustee of the three trusts during his lifetime and he acted as sole trustee during the years 1936, 1937, and 1938. All of the income of the trusts received by the trustee during those years was distributed to the respective beneficiaries, and fiduciary returns were filed. The current cash funds of the three trusts were kept in a separate bank account under the name of "Benjamin Lowenstein Special," and no other funds were placed in this bank account. The income of each of the three trusts for 1937 was $ 39,456.28, which item includes the sum of $ 421.43 of partially tax-exempt income, the same being interest on United States savings bonds and Treasury bonds. 91 At the time of the creation of the trusts the Wallau Realty Co., maker of the notes described in the respective indentures, was a New York corporation. Its issued and outstanding stock was owned by Benjamin Lowenstein, Leo Lowenstein, Doretta Wallace, and Carrie L. Groedel, each the one-fourth part thereof. In 1931 the New York corporation was dissolved and all its assets were transferred to the Wallau Corporation, a newly created Delaware corporation, which assumed all the liabilities of the New York corporation, including the aforesaid notes. All the issued and outstanding stock of the Delaware corporation was owned by Leo Lowenstein, Doretta Wallace, and Carrie L. Groedel, each the one-third part thereof.Decedent paid during 1937 commissions in the amount of $ 17,207.07 on the sale by him of securities and commodities.Each of the trusts created by the decedent was a genuine, valid, subsisting trust. No power of revocation was retained and the broad powers of management and control granted to the trustee were for the benefit of the trust beneficiaries and not for the purpose of revesting in the grantor title to any part of the trust corpus.Respondent included the income of92 the three trusts in Benjamin Lowenstein's income for 1936 and 1938 upon the theory that sections 166 and 22 (a) of the Revenue Acts of 1936 and 1938 1 authorized such 1138 inclusion therein. He seeks to include the income of the three trusts in Benjamin Lowenstein's income for 1937 upon the same theory. No question is presented herein with respect to section 167 of those acts.93 We shall consider first whether section 166 applies. Respondent does not contend that the grantor retained an express power to revoke the trusts, nor is any such express power contained in the indentures. He contends that the power of the grantor, as original trustee, "to invest and reinvest the principal of said trust in any manner whatsoever in his sole discretion" in secured or unsecured property, whether or not speculative or income producing, without any loss therefrom being chargeable to him, as trustee, was substantially equivalent to the power to revoke the trust. Respondent buttresses his contention with the additional powers granted the trustee by paragraphs 17 and 18 of the indentures hereinabove set forth, and cites numerous authorities dealing with the taxation of trust income to the grantor under section 166. 294 Some of the cited cases lend weight to respondent's argument, but a comparative analysis of this case with the authorities cited by both parties convinces us that respondent is in error. Respondent asserts that the present trust indentures had strikingly similar provisions to the trust in the Chandler case, supra (footnote 2). Chandler, however, specifically reserved the power to direct the trustee to buy from or sell to himself, as grantor, at prices fixed by him. The Board held and the court agreed that the power reserved by Chandler was for his own benefit and amounted to the right to revoke the trust. Such a holding brought section 166 of the Revenue Act of 1934 into play and the trust income was taxed to Chandler.Here Lowenstein's authority to act under the trusts was as trustee, not as grantor or donor. The trusts were created for the benefit of his children and their issue and not for any benefit that he could personally derive therefrom. The trusts irrevocably disposed of the trust income and trust corpus to his children and their descendants. The powers granted the trustees, original and successor, were designed to aid the fiduciary in the management and95 investment of the trust corpora for the benefit of the grantor's children. No powers were reserved by the grantor whereby he could revoke the trust or revest any part of the trust corpora or income in himself. Any attempt by the trustee to use his fiduciary powers for his individual benefit, as grantor, or to mulct the trusts or waste their assets for his personal advantage, would violate the trusts and would be prohibited by New York law. 1139 ; ; ; .In the Carrier case, supra, the New York Court of Appeals, speaking through Judge Cardoza, used language equally apt to the present facts, viz:* * * It is true that the creator of this trust had reserved to himself the broadest rights of management. His discretion was to be "absolute and uncontrolled." That does not mean, however, that it might be recklessly or willfully abused. He had made himself a trustee; and in so doing he had subjected himself to those96 obligations of fidelity and diligence that attach to the office of trustee. He had power to "invest" the moneys committed to his care. He had no power, under cover of an investment, to loan them to himself. His discretion, however broad, did not relieve him from obedience to the great principles of equity which are the life of every trust. * In , which is factually distinguishable from the present case, the Board held, upon authority of the Chandler case, supra, that the powers retained by the grantor-trustee in a trust for the benefit of his wife permitted him to revest any part or all of the trust corpus in himself. The trust income was accordingly taxable to the grantor under either section 166, or section 22 (a). Trust income for his minor children was held taxable to Heyman under section 22 (a). After the Board's decision the trust indenture was construed by the New York Supreme Court in The New York court was specifically asked whether the grantor-trustee could legally acquire assets from the trust below their real value or sell property to the trust97 in excess of market value. The court held that the grant of the widest possible investment powers to the trustee, including the right to enter into speculative transactions, clearly does not authorize the trustee to use the trust assets for his own benefit, to act in bad faith, or to recklessly waste them; that, in the absence of a provision in the indenture permitting the trustee to deal with his own trust, such transactions must be summarily avoided, but where the trust instrument grants the power to the trustee to deal with himself, "he is bound to exercise this power in the best of faith and to evince the highest degree of disinterestedness, loyalty and honor"; that, whether viewed in the light of trust powers reserved to himself as grantor, or granted to himself as trustee, the result is identical under New York law; that, no matter how broad the exculpatory clause, a court of equity will not afford protection to trustees who deliberately seek to pillage or destroy a trust, and that, therefore, a trustee could not legally acquire trust assets below their real value or sell property to the trust in excess of market value. See also ;98 ; .In , affd. (C. C. A., 1st Cir.), , the Board considered a trust created by the taxpayer 1140 for the benefit of his wife. There the Commissioner contended that the taxpayer by virtue of the trust provisions had "complete direct control over the trust corpus." The Board held against the Commissioner, its opinion reading in part as follows, p. 1050:This argument is inconclusive. The trustees are under a legal duty to protect and conserve the trust assets. In the administration of trust estates it is a well established rule of law that "A trustee must use the same care for the safety of the trust fund, and for the interests of the cestui que trust, that he uses for his own property and interests." Perry on Trusts and Trustees, 7th Ed., vol. I, § 441. "The first care of the law is the safety of the trust fund. Upon this truism depends every rule which has been made for the conduct of the trustees." .99 * * It is clear from the trust agreement that the petitioner's reserved powers over the trust corpus to which the respondent refers, such as to invest, sell, or exchange the securities held by the trustees, were to be exercised by him as trustee and not as grantor of the trust. The fact that in the exercise of such powers the petitioner could act alone and without the concurrence of the other trustees was not detrimental to the trust. In no event could he have appropriated any of the trust funds to his own use without violating his trust. Again we must assume that the petitioner's acts as trustee would have been for the best interests of the trust.Nor do we find any authority in the present trust indentures for the trustee to sell, exchange, mortgage, lease or otherwise dispose of the property of the trust upon other than proper terms and conditions, i. e., terms and conditions under which a fiduciary could properly act. If a transaction was otherwise proper the fact that the original trustee acted in both his individual and his representative capacity would not invalidate it. But this provision clearly would not relieve the grantor-trustee "from obedience to the great principles100 of equity which are the life of every trust"; when he made himself a trustee the grantor subjected himself to those obligations of fidelity and diligence that attach to the office of trustee, "All profits and every advantage beyond fiduciary's lawful compensation which come to fiduciary are for benefit of his cestui que trust." .The Supreme Court considered similar language and powers in refusing to tax the income of a short term trust to the grantor-trustee in . In that case the grantor retained no power of revocation or power to revest the trust corpus in himself prior to the end of the trust term, although at the end of the term such property reverted to him. The Supreme Court, in refusing to apply section 166, pointed out that the Commissioner had not undertaken to establish that under New York law, which governed the trust, the taxpayer had the power to revoke; that Congress drafted section 166 having in mind the distinction between revocable trusts 1141 and reversions under101 short term trusts; that, generally speaking, the power to revest or to revoke an existing estate is discretionary; that the interpretation of section 166 is narrowly confined to a limited class; and that in applying section 166 there is no wide range for definition or specification as there is in applying section 22 (a).Here, as in the Wood case, supra, the law of New York governs the trusts. . The petitioners have shown that under New York law the powers given the trustee by the grantor could be used only for the benefit of the cestui que trust. Any use of his fiduciary powers to manage, invest and reinvest the trust corpus or to sell, exchange, mortgage, lease, or otherwise dispose of trust property for the fiduciary's personal benefit would be such an abuse of the trustee's obligations and duties to the beneficiaries that we can not read into the specific powers any implied power to revoke the trust. We should not interpret these powers so as to impute malfeasance to the trustee. . There being no102 power to revoke, no occasion to apply section 166 exists, and on this point petitioners must prevail.Respondent's second contention is that the income of these trusts is taxable to grantor under section 22 (a), supra. He relies particularly upon , and related cases. The Clifford case was decided upon its own particular facts, as the Supreme Court was careful to point out, but it laid down the principles which respondent here seeks to apply. In discussing these principles the Supreme Court said, "In this case we cannot conclude as a matter of law that respondent ceased to be the owner of the corpus after the trust was created. Rather the short duration of the trust, the fact that the wife was the beneficiary, and the retention of control over the corpus by respondent all lead irresistibly to the conclusion that respondent continued to be the owner for purposes of § 22 (a)."Respondent's contention that the grantor retained substantially the same control after the trusts as before has of course many facets, the principal ones of which are that his broad powers of management and investment were exercisable103 in his sole discretion, without any personal liability for losses incurred; that he could redistribute the income within the family group; and that he could effectually revoke the trusts through his power to purchase the trust corpus at his own price. It is true that under the trust indentures the petitioner, as trustee, did have broad powers in managing the trust, but those powers, particularly when considered in connection with certain restricting provisions and factual circumstances, are not in our opinion sufficient to bring this case within the rule of , as the respondent contends. A trustee can not administer a trust to his personal advantage. We find no authority in the present instruments 1142 whereby the grantor could redistribute the trust income; the original disposition was final and irrevocable. The beneficiaries were not within his immediate family group, but were adults who had their own families, except for the son, who had been married and divorced. It can not be said therefore that this was merely a temporary reallocation of family income among the members of an intimate family group. The 104 grantor was under no obligation to support any of the beneficiaries, and he was relieved of no obligation by the distribution of the trust income. We have heretofore considered and rejected the contention that the grantor could effect a revocation of the trusts under the broad powers granted to himself as trustee, and we deem further comment unnecessary.Viewing all the relevant factors and surrounding circumstances, together with the legal interests and rights created, we are not persuaded that the control exercised or that could be exercised by the grantor-trustee herein was such control and ownership as to make the income of these trusts taxable to him under section 22 (a). Cases dealing with alimony trusts, trusts for the maintenance of minor children, trusts for the payment of insurance premiums, and the like, have been considered, but, since in our opinion such cases are factually distinguishable, they have not been cited.With respect to decedent's right to deduct commissions paid during 1937, the stipulated facts merely show that he paid $ 17,207.07 as commissions on sales of securities and commodities. Such deductions are allowable only to a dealer in securities and commodities. 105 . In the absence of proof that decedent was a dealer in securities, this issue must be decided in favor of the respondent. .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 * * then the income of such part of the trust shall be included in computing the net income of the grantor.SEC. 22. GROSS INCOME.(a) General Definition. -- "Gross income" includes gains, profits, and income derived from salaries, wages, or compensation for personal service, of whatever kind and in whatever form paid, or from professions, vocations, trades, businesses, commerce, or sales, or dealings in property, whether real or personal, growing out of the ownership or use of or interest in such property; also from interest, rent, dividends, securities, or the transaction of any business carried on for gain or profit, or gains or profits and income derived from any source whatever. * *↩2. , affirming ; ; now on appeal, C. C. A., 2d Cir.; , reversing, on this point, ; ; affd. (C. C. A., 3d Cir.), ; certiorari denied, ; ; .↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621661/	Donald D. McIntyre and Lily B. McIntyre v. Commissioner.McIntyre v. CommissionerDocket No. 64942.United States Tax CourtT.C. Memo 1957-239; 1957 Tax Ct. Memo LEXIS 7; 16 T.C.M. (CCH) 1102; T.C.M. (RIA) 57239; December 30, 19577 Petitioners claimed a dependency credit for each of their three children for the years 1952 and 1953. Each of the children had a one-third interest in a partnership, and the share of each child in the gross income of the partnership exceeded $600 in each of the years involved. Held, on the authority of Doris V. Clark, 29 T.C. - (filed November 13, 1957), that petitioners are not entitled to the dependency credit claimed under section 25(b)(1)(D) of the Internal Revenue Code of 1939. Thomas A. Steele, Jr., Esq., for the respondent. FISHERMemorandum Opinion FISHER, Judge: Respondent determined deficiencies in income tax of petitioners for the years 1952 and 1953 in the respective amounts of $537.44 and $429.54. The issue presented is whether petitioners, for the years 1952 and 1953, are entitled to dependency credits for their three minor children. This raises the question of whether each child's share of the gross income of a partnership, or each one's share of the distributive net income of the partnership is to be taken into consideration in determining whether the gross income of each child was less than $600 within the meaning of section 25(b)(1)(D) 8 of the Internal Revenue Code of 1939. All of the facts are stipulated and are included herein by reference. Petitioners are husband and wife who reside on a farm near Casselton, North Dakota. They employed the cash receipts and disbursements method of accounting and filed their income tax returns on a calendar year basis for the years here material. For the calendar years 1952 and 1953, petitioners timely filed joint Federal income tax returns (Form 1040) with the director of internal revenue for the district of North Dakota. Paul McIntyre, Duane McIntyre and Marlyce McIntyre are three children of petitioners who live with them and did so during 1952 and 1953. These children were born, respectively, on April 18, 1943, May 2, 1946, and December 27, 1949. On February 1, 1952, Donald D. McIntyre was appointed guardian of the persons and estates of Paul, Duane and Marlyce McIntyre. On February 15 1954, a United States partnership return of income (Form 1065) in the name of "Paul, Duane and Marlyce McIntyre Partnership" was filed with the director of internal revenue for the district of North Dakota for each of the calendar years 1952 and 1953 on behalf of Paul, Duane and Marlyce9 McIntyre. The stipulation of the parties contains, inter alia, the following: "For the limited purpose of reaching the issue involved in this case - which is whether the separate gross income of each Paul, Duane and Marlyce McIntyre within the meaning of Section 25(b)(1)(D) of the Internal Revenue Code of 1939 consists of their individual proportionate share of partnership gross income (as determined by respondent) or their individual share of partnership distributable net income (as contended by petitioners), and for no other purpose - Paul, Duane and Marlyce McIntyre may be considered to have been doing business as partners under a guardianship during the calendar years 1952 and 1953." During each of the years involved, the share of each child of petitioner of the gross income of the partnership exceeded $600. The share of each in the distributable net income of the partnership for each such year, as reported, was less than $600. Respondent takes the position that the income of the partnership for each year should be increased by the amount of certain real estate taxes on the property of the partnership which, pursuant to contracts, were paid by others than the partnership. 10 Respondent takes the position that if partnership income is increased accordingly for the year 1953, the distributive share of each partner in the net income of the partnership would exceed $600 for that year. In view of the basis for our decision, it is unnecessary to consider this question. Since it is clear that each child's share of the gross income of the partnership for each year in issue was not less than $600, we hold, on the authority of Doris V. Clark, 29 T.C. - (filed November 13, 1957) that petitioners are not entitled to the dependency credit under the provisions of section 25(b)(1)(D) of the Internal Revenue Code of 1939. 1Decision will be entered under Rule 50. Footnotes1. SEC. 25. CREDITS OF INDIVIDUAL AGAINST NET INCOME. * * (b) Credits for Both Normal Tax and Surtax. - (1) Credits. - (D) An exemption of $600 for each dependent whose gross income for the calendar year in which the taxable year of the taxpayer begins is less than $600, * *↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621663/	APPEAL OF HELEN BARCLAY, EXECUTRIX OF THE WILL OF HAROLD BARCLAY, DECEASED.Barclay v. CommissionerDocket No. 2474.United States Board of Tax Appeals4 B.T.A. 1139; 1926 BTA LEXIS 2051; September 28, 1926, Decided 2051 Evidence held insufficient to warrant a modification of the deficiency. Henriette A. Neuhaus, for the petitioner. M. N. Fisher, Esq., for the Commissioner. LITTLETON1139 This is an appeal from the determination of a deficiency in income tax for 1920 in the amount of $841.39. The deficiency results from the disallowance by the Commissioner of an amount claimed by petitioner as a loss in connection with the sale of certain real property and deducted from his income for that year. FINDINGS OF FACT. Helen Barclay is the duly appointed, qualified and acting executrix of the estate of Harold Barclay, deceased, and is a resident of the City of New York. Harold Barclay died July 25, 1922, a resident of New York. Henry Barclay, the grandfather of the deceased, Harold Barclay, who by his will disposed of the property involved in this appeal, described as Nos. 321 and 323 Broadway, New York City, N.Y., died on March 21, 1865, a resident of New York. His will was admitted to probate by the Surrogate's Court of Queen's County, New 1140 York, on April 10, 1865. The part of the will which concerns the property here involved reads2052 as follows: I give and devise to my executors and executrix who may take upon themselves the execution of this my will, and to the survivors and survivor of them, those two certain lots of land with the brick stores thereon, now known as numbers three hundred and twenty-one (321) and three hundred and twenty-three (323) Broadway in said City of New York, situated between the property of the New York City Hospital and the lot of land with the marble front store thereon hereinbefore devised in trust for the benefit of my son James L., and I also give and bequeath to my said executors and executrix the sum of twenty thousand dollars, to have and to hold said real estate and personal property, in trust, to invest said sum of twenty thousand dollars on bond and mortgage or in public securities, to receive the rents, issues and profits of said real estate and the income or profits of said personal property, and after paying all taxes, assessments and charges for insurance and repairs, to accumulate the net income thereof respectively. Should my son Sackett M. be a minor at my decease during his minority, and on my said son Sackett M. attaining the age of twenty-one years, to pay over2053 to him such accumulations and thereafter, or if at the time of my decease he should be of the age of twenty-one years then, to apply the net income thereof to the use of my said son Sackett M. during his natural life, and on his decease I give, devise and bequeath said trust estate, absolutely forever, to his lawful issue, and the lawful issue of any deceased issue, equally, share and share alike, such issue to take the share of his, her or their parent; and should my said son Sackett M. die without lawful issue, I give, devise and bequeath said trust property, absolutely forever, to my surviving children then living, and to the lawful issue of any deceased child, equally, such issue taking the share of his, her or their parent. Sackett M. Barclay, the life beneficiary under the trust covering the property involved as set forth in the portion of the will above set out, was living at the time of Henry Barclay's death. He died October 10, 1918, leaving five children surviving him and no issue of any deceased child. One of the said five children was Harold Barclay, who was born August 14, 1872. The property in question referred to in the will of Henry Barclay consisted of two2054 lots and two five-story brick dwellings which were subsequently altered into stores and lofts. These buildings were leased and produced the following gross rentals from 1913 to 1920, inclusive: Year.Amount.1913$13,939.88191413,199.92191512,191.6619169,691.641917$9,000.0019189,916.6319199,999.961920833.33The property was sold in 1920 for $200,000. Of this amount, $2,600 was paid as commission. The assessed valuation of the entire property for the purpose of local taxation, as determined by the deputy tax commissioner for New York, was as follows: Year.Amount.1872$150,0001913260,0001914260,0001915260,0001916250,0001917$240,0001918240,0001919230,0001920230,0001141 OPINION. LITTLETON: Petitioner contends, first, that at the death of Henry Barclay title to the property vested in the brothers and sisters of Sackett M. Barclay, the life tenant, subject to be divested by birth of issue to Sackett M. Barclay; secondly, upon the birth of Harold Barclay in 1872 title to the property vested in him, a portion of his title thereto being divested upon subsequent birth of2055 issue to Sackett M. Barclay; thirdly, that on March 1, 1913, Harold Barclay was the owner of a one-fifth vested interest in the property, that the value of a one-fifth interest in 1872 was $50,000, and that the fair market value of his one-fifth interest on March 1, 1913, was in excess of $40,000, his proportion of the sales price of the property in 1920. The only evidence before the Board as to the value of the property in 1872 and 1913 is certified copies of the records of the City of New York showing the value placed upon the property for the purpose of local taxation. The value thus placed upon the property, unsupported by any other evidence, can not be accepted by the Board for the purpose of determining actual or fair market value of the property. ; ; . It is unnecessary to discuss the questions of law raised, since we are without sufficient and proper evidence upon which to predicate a finding of value, either in 1878 or 1913, even if it should be decided that, in computing the gain or loss on the sale in 1920, the value of petitioner's*2056 interest should be deducted from the sales price. Judgment for the Commissioner.PHILLIPS concurs in the result only.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621664/	H. J. Heinz Company, Petitioner, v. Commissioner of Internal Revenue, RespondentH. J. Heinz Co. v. CommissionerDocket No. 44694United States Tax Court32 T.C. 22; 1959 U.S. Tax Ct. LEXIS 197; April 10, 1959, Filed 197 Decision will be entered for the petitioner. An unused excess profits credit arising in 1941 under section 713 of the Internal Revenue Code of 1939 was not specifically claimed as a carryover to 1943 on a timely section 722 claim filed for that year but was asserted on an amended claim filed after the statutory period but before final determination of the timely claim. Held, the carryover did not arise from a credit based upon a CABPNI and need not be claimed pursuant to the regulations issued under section 722; held, further, on the facts, the amended claim was based on grounds of which respondent had continuing notice and which were included in the timely claim so that the amendment is effective and will be considered with the timely claim. Percy W. Phillips, Esq., for the petitioner.Albert J. O'Connor, Esq., for the respondent. Train, Judge. TRAIN22 OPINION.The Commissioner disallowed in part the petitioner's applications for relief under section 722 1 for a number of its fiscal years including that ended April 30, 1943. In making his determination 23 with respect to 1943, the Commissioner refused to allow an unused excess profits carryover from 1941 to 1943 in the amount of $ 42,881.72. The sole issue for our decision is whether petitioner is entitled to the carryover in question.All of the facts are stipulated and are hereby found as stipulated.Petitioner, a Pennsylvania corporation, filed its income and excess profits tax returns on an accrual basis for the fiscal year ended April 30, 1943, with the then collector of internal199 revenue for the twenty-third district of Pennsylvania at Pittsburgh.Petitioner, on its excess profits tax return for its fiscal year ended April 30, 1941, computed its excess profits tax under section 711(a)(1) with an average base period net income credit (hereinafter called ABPNI credit), in the amount of $ 3,308,115.46. There was an unused excess profits credit (hereinafter called unused credit), arising in the fiscal year 1941 in the amount of $ 786,793.97, later adjusted to $ 548,009.54 by application of section 204(c) of the Revenue Act of 1942. The latter amount was claimed specifically by petitioner as an unused excess profits credit carryover (hereinafter caller carryover), on its excess profits tax return for the fiscal year 1942. This carryover from 1941 when combined with the ABPNI credit resulted in there being no excess profits tax due for that year. On the return for the fiscal year ended April 30, 1943, a carryover from 1941 in the amount of $ 360.13 was claimed by petitioner as still unused after 1942. Excess profits taxes in the amount of $ 560,853.19 were paid for the fiscal year ended April 30, 1943.On May 23, 1944, petitioner filed a timely claim for refund200 of $ 33,371.96 of its 1943 income and excess profits taxes. The claim was based on increases in taxes paid the State of Pennsylvania in petitioner's 1941, 1942, and 1943 fiscal years. The increase in the 1941 fiscal year State taxes was claimed as a deduction from net income for 1941 increasing the unused credit arising in that year by the same amount. The increase in the fiscal year 1942 State taxes likewise reduced net income for that year, thereby increasing the carryover available for 1943 by $ 61,513.98. The increased carryover for 1943 was the specific basis for the petitioner's refund claim of 1943 excess profits taxes filed May 23, 1944.In 1947, respondent audited petitioner's income and excess profits tax returns for 1942 to 1946, inclusive, and made adjustments to the 1942 and 1943 net incomes.On May 20, 1949, respondent determined deficiencies in income and excess profits taxes for 1942 and 1943. In this determination, respondent made allowances for additional taxes paid the State of Pennsylvania in the following amounts:1942$ 24,772.12194315,842.7224 The statement accompanying respondent's 1949 deficiency notice declared that "careful consideration" 201 had been given to petitioner's claim for refund filed May 23, 1944, 2 which, as we have found above, had asserted an increased carryover for 1943. The Commissioner's excess profits tax computations for 1942 contained a specific adjustment for an unused credit in the amount of $ 598,024.78 arising in 1941. Respondent has at all times since agreed that the amount of unused credit arising in 1941 is $ 598,024.78. Net income for 1942 was increased over additional deductions by the amount of $ 157,158.28. This increase in net income for 1942 more than offset the increase in the carryover from 1941 which had been the specific basis for the 1943 refund claimed by the petitioner on May 23, 1944. As a result of these adjustments, no carryover was available for the fiscal year ended April 30, 1943, and none was allowed. By letter dated October 21, 1949, respondent rejected petitioner's refund claim filed May 23, 1944. Petitioner did not contest this action and paid the deficiencies as determined in the notice of May 20, 1949.202 Petitioner signed waivers for the taxable years ended April 30, 1941, 1942, and 1943 extending the period for assessment of income and excess profits taxes to June 30, 1949.On December 28, 1949, petitioner filed timely applications on Form 991 for excess profits tax relief under section 722 for its fiscal years 1941 through 1946, inclusive. The constructive average base period net income credit (hereinafter called CABPNI credit), claimed was $ 4,893,085. The Form 991 filed with respect to 1941 declared on its face: "Claim is filed for the purpose of establishing the amount of excess profits credit to be carried forward." Excess profits net income in the amount of $ 4,572,413.03 was returned for 1942. No carryover was claimed on the Form 991 filed with respect to 1943. The CABPNI credit claimed on the form was more than sufficient to eliminate any excess profits tax liability for that year.By letter dated January 9, 1952, petitioner was advised that after considering its claim filed on December 28, 1949, the Excess Profits Tax Council had determined that it was entitled to no CABPNI credit for the year ended April 30, 1941, but that the Council had granted a CABPNI credit in 203 the amount of $ 4,238,000 for the years ending April 30, 1942, to April 30, 1946, inclusive. This amount was $ 655,085 less than that claimed by petitioner. Petitioner agreed to the determination of the Council.On February 25, 1952, petitioner filed an amended Form 991 for 25 the fiscal year ended April 30, 1943, in which the benefit of an unused excess profits credit carryover in the amount of $ 51,711.75 was claimed.On February 26, 1952, respondent mailed petitioner a recomputation of its excess profits tax liability resulting from the action of the Excess Profits Tax Council. This recomputation was in fact completed on February 18, 1952. Additional adjustments were made to increase income for 1942 and 1943 as a result of an agent's report. Additional State taxes were allowed as deductions for those years in the amounts of $ 514.36 and $ 1,724.42, respectively. In computing the 1943 excess profits taxes, respondent specifically stated that he did not allow the unused excess profits credit carryover in the amount of $ 51,711.75 from 1941 "as per Regulations 112, T.D. 5393, C.B. 1944 page 415 at page 421 and also as in the case204 of Lockhart Creamery, 17 T.C. No. 136." Petitioner agreed with all computations except with respect to the disallowance of the carryover for 1943.By letter dated March 27, 1952, respondent recomputed the 1942 and 1943 excess profits taxes pursuant to an additional report from a revenue agent. While income was increased for each year, additional State taxes were allowed in the following amounts:1942$ 156.19194315.22Respondent again stated in this letter that the unused excess profits credit carryover, adjusted to the amount of $ 47,881.72, was disallowed in computing the tax for 1943. Petitioner again agreed with all computations except the disallowance of the carryover for 1943.Finally, by a letter dated July 11, 1952, respondent gave notice in accordance with the provisions of section 732 of the disallowance in part of the claims for refund asserted in petitioner's applications for relief.Since the filing of this petition, additional adjustments have been made to 1942 and 1943 income resulting in further reduction of the carryover. It is now agreed that the correct amount of the disputed carryover is $ 42,881.72 and that this amount205 is allowable as a credit on the excess profits tax return for 1943 if a proper claim for such credit has been made.If the carryover in issue arose from a credit based upon a CABPNI under section 722, the claim filed February 25, 1952, would be barred. This Court has consistently held that, where a claim for section 722 relief did not specifically assert a claim for a carryover arising by application of section 722 in another year, such a specific claim being required by the regulations under section 722, a later claim for the benefit of the carryover is barred if filed beyond the period provided by the statute of limitations, absent a waiver by the Commissioner of 26 the applicable section 722 regulations. Headline Publications, Inc., 28 T.C. 1263">28 T.C. 1263 (1957) affd. 263 F. 2d 541 (C.A. 2, 1959); Utility Appliance Corporation, 26 T.C. 366 (1956); Ainsworth Manufacturing Corporation, 24 T.C. 173">24 T.C. 173 (1955); May Seed & Nursery Co., 24 T.C. 1131">24 T.C. 1131 (1955), affd. 242 F. 2d 151 (C.A. 8, 1957); St. Louis Amusement Co., 22 T.C. 522 (1954);206 Barry-Wehmiller Machinery Co., 20 T.C. 705">20 T.C. 705 (1953); Lockhart Creamery, 17 T.C. 1123">17 T.C. 1123 (1952); and Packer Publishing Co., 17 T.C. 882">17 T.C. 882 (1951).While we recognize that the carryover in question bears a close relationship to the application of section 722, such a relationship does not necessarily lead to the conclusion asserted by respondent, namely, that the carryover arises from a credit based upon a CABPNI. A careful consideration of the facts of this case has satisfied us that the carryover does not arise from a CABPNI credit.The excess profits tax return for 1941 claimed an excess profits tax credit computed under section 713 in the amount of $ 3,308,115.46. This amount, when applied against the excess profits net income for 1941, produced an unused credit under section 710(c)(2) 3 originally in the amount of $ 786,793.97, later adjusted to $ 598,024.78. Under section 710(c)(3)(B), 4 this latter amount is the carryover to each of the 2 succeeding taxable years, namely, 1942 and 1943. Thus, the unused credit in the amount of $ 598,024.78 clearly arose in a year, 1941, with respect to which207 a CABPNI was not granted.Respondent further contends that no carryover would 208 be available for 1943 absent section 722 relief for 1942, and that, therefore, application of section 722 to 1942 was what necessarily gave rise to the carryover to 1943.However, the carryover of an excess profits credit is a carryover of an unused credit from a year in which the excess profits credit of that year exceeds the excess profits net income of that same year. Sec. 710(c)(2) and (3)(B), supra. As we have seen above, this occurred in 1941. Petitioner's excess profits tax return for 1942 showed an 27 excess profits net income in the amount of $ 4,572,413.03, while the excess profits credit for 1942 computed under section 722 was only $ 4,026,100. There was no excess of the CABPNI credit over the excess profits net income for 1942. Therefore, there was no unused CABPNI credit for 1942. Furthermore, the unused credit for any 1 year is the carryover for each of the 2 succeeding taxable years. Sec. 710(c)(3)(B), supra. If respondent's contention that the unused credit actually arose in 1942 were correct, it would necessarily follow that the unused credit would be a carryover for each of the 2 succeeding taxable years, namely, 1943 and 1944. That this is 209 not so in the instant case demonstrates the fallacy of respondent's reasoning.Respondent further asserts that by the proper method of computation it is actually the CABPNI credit which is in excess of adjusted excess profits net income for 1942, and not the unused credit from 1941.A reading of the statute leads us to a different conclusion. Section 710(c)(3)(B) provides for the method of computing the credit carryover for the second succeeding taxable year (in this case 1943) as follows:except that the carry-over in the case of the second succeeding taxable year shall be the excess, if any, of the amount of such unused excess profits credit over the adjusted excess profits net income for the intervening taxable year computed for such intervening taxable year (i) by determining the unused excess profits credit adjustment without regard to such unused excess profits credit or to any unused excess profits credit carry-back, and (ii) without the deduction of the specific exemption provided in subsection (b)(1). * * * [Emphasis added.]Applying the above statutory provision to the present situation, the adjusted excess profits net income for 1942 is the excess of $ 4,572,413.03210 net income over the CABPNI credit for that year in the amount of $ 4,026,100, or an adjusted excess profits net income of $ 546,313.03. The excess credit for 1942 is the excess of the unused credit carryover from 1941 in the amount of $ 598,024.78 over this adjusted net income for 1942 of $ 546,313.03, or $ 51,711.75. 5 Clearly, the carryover to 1943 of this amount would not be the carryover of a CABPNI excess, but of the unused credit which arose in 1941 and which was not absorbed in 1942.Since petitioner requested section 722 relief for 1943, respondent further contends that any credit carryover available for that year must be claimed in accordance with the requirements of section 722 and Regulations 112, section 35.722-5.This contention is not supported by either the statute or the applicable regulations. Section 722 itself contains no requirement as to the 28 method of claiming the benefit of a carryover, simply granting broad regulatory authority211 to the Commissioner to prescribe rules governing applications for the benefits of the section. The regulation upon which respondent relies 6 does not prescribe the method by which the carryover at issue here is to be claimed. By its very terms, the regulation, to the extent here relevant, deals only with the method of claiming a carryover of an unused excess profits credit where the unused credit is produced by a "credit based upon a constructive average base period net income." As we have seen, the unused credit with which we are here concerned cannot be so classified.212 It may be that, under the broad grant of regulatory authority contained in section 722, the Commissioner could have prescribed the method by which a carryover of the type involved here had to be claimed. The fact is that he did not. This being the case, we conclude that petitioner is not bound to claim the carryover in question in accordance with the provisions of Regulations 112, section 35.722-5. Therefore, the authorities cited by respondent, 7 insofar as they relate to claims for carryovers arising in years in which a CABPNI computation was applied, are not controlling.213 Nevertheless, while we have decided that the petitioner was not required to meet the strict provisions of Regulations 112, section 35.722-5, with respect to the carryover, we are satisfied that the Form 991 filed December 28, 1949, would have represented an appropriate procedure for assertion of the benefit of the carryover had it in fact 29 been claimed therein. The very Regulations 112, section 35.722-5, upon which respondent relies, provide in part as follows:(c) Claim for refund. -- The application on Form 991 or Form 991 (revised January, 1943) shall be considered a claim for refund or credit with respect to the excess profits tax for the taxable year for which the application is filed which has been paid at or prior to the time such application is filed. * * We do not understand the respondent to claim otherwise. Indeed, the assumption is implicit throughout this record that the carryover would have been allowed had it in fact been claimed on the Form 991. Therefore, since the carryover could have been claimed properly on the Form 991 filed December 28, 1949, the only question remaining for decision is whether the amendment to the same Form 991 filed 214 February 25, 1952, was timely.The amended Form 991 filed February 25, 1952, in which petitioner specifically claimed the benefit of the carryover from 1941, was admittedly filed after the statutory period and would be barred unless it can be considered a timely amendment to the Form 991 timely filed December 28, 1949. It will be considered a timely or proper amendment to a timely claim if there had been no final determination of the timely claim at the time the amendment was filed, and if the timely claim included grounds for relief which were asserted specifically in the amendment. United States v. Memphis Cotton Oil Co., 288 U.S. 62">288 U.S. 62 (1933).While respondent had mailed to petitioner on February 26, 1952, a recomputation of its tax liability resulting from the action of the Excess Profits Tax Council, it was not until July 11, 1952, that respondent gave petitioner the notice required by section 732 of the disallowance in part of its claims for relief. Thus, July 11, 1952, was the date of final determination of the December 28, 1949, claim. Rockford Screw Products Co., 21 T.C. 834 (1954). It follows that the amended215 claim filed February 25, 1952, was filed prior to a final determination of the claim by respondent.The only issue left to be decided in determining the applicability of the rule of United States v. Memphis Cotton Oil Co., supra, is whether the December 28, 1949, claim included the grounds for refund which were asserted specifically in the claim filed February 25, 1952. We hold that it did.Petitioner had specifically claimed the carryover to 1943 on the excess profits tax return originally filed for that year. Petitioner had also specifically claimed the carryover to 1943 on the Form 843 filed on May 23, 1944, for a refund of that year's taxes. The respondent's deficiency notice mailed May 20, 1949, and the statement attached thereto, covering the petitioner's tax liability for the years 1942-1945, inclusive, gave full recognition to the existence of the carryover. The 30 accompanying statement declared with respect to respondent's excess profits tax computation for 1942:An unused excess profits credit in the amount of $ 598,024.78, arising in the Fiscal year April 30, 1941, has been applied against the excess profits net income for216 the fiscal year ended April 30, 1942 under the carry-over provisions of the law * That adjustment absorbed the entire carryover so that, under the respondent's determination, no carryover remained available for 1943 and the same statement referred to above contains no reference to the carryover in the 1943 computations. However, since there was but one deficiency notice covering all of the years 1942-1945, inclusive, and but one accompanying statement, the conclusion is inescapable that the respondent gave full effect therein to the claimed carryover to the extent that his computation made it applicable. Indeed, as we have found, the statement declared with respect to all of the years involved in the deficiency notice that careful consideration had been given to the May 23, 1944, refund claim which had asserted the benefit of the carryover. Furthermore, subsequent to his mailing of the deficiency notice on May 20, 1949, the respondent periodically increased the allowance for deductions asserted in the claim of May 23, 1944, particularly with respect to State taxes.Respondent recomputed petitioner's excess profits tax liability pursuant to section 722 on the basis of the 217 Excess Profits Tax Council's determination. This recomputation, although mailed to petitioner on February 26, 1952, was in fact completed on February 18, 1952, 7 days before petitioner mailed its amended refund claim on February 25, 1952. Respondent considered the carryover issue in this recomputation. As we have seen, the Forms 991 for the years 1941-1946, inclusive, were all filed by the petitioner at the same time. The respondent's recomputation with respect to all of those years together was contained in his letter of February 26, 1952. The recomputation with respect to 1942 gave full effect to the carryover and showed an excess credit as unused and, thus, available for carryover to 1943. Thereupon, in his recomputation for 1943, the respondent did not give effect to the carryover which his 1942 recomputation showed to be available, stating that the carryover to the fiscal year 1943 was not allowed because of failure to comply with Regulations 112, T.D. 5393, 1944 C.B. 415">1944 C.B. 415, 421; further citing our decision in Lockhart Creamery, supra.These circumstances, coupled with the fact that respondent had been on continuing notice of the218 existence of the carryover, constitute a consideration of the claim on the merits within the meaning of United States v. Memphis Cotton Oil Co., supra. See Wilmington Gasoline Corporation, 27 T.C. 500">27 T.C. 500 (1956).The amended claim involved no new research on the part of the 52 respondent, and the facts necessary to dispose of the amended claim must of necessity have been considered in connection with the original application. Therefore, from all of the circumstances of this case, we hold that the amendment filed February 25, 1952, was a timely amendment to the December 28, 1949, claim and may be properly considered under the rule of the Memphis Cotton Oil Co. case.Reviewed by the Special Division.Decision will be entered for the petitioner. Footnotes1. All section references are to the Internal Revenue Code of 1939, unless otherwise specified.↩2. The statement actually refers to this claim for refund as having been filed June 5, 1944. No claim was filed on that date. The May 23, 1944, claim which was stamped as having been received on that date by the collector was also stamped as having been received June 5, 1944, by the "Claims Control Section." From this circumstance, we have concluded that the reference to a claim filed June 5, 1944, was in reality a reference to the May 23, 1944, claim.↩3. SEC. 710. IMPOSITION OF TAX.(c) Unused Excess Profits Credit Adjustment. -- * * * (2) Definition of unused excess profits credit. -- The term "unused excess profits credit" means the excess, if any, of the excess profits credit for any taxable year beginning after December 31, 1939, over the excess profits net income for such taxable year, computed on the basis of the excess profits credit applicable to such taxable year↩. * * [Emphasis added.]4. SEC. 710. IMPOSITION OF TAX.(c) Unused Excess Profits Credit Adjustment. -- * * * (3) Amount of unused excess profits credit carry-back and carry-over. -- * * (B) Unused Excess Profits Credit Carry-Over. -- If for any taxable year beginning after December 31, 1939, the taxpayer has an unused excess profits credit, such unused excess profits credit shall be an unused excess profits credit carry-over for each of the two succeeding taxable years * ↩5. This amount has since been adjusted to $ 42,881.72.↩6. Regulations 112, sec. 35.722-5, as amended by T.D. 5393, 1944 C.B. 415">1944 C.B. 415, 421.Sec. 35.722-5 Application for Relief Under Section 722. -- (a) Requirements for filing. * ** * * *In order to obtain the benefits of an unused excess profits credit for any taxable year for which an application for relief on Form 991 (revised January, 1943) was not filed, using the excess profits credit based on a constructive average base period net income as an unused excess profits credit carry-over or carry-back, the taxpayer, except as otherwise provided in (d) of this section, must file an application on Form 991 (revised January, 1943) for the taxable year to which such unused excess profits credit carry-over or carry-back is to be applied within the period of time prescribed by section 322 for the filing of a claim for credit or refund for such latter taxable year. In addition to all other information required, such application shall contain a complete statement of the facts upon which it is based and which existed with respect to the taxable year for which the unused excess profits credit so computed is claimed to have arisen, and shall claim the benefit of the unused excess profits credit carry-over or carry-back. If an application on Form 991 (revised January, 1943) for the benefits of section 722 has been filed with respect to any taxable year, or if the filing of such application is unnecessary under (d) of this section, and if the excess profits credit based upon a constructive average base period net income↩ determined for such taxable year produces an unused excess profits credit for such year, to obtain the benefits of such unused excess profits credit as an unused excess profits credit carry-over or carry-back the taxpayer should file an application upon Form 991 (revised January, 1943), or an amendment to such application if already filed, for the taxable year to which such unused excess profits credit carry-over or carry-back is to be applied. [Emphasis added.]7. Lockhart Creamery, 1123">17 T.C. 1123 (1952); Packer Publishing Co., 17 T.C. 882 (1951); Barry-Wehmiller Machinery Co., 20 T.C. 705">20 T.C. 705 (1953); St. Louis Amusement Co., 22 T.C. 522 (1954); May Seed & Nursery Co., 24 T.C. 1131">24 T.C. 1131 (1955); Utility Appliance Corporation, 26 T.C. 366 (1956); likewise Headline Publications, Inc., 28 T.C. 1263">28 T.C. 1263↩ (1957).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621606/	Victory Sand and Concrete, Inc., Petitioner v. Commissioner of Internal Revenue, RespondentVictory Sand & Concrete, Inc. v. CommissionerDocket No. 3594-71United States Tax Court61 T.C. 407; 1974 U.S. Tax Ct. LEXIS 175; 61 T.C. No. 46; January 2, 1974, Filed 175 Decision will be entered for the petitioner. Petitioner was engaged in the business of extracting and selling sand and gravel from the Kansas River, on a tract of land owned by it. Sand and gravel in the bed of the river was replenished to some extent by the flow of the river but the quality and quantity thereof was diminishing, particularly after flood control and conservation dams were built on the tributaries of the Kansas River upstream from petitioner's mining area. Held, petitioner had an economic interest in the deposit of sand and gravel in its permit area sufficient to entitle it to percentage depletion deductions produced by its operations. Held, further, the mineral deposit in which petitioner had an economic interest is a wasting asset within the meaning of the depletion statutes. Howard A. Spies and Barney J. Heeney, Jr., for the petitioner.George T. Morse III, for the respondent. Drennen, Judge. Raum, J., dissents. Quealy, J., dissenting.DRENNEN407 Respondent determined deficiencies in petitioner's Federal corporate income tax as follows:YearDeficiency1967$ 2,175.9419682,487.0519692,551.57The issue for decision is whether petitioner is entitled to percentage depletion deductions under sections 611 and 613 with respect to sand and gravel which it extracted from the 178 Kansas River during the tax years at bar. Resolution depends on two subissues: (1) Whether the deposit of sand and gravel in the Kansas River must be shown to be exhaustible before petitioner may claim the allowances, and, if so, whether the deposit is, in fact, exhaustible; and (2) whether petitioner has an economic interest in its source of sand and gravel.FINDINGS OF FACTSome facts have been stipulated and are so found.Petitioner, a Kansas corporation, has its principal office and place of business in Topeka, Kans. Petitioner timely filed its tax return for the year 1967 with the district director of internal revenue at Wichita, Kans., and its returns for the years 1968 and 1969 with the Internal Revenue Service Center in Austin, Tex.Petitioner is engaged in the business of extracting sand and gravel from the Kansas River at Topeka, Kans., and either using it in the 408 concrete and asphalt business or selling it to others. The Kansas River is classified as navigable, so that the State of Kansas has title to the riverbed, including any natural resources therein. Petitioner's right to extract sand and gravel from the river derives from a contract with the Department179 of Revenue of the State of Kansas:CONTRACTThis contract, entered into this 17th day of May, 1965, by and between the Director of Revenue, Department of Revenue of the State of Kansas, party of the first part, and Victory Sand and Concrete, Inc., whose address is Interstate 70 & Storey St., Box 281, Topeka, Kansas party of the second part:Witnesseth: For the removal of sand or gravel from the bed or channel of the Kansas River on the following terms and conditions, to wit:1. Second party agrees to make, keep and preserve a record of all sand taken from the bed or channel of such river and sold by him; such record to be made and kept in such manner and form and in such detail as may be required by the Director of Revenue or his duly authorized agent.2. Second party agrees to make and file with the Director of Revenue by the fifteenth day of each month, a verified report of all sand taken from the bed or channel of such river and sold by second party during the preceding month, in such form as required by the Director of Revenue. The Director of Revenue reserves the right to cancel this contract, with or without notice, if second party shall neglect or refuse180 to report for a period of sixty days, as Provided [sic] herein.3. Second party agrees to permit the Director of Revenue, or his duly authorized agent, to make such inspections and examinations of the books, records, papers, documents and correspondence for any such inspection or examination as the Director of Revenue or his duly authorized agent, may deem necessary and proper, and to submit any such books, records, papers, documents or correspondence for any such inspection or examination at any time on demand of the Director of Revenue or his duly authorized agent.4. Second party agrees to pay to the Director of Revenue by the fifteenth day of the month a sum equal to two cents (2 cents) for each and every ton of sand taken from the river and sold during the preceding month. For the purpose of computing into tons sales made on a cubic yard basis, a cubic yard shall be treated as weighting 2,700 pounds.5. If at any time while this contract remains in force it shall be made to appear to the Director of Revenue that second party under this contract has not complied with this contract, the Director of Revenue, upon proper notice shall have the right to terminate this agreeemnt. 181 The second party shall have the right to terminate the agreement at any time upon payment to the Director of Revenue of all amounts due. The State reserves the right at all times, upon five days' notice to second party, to advance or reduce the rate of royalty payable under this contract or to change the basis of the royalty, such change to take effect upon the first day of the month next following.6. Second party agrees to comply with the orders of the Director of Revenue concerning locations, terms, and conditions under which sand shall be removed from any navigable river of the state, and will not take or remove sand from any such stream within a distance of 250 feet of any bridge or other structure crossing any such river, or to remove sand within a distance of 1500 feet above the location of the nearest plant or structure erected and maintained for purpose of taking sand from said river.409 Therefore, Victory Sand & Concrete, Inc., the said party of the second part, agrees to do and perform all the conditions imposed upon him by the terms of this contract, and in the event that the said second party fails, neglects or refuses to comply with all the terms of this contract182 as herein imposed, then this contract and all rights and privileges inuring to the benefit of said second party shall be forever forfeited and canceled.In Witness Whereof, the said parties have hereunto subscribed their signatures this 17th day of May, 1965.Petitioner also has a permit from the Division of Water Resources of the Kansas State Board of Agriculture which allows petitioner to make changes in the bed and flow of the Kansas River within a specified area along and upstream of petitioner's riverfront, but which specifically leaves authorization of the removal of sand and gravel to the State Department of Revenue:STATE OF KANSASState Board of AgricultureDivision of Water ResourcesPERMITThe Chief Engineer of the Division of Water Resources, by virtue of the powers and duties vested in and imposed upon him by K.S.A. 82a-301 to 305, regulating the placing of obstructions in rivers and streams and providing penalties for the violation thereof, hereby issues this permit to Victory Sand & Concrete, Inc., I-70 & Storey Street, Box 281, Topeka, Kansas, pursuant to a written application filed in the office of the Division of Water Resources, State Board of Agriculture, 183 on the 4th day of June, 1965, giving his consent to said Victory Sand & Concrete, Inc., to change in certain respects the course, current and cross section of the Kansas River while in the process of producing sand and gravel from the river bed, retaining the desired material and returning the waste materials and water to the location hereinafter described.The proposed location of the sand plant is along the right bank of a straight reach of the Kansas River. The width of the river at the proposed site is approximately 750 feet. Sand bars which have formed along the left bank of the stream have caused the principal flow to be located in the southern two-thirds of the channel. Levees are located on both banks of the river in the area of proposed operations. The left bank is protected by a substantial growth of trees and vegetation. The right bank is protected to some extent by trees, reject concrete and oversize material placed in previous operations in the area upstream from the tipple. A considerable amount of reject concrete has been disposed along the right bank at a location near the downstream limit of removal operations, extending some distance into the channel beyond184 the natural bank line.* * * This permit is issued subject to the following conditions and restrictions, based upon the above-described physical condition of the river bed and banks at this location, and which shall be limitations to the rights and privileges granted, to wit:1. The provisions of this permit apply to an area in the SE 1/4 of Section 23, SW 1/4 of Section 24, NW 1/4 of Section 25 and NE 1/4 of Section 26, all in Township 11 South, Range 15 East of the Sixth Principal Meridian in Shawnee 410 County, Kansas, within and along the Kansas River for a distance of approximately 1010 feet, beginning at a point opposite station 2+00 (W) and extending downstream to a point opposite station 8+10 (E), with reference to the base line shown on the plat which accompanied the application for this permit.* * * 7. This permit is issued subject to the condition that Victory Sand & Concrete, Inc., also obtain proper authority from and comply with all the requirements of the Director of Revenue, Department of Revenue, State of Kansas, covering the proposed sand pumping operations and payment of sand royalties.8. The Chief Engineer of the Division of Water Resources further 185 reserves the right to modify, suspend or revoke this permit at any time, should such action be deemed necessary in the interest of public safety and welfare. This permit is issued for the period ending October 13, 1966, and if not previously revoked or specifically extended, shall cease and be null and void.This permit was extended, at petitioner's request, to October 13, 1969, at yearly intervals. Petitioner failed to request an extension for the period from October 13, 1969, to October 13, 1970, and none was granted by the State board. Petitioner nonetheless continued its dredging operations for that period, and did request an extension for the year October 13, 1970, to October 13, 1971, which was granted.Petitioner's operations are conducted from a 19.2-acre tract within the Topeka corporate limits and with 1,155 feet of frontage on the Kansas River. This location has been used as a sand and gravel extraction site for approximately 47 years. From about 1926 until 1931, the site was used by the Johnson Sand & Gravel Co.; in 1931, it was taken over by the Victory Sand Co.; in 1963, petitioner was incorporated, and on January 1, 1964, it took over operations at the location 186 in question. Petitioner's is not the only business extracting sand and gravel from the Kansas River in Topeka. However, there are no sites suitable for profitable dredging operations within a reasonable distance of Topeka which are not already in use for such. When petitioner purchased its present site from the Victory Sand Co., that location was the only one available to it in or around Topeka.Johnson Sand & Gravel Co. extracted only "flow sand" -- sand currently being washed downstream by the river. The company had stretched a cable across the river. A clam bucket was run across the cable and dipped into the river channel where sand flowed free of mud. The contents of the bucket were then run through a revolving screen to separate sand from other material.When Victory Sand Co. took over operations in 1931, it began extracting sand by means of a dredging pump mounted on a barge. Petitioner uses the same method at present. A suction line with a dredging chain attached to its free end is lowered into the river. The motor-driven chain loosens the sand, which is pumped through the 411 line to the barge and from there, by the same pump, through a discharge line into petitioner's187 sand-grading plant. The discharge line is supported by pontoons and is limited in length to 200 or 300 feet, which is about the greatest distance the pump can force a stream of dredged material. Some sand producers use a "booster" pump to extend the maximum length of the discharge line. The riverbed is about 1 1/2 miles from bluff to bluff at the upstream end of petitioner's riverfront and is no more than 500 yards across at the downstream end. The channel actually occupied by the river is slightly more than 700 feet across at petitioner's upstream property line and about 800 feet across at the downstream line. The area covered by petitioner's Division of Water Resources permit is not coextensive with its riverfront, but begins about 200 feet upstream of it and ends about 350 feet upstream of petitioner's downstream line. Due to the existence of two submerged sandbars across the river from petitioner's site, the flow of the river's principal current is approximately 450 feet wide at the upstream end of petitioner's permit area, 500 feet wide at petitioner's upstream property line, 500 feet at the downstream end of the permit area, and 550 feet at petitioner's downstream property188 line. Petitioner has anchor points for its barge only between its upstream property line and its sand-processing plant. The processing plant is about 350 feet below the upstream property lines -- 550 feet below the upstream end of the permit area -- and about 800 feet above the downstream property line -- 450 feet above the downstream end of the permit area.On shore, dredged material is run through a succession of wire sieves, each extracting progressively smaller particles of sand. Petitioner markets basically four grades of sand: A coarse sand or gravel, a concrete sand, a mason sand, and a fill sand. Petitioner also prepares blends of various grades of sand to customers' specifications. Petitioner sells its sand and gravel either to a subsidiary corporation, which is engaged in the concrete mix and asphalt business at the same location, or to others. Prices for petitioner's four basic marketable grades range from 70 or 75 cents per ton for fill sand to $ 1.75 per ton for coarse sand or gravel. Petitioner maintains a stockpile of about 25,000 tons of sand of all grades. During about 3 months in the winter, freezing conditions prevent dredging operations, and petitioner 189 sells only from its stockpile. Petitioner's annual production for the tax years at bar averaged between 125,000 and 150,000 tons. When petitioner is replenishing certain grades in its stockpile, or dredging for certain grades to meet a customer's specification, sands of other grades which need not be stockpiled are "wasted" -- fed back into the river to be carried downstream.Prior to 1931 when petitioner's predecessor began extracting sand and gravel by the dredging and suction process, the bed of the Kansas 412 River in this area was virgin sand, probably deposited by glaciation, with "flow" sand on top. The virgin sand was closely packed and consisted of coarser sand and gravel than the "flow" sand. The virgin deposits within reach of petitioner's suction lines were exhausted in the early 1940's when it was used to construct a nearby Air Force base. Petitioner's present dredging operations are dependent upon replenishment of sand and gravel in the riverbed by the flow of the river. In the dredging and suction operation a hole is cut or dredged in the riverbed and sand and gravel is broken loose and sucked through a hose or pipe to a barge or the shore. When all of the190 material is extracted from the hole, the equipment is moved to another location where the process is repeated. These holes are refilled with sediment flowing down the river, including sand and gravel, mud, leaves, and other organic matter. Such replenishment occurs by erosion of sand and gravel deposits above Topeka by the Kansas River and its tributaries, the transport downstream of such eroded material by the river, and the deposit of such material at petitioner's operating site. The sand and gravel deposited by the flow of the river are not as coarse or as clean as the virgin sand and the quantity of marketable sand is diminished.In about 1962 and 1967, two flood control dams were closed on tributaries of the Kansas River upstream of petitioner's permit area at Topeka. At sometime prior to the tax years at bar, seven other dams were constructed on watercourses that feed, directly or indirectly, into the Kansas River to the west, or upstream, of Topeka. These dams tend to trap 90 percent or more of the sediment, including sand and gravel, which flows downstream to them. Another effect of the dams has been to even out the flow of water coming down the Kansas River; floods 191 have been eliminated, for the most part, and so have periods of extreme low water.These dams have altered the flow of sand and gravel down the river, reducing it in quantity and decreasing the quantity of coarse sand and gravel in it. While petitioner and other sand and gravel operators on the Kansas River in this vicinity are still able to extract sand and gravel of sufficient grade and quantity to make their operations economically feasible, they have to return greater quantities of fill sand, which is finer and not readily marketable, to the river. About 80 miles downstream from petitioner's operation, at a sand and gravel operation near Kansas City, there has not been enough "flow" sand to replenish dredged deposits, so only virgin deposits are presently being extracted.Mark H. Hibpshman, a geologist with the Bureau of Mines of the United States Department of Interior, made a study in 1968 of the availability of sand and gravel along the Kansas River between Junction City, Kans., which is about 70 miles upstream from petitioner's 413 operation, and Kansas City. On the basis of his study, Hibpshman concluded that while there were large glacial deposits of sand and gravel192 lying north of the Kansas River which were traversed by streams which, directly or indirectly, were tributaries of the Kansas River, he could not determine at that time whether the supply of sand and gravel to the Kansas River below the dams was being exhausted.ULTIMATE FINDING OF FACTThe deposit of sand and gravel in the Kansas River in petitioner's permit area was exhaustible and a depleting asset during the years here involved.OPINIONThe only issue in this case is whether petitioner is entitled to a deduction for depletion in determining its taxable income from removing sand and gravel from the Kansas River and either selling it to a subsidiary which was to produce concrete or asphalt, or selling it to others. Petitioner claimed deductions for each of the years here involved computed as a percentage of its gross income from the sale or other disposition of the sand and gravel removed. Respondent disallowed the entire amount of the deductions claimed.Respondent bases his disallowance of the deductions on two arguments: (1) That petitioner did not have the requisite economic interest in the sand and gravel in the Kansas River to entitle it to the depletion deduction, and (2) 193 the sand and gravel in petitioner's permit and operating area is not exhausted by extraction and, therefore, does not qualify as a depletable asset. Petitioner counters with the arguments: (1) That it has an economic interest in the sand in the river obtained by its investment in the land adjacent to the river used for extraction of the sand and by its exclusive permit and contract from the State of Kansas for removing the sand, and (2) that a percentage depletion deduction is allowed for the extraction and sale of sand under section 613(b)(6)1 regardless of whether it is exhausted by extraction, but in any event, the marketable grades of sand are being exhausted by extraction and, therefore, the sand is a depletable asset.For reasons hereinafter stated, we agree with petitioner, although the conclusion is not entirely free of doubt.Section 611(a) provides that in case of mines, oil and gas wells, other natural deposits, 194 and timber, there shall be allowed as a deduction in computing taxable income a reasonable allowance for depletion, to be determined under regulations prescribed by the Secretary 414 or his delegate. Section 613(a) provides that in the case of mines, wells, and other natural deposits listed in subsection (b), the allowance for depletion under section 611 shall be a percentage, specified in subsection (b), of the gross income from the property, which is defined in subsection (c) as the gross income from mining. Section 613(b) provides that the mines, wells, and other natural deposits, and the percentages, referred to in subsection (a), are as set forth in the seven paragraphs following, paragraph (6) of which allows 5 percent for "sand" and other minerals listed therein.The basic precepts upon which the allowance of a deduction for depletion are based have been stated in so many cases that we need do no more than allude to them here, limiting our discussion to those which must resolve the issue before us.The depletion deduction is a matter of legislative grace. It is allowed in recognition of the fact that mineral deposits are wasting assets and that the extraction of the195 minerals gradually exhausts the capital investment in the mineral deposit. It was designed to permit a recoupment of the owner's capital investment in the minerals so that when the minerals are exhausted the owner's capital is unimpaired. It was originally geared to cost, i.e., allocation of the total investment among the total quantity of units in the deposit and allowance of a deduction for the part of the investment allocated to the units removed. The granting of an arbitrary deduction based on a percentage of gross income from the property, the percentage depletion now provided under section 613, was in the interest of convenience and in no way altered the fundamental theory of the allowance. Helvering v. Bankline Oil Co., 303 U.S. 362">303 U.S. 362 (1938); Commissioner v. Southwest Expl. Co., 350 U.S. 308">350 U.S. 308 (1956). However, percentage depletion --bears little relationship to the capital investment, and the taxpayer is not limited to a recoupment of his original investment. The allowance continues so long as minerals are extracted, and even though no money was actually invested in the deposit. * * * [Commissioner v. Southwest Expl. Co., supra.]196 To be entitled to the depletion deduction, the taxpayer must have an interest in the mineral deposit, although it has long been recognized that the deduction is not dependent upon the particular legal form of the taxpayer's interest in the property to be depleted. In Palmer v. Bender, 287 U.S. 551">287 U.S. 551 (1933), the Supreme Court recognized that an economic interest in the property is sufficient and referred to such interest as one in which "the taxpayer has acquired, * * by any form of legal relationship, income derived from the extraction of the oil, to which he must look for a return of his capital." This terminology has been adopted as the definition of "economic interest" by the courts, Paragon Coal Co. v. Commissioner, 380 U.S. 624">380 U.S. 624 (1965); Commissioner v. Southwest Expl. Co., supra, and in the regulations, sec. 1.611-1(b)(1). 415 The principal issue arising in depletion cases since Palmer v. Bender, supra, has been whether the taxpayer, under varying circumstances, possessed such an economic interest as would entitle him to the depletion197 deduction. Robert Lee Merritt, 39 T.C. 257">39 T.C. 257 (1962), revd. 330 F. 2d 161 (C.A. 4, 1964), revd. sub nom. Paragon Coal Co. v. Commissioner, 380 U.S. 624">380 U.S. 624 (1965).In a series of cases decided in 1938 the Supreme Court determined that the interest in the mineral deposit must be direct (i.e., a stockholder of a corporation having such interest does not qualify), Helvering v. O'Donnell, 303 U.S. 370">303 U.S. 370 (1938), that a taxpayer who disposes of his interest in mineral properties by sale does not retain the requisite economic interest even though as part payment he receives a percentage of the net profits from production of the minerals by the buyer, Helvering v. Elbe Oil Land Co., 303 U.S. 372">303 U.S. 372 (1938), and that the phrase "economic interest" does not embrace a mere economic advantage derived from production, through a contractual relation to the owner, by one who has no capital interest in the mineral deposit, Helvering v. Bankline Oil Co., supra. The latter principle was applied in denying depletion 198 deductions to contract coal miners who mined the coal for the owner of the economic interest in the coal in place and delivered it to the owner for a fixed price in Parsons v. Smith, 359 U.S. 215 (1959), and Paragon Coal Co. v. Commissioner, supra. In Parsons v. Smith, supra, the Court listed seven facts upon which it based its conclusion that the contract miners did not possess the requisite economic interest in the minerals in place for a depletion deduction, which have been used as guidelines in subsequent cases, see Lesta Ramey, 47 T.C. 363">47 T.C. 363 (1967), affd. 398 F. 2d 478 (C.A. 6, 1968), Charles P. Mullins, 48 T.C. 571">48 T.C. 571 (1967), and Bakertown Coal Co., Inc. v. United States, 485 F. 2d 633 (Ct. Cl. 1973), and which will be referred to later herein.And, finally, in somewhat of a departure from precedent, the Supreme Court held in Commissioner v. Southwest Expl. Co., supra, that upland owners who had no direct interest in the 199 minerals in place but whose land was essential to the drilling for and extraction of offshore oil and who contributed the use of that land in return for a share of the net profits from the production of that oil thereby acquired an economic interest which entitled them to depletion on the income thus received. Several years later, this Court, in Oil City Sand & Gravel Co., 32 T.C. 31">32 T.C. 31 (1959), appeal dismissed, in complete reliance on the Southwest Expl. Co. case, held, under facts very similar to the facts in this case, that a taxpayer who was extracting sand and gravel from the bed of the Allegheny River under a permit from the State of Pennsylvania had an economic interest in the sand and gravel deposits which entitled it to depletion by virtue of its ownership of the only 416 land adjacent to the sand deposits which could be used, and were used, in the extraction and production process. These two cases are the only cases we have been able to find which have allowed depletion deductions to taxpayers who did not have, or may not have had, in the Oil City case, a direct interest in the minerals being produced.The facts and circumstances200 in this case are so similar to those in the Oil City case that that case, backed by the principle enunciated in the Southwest Expl. Co. case, is ample authority for us to conclude here that petitioner had an economic interest in the sand and gravel deposits which it extracted by virtue alone of its ownership of the tract of land adjacent to the riverbed deposits which, the evidence shows, was the only land available from which these deposits could be extracted and which petitioner contributed to the extraction and production process. Respondent, on brief, attempts to distinguish the Oil City case from this case on the facts, but fails to do so.In addition, however, we find that petitioner had an economic interest in the deposits from which it removed the sand and gravel without reliance on the principle espoused in the above two cases. Petitioner operated on the Kansas River removing sand and gravel under a permit issued by the Kansas State Board of Agriculture, Division of Water Resources, and under a contract with the Kansas Department of Revenue. The permit extended for a period of only 1 year but was renewable annually, and provided that the division's chief engineer201 may "modify, suspend or revoke the permit at any time, should such action be deemed necessary in the interest of public safety." Respondent relies on the latter provision in arguing that petitioner's interest in the deposit was terminable on short notice without cause and, therefore, does not qualify as an economic interest under the third (3) factor set forth in Parsons v. Smith, supra, and relied on by this Court in disallowing depletion deductions in Lesta Ramey, supra, and Charles P. Mullins, supra.See, however, Bakertown Coal Co., Inc. v. United States, supra.First, the right of a State officer to terminate for purposes of public safety is not the type of termination clause referred to in the above cases; we assume that the proper State officer might close down a mining operation in the interest of public safety regardless of the terms of a lease. In any event, respondent's argument fails because petitioner's right to remove sand and gravel from the Kansas River depends upon its contract with the State Department of Revenue and not upon the permit. 202 2Kan. Stat. Ann. secs. 70a-101, 70a-102 (1972); Dreyer v. Siler, 180 Kan. 765">180 Kan. 765, 308 P. 2d 127 (1957). That contract is not terminable without cause on short notice; it bears no termination date, and may be abrogated by the State only upon failure by petitioner to comply 417 with its reporting and royalty payment requirements and other express provisions. At most, the permit affects the manner in which petitioner must exercise its right -- in a fashion similar to Government-imposed safety regulations in a mine, for example -- not the existence of the right itself. Furthermore, the State law provides that no one else may remove sand and gravel from the river within 1,500 feet of petitioner's operation, which gives petitioner the exclusive right to extract the mineral from its designated area.Referring to some of the other factors set forth in Parsons v. Smith, supra,203 as guidelines for determining whether a taxpayer has an economic interest that qualifies for the depletion deduction, we find: That petitioner's investment was not all in movable equipment but was also in the land and the sand and gravel in place which was not recoverable through depreciation; that the State surrendered to petitioner its interest in the sand and gravel that was removable by extraction; that the sand and gravel, after it was removed, belonged entirely to petitioner, there was no requirement that any part of it be delivered to the State, and petitioner was free to sell or use it in any way it wanted, and had to look solely to the proceeds of its sale of the sand and gravel for a return of its investment. We think it is clear that petitioner had an economic interest in the sand and gravel in place; more so even than did petitioner in the Oil City case.This does not provide the final answer to the issue before us, however, because respondent argues that the sand and gravel in the riverbed was constantly being replenished by the flow of the river and hence does not qualify as a depletable asset. Petitioner claims first that a depletion deduction for sand is allowed204 under section 613(b)(6)(A) without reference to exhaustibility, as is made in paragraph (b)(7)(B), so the question of exhaustibility is irrelevant; but if it is relevant, the sand and gravel of the grade petitioner can use is not inexhaustible. We disagree with petitioner's first contention but agree with its second contention.Section 613 does not provide the deduction for depletion; it simply provides a method of computing depletion, based on percentages of gross income from mining, and sets forth the percentages to be used with respect to the various minerals listed therein. The depletion deduction is provided by section 611(a) which "[allows] as a deduction * * a reasonable allowance for depletion * * * according to the peculiar conditions in each case." This language does not specifically provide the answer to the question either, and we find nothing in the legislative history of these statutory provisions which does so with certainty. Nevertheless, the courts and the regulations appear to have assumed that exhaustibility is a precondition for the allowance of a depletion deduction, and this appears to be justified.418 The deduction is an allowance for "depletion." 205 "Depletion" is defined in Webster's Dictionary as the "act of depleting, or state of being depleted. Accounting. Impairment of capital." "Deplete" is defined -- "2. To reduce by destroying or consuming; * * * to exhaust." Certainly, in common understanding, an allowance for depletion would mean an allowance for reducing the quantity of a limited or exhausting supply, and that is what we believe Congress intended the allowance to mean.Petitioner argues that when Congress added paragraph (7) to section 613(b)3 providing the percentage rate of depletion for "all other minerals" and in subparagraph (B) provided that "all other minerals" does not include "minerals from sea water, the air, or similar inexhaustible sources" it evidenced an intent to make exhaustibility a criterion only for "all other minerals." We disagree. We think that if any implication can be drawn from the use of the word "inexhaustible" in paragraph (7)(B), it is that Congress was recognizing that depletion is allowable only in the case of exhaustible mineral deposits; otherwise, there would have been no reason to differentiate between other minerals for which depletion is allowed and minerals from "similar206 inexhaustible sources" for which depletion is not allowed. In addition, we think that the last sentence of section 613(b) makes sense only if Congress considered exhaustibility to be a general prerequisite to percentage depletion. Otherwise, there would be no reason for Congress to have made the sentence, with its reference to "an inexhaustible source," apply to all of section 613(b) instead of merely to section 613(b)(7) or to make reference to sodium chloride, covered by section 613(b)(4) and thus beyond the reach of section 613(b)(7).207 See also the report of the Staffs of Joint Committee on Internal Revenue Taxation and Senate Committee on Finance, 91st Cong., 1st Sess., Summary of H.R. 13270, Tax Reform Act of 1969, pp. 75-76, wherein it was stated:Present law. -- At present, percentage depletion is granted to a wide range of minerals. * * * Percentage depletion is not granted in the case of soil * * * or minerals from sea water, the air, or similar inexhaustible sources. 4The regulations also contain a reference to exhaustible resources. Section 1.611-1(a), Income Tax Regs., reads in part:Section 611 provides that there shall be allowed as a deduction * * * in the case of * * * other natural deposits * * * a reasonable allowance for depletion. * * * In 419 the case of other exhaustible natural resources the allowance for depletion shall be computed * Subparagraph (d)(5) of the regulation, in defining minerals, states:"Minerals" includes ores of the metals, coal, oil, gas, and all other natural metallic and nonmetallic deposits, except minerals derived from sea water, the air, or from similar inexhaustible sources. * *208 And finally, as heretofore stated, the cases refer time and again to "wasting assets," "depletable assets," and "exhaustion of assets" in discussing the allowance for depletion. In Helvering v. Bankline Oil Co., 303 U.S. 362">303 U.S. 362, 366-367 (1938), the Supreme Court, in referring to the fundamental purpose of the depletion allowance, said:It is permitted in recognition of the fact that the mineral deposits are wasting assets and is intended as compensation to the owner for the part used up in production. United States v. Ludey, 274 U.S. 295">274 U.S. 295, 302. * In Commissioner v. Southwest Expl. Co., 350 U.S. 308">350 U.S. 308, 312 (1956), the Court said:An allowance for depletion has been recognized in our revenue laws since 1913. It is based on the theory that the extraction of minerals gradually exhausts the capital investment in the mineral deposit. Presently, the depletion allowance is a fixed percentage of gross income which Congress allows to be excluded; this exclusion is designed to permit a recoupment of the owner's capital investment in the minerals so that when the minerals are exhausted, 209 the owner's capital is unimpaired. * * In Paragon Coal Co. v. Commissioner, 380 U.S. 624">380 U.S. 624, 631 (1965), the Court again said:This Court has often said that the purpose of the allowance for depletion is to compensate the owner of wasting mineral assets for the part exhausted in production, so that when the minerals are gone, the owner's capital and his capital assets remain unimpaired. * And, in Arthur E. Reich, 52 T.C. 700">52 T.C. 700, 711 (1969), affd. 454 F. 2d 1157 (C.A. 9, 1972), this Court found it necessary to determine whether the supply of geothermal steam there involved was an exhaustible natural resource, stating:The third question is whether the steam at The Geysers is an exhaustible resource. It is undisputed that if the steam is inexhaustible, Thermal is not entitled to an allowance for depletion. * In all of the above cases, the minerals involved were of the kind specifically mentioned in the first six paragraphs of section 613(b), as is the sand in this case. We conclude that in order for petitioner to be entitled to a depletion deduction the sand and gravel being extracted210 by petitioner must be subject to exhaustion and the question whether it is or is not is quite relevant and material to the disposition of this 420 issue. So we must determine whether the minerals being extracted by petitioner are depletable assets.In Oil City Sand & Gravel Co., 32 T.C. 31">32 T.C. 31, 33 (1959), this Court made the following finding of fact:The material (sand and gravel) composing the riverbed deposits which the petitioner has dredged and continues to dredge was deposited by glacial action. Once such deposits are removed or exhausted they are not replaced to any extent by action of the river. The river merely deposits mud in the places from which such deposits were removed and there is no market for mud.Apparently respondent made as his principal argument in that case that petitioner had no economic interest in the sand and gravel, and did not press an argument that the sand and gravel was not a depleting asset, because we are unable to determine from the opinion the basis for the above finding that the riverbed deposits there involved, once removed or exhausted, are not replaced to any extent by action of the river. In the trial 211 of this case most of the testimony of the witnesses was directed to this point, and we must decide this case on the evidence presented. Unfortunately, the evidence presented was not conclusive and, as we stated in Arthur E. Reich, supra, the question presented, involving the resolution of geological and engineering disputes, is a difficult one for a judicial body. While, fortunately, the question of exhaustibility and replenishment should not be involved in most of the mineral deposits mentioned in section 613(b), simply because of their nature, section 611(a) does appear to recognize that unspecified questions such as this might affect the right to a depletion allowance by inclusion of the words "according to the peculiar conditions in each case."The evidence in this case reveals that the Kansas River at the location of petitioner's permit area runs from west to east and lies just north of the southern limit of glaciation. As indicated on the geological survey map introduced in evidence, most of the land lying within 100 miles north of the river consists of "drift," "till." Geologically, "drift" is defined as:any rock material, such as bowlders, 212 till, gravel, sand, or clay, transported by a glacier and deposited by or from the ice or by or in water derived from the melting of the ice."Till" is defined as:that part of a glacial drift consisting of material deposited by and underneath the ice, with little or no transportation and sorting by water; it is a generally unstratified, unconsolidated, heterogeneous mixture of clay, sand, gravel, and bowlders. [See "A Glossary of the Mining and Mineral Industry," Bull. 95, U.S. Department of the Interior.]There are several rivers and smaller streams which traverse this area and eventually become tributaries of the Kansas River upriver from petitioner's location. However, in 1962 and 1967 two flood control dams were closed on the tributaries of the Kansas River upstream of petitioner's 421 location and at some time before the tax years at bar, seven other dams were constructed on watercourses that feed, directly or indirectly, into the Kansas River above petitioner's location. According to the testimony of a witness from the engineering division, water control section, of the Corps of Engineers located in Kansas City, these dams tend to trap 90 percent or more of the213 sediment, including sand and gravel, which flows downstream to them. They also even out the flow of water coming down the river, eliminating for the most part floods and periods of extreme low water.We glean from the evidence that the sand and gravel deposits in this area of Kansas were originally glacial deposits; that the dryland surface consists of very fine sand or a sandy loam, that the sand gets coarser the deeper one goes from the surface, and that the consistency becomes that of gravel as one approaches the water table level, at a depth of 25 to 30 feet below the surface. Prior to 1931, when petitioner's predecessor started mining the sand at this location by dredging and suction pumps, the bed of the river consisted of virgin sand which was firmly packed and was a coarse sand and gravel. In mining this virgin sand the miner drilled or dredged a hole in the riverbed and extracted the material, moving to various locations within the permit area as the virgin sand was exhausted. Prior to construction of the dams and levees upstream, the holes would refill with material brought downstream by the flow of the river; but this material was for the most part a finer grade of 214 sand than the virgin sand and often contained mud, leaves, and other organic matter. When these holes were pumped out, the extraneous matters were screened out and sand and gravel was extracted, but it was of a finer grade, and much of it was not salable and was dumped back into the river. When the dams were built much less suspended sediment flowed downstream, and the grade of the refill sand became even finer. However, sand miners have been able to extract, up through the years here involved, enough sand of sufficient grade and quality to make their operations economically feasible.The obtainable virgin sand at petitioner's location was mined out in the early 1940's when it was used to build a nearby Air Force base. Consequently, petitioner has been extracting mostly refill sand and gravel since it took over the operation in 1964. It was not known at the time of the trial whether the river at petitioner's location would continue to deposit sand and gravel of sufficient grade and quality in petitioner's permit area to make it economically feasible for petitioner to continue its operations at that location for any extended length of time. While some of the sand and gravel from215 the "drift" or "till" deposits north of the river might eventually wash down to petitioner's permit area to replenish the sand and gravel extracted, the testimony of the geologist-witness who made a survey and report on the subject in 1968 or 1969 was to the effect that the quality and quantity of such 422 replacement, and the time it would take, could not be determined at that time.Based on the evidence presented and our research on the purpose for the allowance of a deduction for depletion, we think the sand in petitioner's permit area of the Kansas River must be considered exhausting and a depletable asset within the meaning of sections 611 and 613, particularly for percentage depletion purposes. The legislative history of the evolution of percentage depletion from cost and discovery depletion, to oil and gas in 1926, and then to include almost all minerals and mineral deposits under present law, indicates that various economic factors, such as the encouragement of exploration for and production of needed materials, the relief of depressed industries, employment, and competition, have been a major consideration in the extension of the allowances by Congress. Consequently, 216 we think we should take a practical economic approach in determining whether petitioner's mineral deposit is a depletable asset within the intendment of Congress. See Commissioner v. Southwest Expl. Co., 350 U.S. 308">350 U.S. 308 (1956).It is true that petitioner's sand deposit is replenished to some extent by the flow of the river, but the evidence indicates that it is not being replenished with the same grade, quality, and quantity of sand that has been extracted, and that the grade and quality of the replenishment sand is diminishing, particularly since the advent of the flood control and water conservation dams upstream. The virgin sand has been exhausted and would not be replaced, even if all extraction processes stopped, for many years. (We assume this is what the Court had reference to in its findings of fact in Oil City Sand & Gravel Co., 32 T.C. 31 (1959), referred to above.) Economically, it should not be necessary that a mineral deposit be subject to complete physical exhaustion to qualify for the depletion allowance; if the mineral supply is being diminished in quantity or quality so as eventually to make it economically217 unfeasible to extract a marketable product, it will qualify as a wasting asset for depletion purposes. Under the circumstances, we find that petitioner's investment in the sand deposit, and its economic interest therein, is being depleted as each ton of sand and gravel is extracted, that the deposit is a wasting asset, and that petitioner is entitled to the percentage depletion deduction with respect thereto.We find support for this conclusion in United States v. Ludey, 274 U.S. 295">274 U.S. 295 (1927), in which the question was whether the basis in an oil deposit had to be reduced by depletion. The taxpayer argued that the oil deposit should not be depleted because oil is a fugacious mineral and it cannot be known that the reserve had been diminished by the operation of the wells. In rejecting this argument, the Court said:Perhaps some land may be discovered which, like the Widow's cruse, will afford an inexhaustible supply of oil. But the common experience of man has been 423 that oil wells, and the territory in which they are sunk, become exhausted in time. Congress in providing for the deduction for depletion of oil wells acted on that experience. 218 * * Don C. Day, 54 T.C. 1417">54 T.C. 1417 (1970), while involving a different issue, also supports our conclusion. In that case respondent argued that since the water in the Ogallala water reservoir in Texas would be replenished by seepage of water underlying adjoining properties, the sale of the rights to use water under a taxpayer's property for a term of years was not the sale of the entire interest in the water. This Court, in holding against respondent, referred to United States v. Ludey, supra, and United States v. Shurbet, 347 F. 2d 103 (C.A. 5, 1965), as recognition of the fact that because mineral deposits might be replenished from adjoining lands did not make them inexhaustible assets.Finally, we note that Congress' specific purpose in enacting the last sentence of section 613(b), supra, was to reverse Rev. Rul. 65-7, 1 C.B. 254">1965-1 C.B. 254, in which respondent had determined that saline minerals in the Great Salt Lake were inexhaustible because continuously replenished by dissolved salts carried in each year by streams. Congress determined219 that such replenishment had been diminished by water conservation practices and that percentage depletion was appropriate. See, e.g., S. Rept. No. 91-552, 91st Cong., 1st Sess., p. 181 (1969).We conclude that this petitioner had an economic interest in the sand deposit in the Kansas River within its permit area during the years here involved, which was a wasting asset, and petitioner is entitled to deduct the allowance for depletion with respect to that deposit provided in section 613(b)(6).Decision will be entered for the petitioner. QUEALYQuealy, J., dissenting: Assuming that the petitioner had an economic interest in the sand and gravel which he was licensed to remove from the Kansas River, in order to be entitled to percentage depletion it was incumbent on petitioner to prove that the deposit was exhaustible. The record will not support such a finding.The sand and gravel which was being taken from the Kansas River by the petitioner was not the original so-called virgin sand, but materials which had been deposited on the riverbed since that sand had been removed some 25 years before. The process of replenishment had been going on ever since. Thus, in the opinion220 of the majority, it is stated:Mark H. Hibpshman, a geologist with the Bureau of Mines of the United States Department of Interior, made a study in 1968 of the availability of sand and gravel along the Kansas River between Junction City, Kans., which is about 70 miles upstream from petitioner's operation, and Kansas City. On the basis of 424 his study, Hibpshman concluded that while there were large glacial deposits of sand and gravel lying north of the Kansas River which were traversed by streams which, directly or indirectly, were tributaries of the Kansas River, he could not determine at that time whether the supply of sand and gravel to the Kansas River below the dams was being exhausted.No proof could be offered that the deposits would, in fact, be exhausted at any time in the future. Absent such proof, the petitioner cannot prevail. Footnotes. Pursuant to a notice of reassignment sent to counsel for all parties, and to which no objections were filed, this case was reassigned by the Chief Judge on Aug. 9, 1973, from Judge Austin Hoyt to Judge W. M. Drennen for disposition.↩1. All section references are to the Internal Revenue Code of 1954, unless otherwise indicated.↩2. We note that petitioner operated 1 year without a permit.↩3. Sec. 613(b)(7):(7) 14 percent -- all other minerals * *. For purposes of this paragraph, the term "all other minerals" does not include -- (A) soil, sod, dirt, turf, water, or mosses; or(B) minerals from sea water, the air, or similar inexhaustible sources.↩For purposes of this subsection, minerals (other than sodium chloride) extracted from brines pumped from a saline perennial lake within the United States shall not be considered minerals from an inexhaustible source.4. But compare H. Rept. No. 91-413 (Part I), 91st Cong., 1st Sess., pp. 136-138 (1969), as to the scope of the requirement of exhaustibility.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621607/	Peninsula Steel Products & Equipment Company, Inc., Petitioner v. Commissioner of Internal Revenue, RespondentPeninsula Steel Products & Equipment Co. v. CommissionerDocket No. 11012-77United States Tax Court78 T.C. 1029; 1982 U.S. Tax Ct. LEXIS 76; 78 T.C. No. 74; June 17, 1982, Filed 76 Decision will be entered under Rule 155. Petitioner manufactures pollution control equipment under short-term and long-term purchase orders or contracts. Petitioner maintains raw materials and work-in-process inventory accounts. During the manufacturing process, costs of raw materials, labor, and overhead are accumulated in work-in-process inventory accounts. When performance is completed under a purchase order or contract, income is recognized and the associated costs are relieved from inventory and charged to cost of goods sold. A significant portion of the work performed by petitioner during the years in issue related to long-term contracts requiring advance payments during the course of manufacturing.During the years in issue, petitioner used LIFO to value inventories. Respondent asserted deficiencies on the ground that taxpayers who report on the completed contract method may not account for costs of long-term contracts using inventories and, in particular, using LIFO. Held:1. Petitioner failed to prove that the completed contract method was not used to determine income from long-term contracts.2. Petitioner's method of using inventories to compute costs of long-term contracts 77 clearly reflects income and accordingly respondent may not require petitioner to change its method of accounting for long-term contracts.3. Petitioner's method of valuing inventories using LIFO ( sec. 472, I.R.C. 1954) also clearly reflects income under the circumstances of the instant case. Clarence J. Ferrari, Jr., and Clifford M. Govaerts, for the petitioner.Thomas G. Schleier, for the respondent. Chabot, Judge. CHABOT1030 Respondent determined deficiencies in Federal corporation income taxes against petitioner (see note 4 infra) as follows:TYE June 30 --Deficiency1974$ 189,2671975432,421After concessions 178 by the parties, the issues for decision are:(1) Whether petitioner reported income from long-term contracts using the completed contract method of accounting or the accrual shipment method;(2) Whether respondent may change petitioner's method of accounting for long-term contracts, which accumulates manufacturing costs in inventory accounts; and(3) Whether respondent may change petitioner's method of accounting for inventories from the last-in, first-out (LIFO) inventory valuation method (sec. 4722).FINDINGS OF FACTSome of the facts have been stipulated; the stipulations and the stipulated exhibits are incorporated herein by this reference.Petitioner is a California corporation. When the petition in this case was filed, petitioner's principal place of business was in San Jose, Calif.In 1956, petitioner was established as a wholly owned subsidiary of Ferry Steel Products, a manufacturer of steel equipment. Pursuant to the reorganization of Ferry Steel Products, 100 percent of petitioner's stock was distributed in 1968 to three individuals of the Stirm family. In 1969, petitioner formed a wholly owned subsidiary, Monotech Corp. 1031 (hereinafter sometimes referred to as Monotech), which is organized under California law. 79 Petitioner and Monotech filed consolidated Federal corporation income tax returns from 1970 3 through the years in issue. 480 During the years in issue, petitioner's and Monotech's principal business activity was the manufacture and sale of air pollution control equipment. The principal products manufactured by petitioner and Monotech were components of large pieces of equipment called "precipitators," used in industrial air pollution control systems. 5 Petitioner and Monotech also manufactured rock drills, antennas for radar equipment, and conveyor systems.Petitioner's and Monotech's entire manufacturing process is performed at plants in San Jose, Calif., and San Antonio, Tex. All equipment and employees utilized in the manufacturing process are petitioner's or Monotech's.Petitioner's and Monotech's products are typically manufactured pursuant to the terms of a purchase order. The purchase order usually contains a specific identification of the goods 81 to be manufactured, the quantities, the price, the payment terms, the destination, and the shipment date. The purchase order may provide for performance of the contract to extend over more than 1 taxable year; petitioner's and Monotech's products generally do not take more than 15 months to manufacture. During the years in issue, a small percentage of purchase orders (probably less than 10 percent) provided for advance 1032 payments; they represented a significant portion of work performed by petitioner and Monotech.The principal raw material used in the manufacture of products by petitioner and Monotech is "raw" steel in the form of coil, plate shape, and structural shape. Typically, the manufacturing process involves bending, rolling, punching, and cutting the raw steel into components in the needed shapes. Because of their enormous size, petitioner's and Monotech's precipitators are manufactured in stages and are shipped in kit form. The product is assembled at the customer's site and is not accepted until after it has been put together at the site. On occasion, petitioner and Monotech are required to perform additional work after the product reaches the site; such additional 82 work might result in back charges. Petitioner and Monotech are responsible for acceptance of the product by the customer.Petitioner's and Monotech's general purchasing policy for raw steel is to make frequent purchases, taking into consideration market fluctuations in price and in supply, as well as the desirability of maintaining good relationships with steel mills. Petitioner and Monotech usually maintain substantial stock of raw steel on hand. At times, petitioner and Monotech purchase raw steel for a particular purchase order. In that event, the job number would be designated on petitioner's or Monotech's order sent to the steel supplier. However, depending on the need for raw steel in petitioner's or Monotech's other jobs, the steel so designated might not actually be used on that job.Because of petitioner's and Monotech's purchasing policy for raw steel and stock of raw steel on hand, petitioner and Monotech have a reputation in their industry of having a continuous supply of raw steel, thereby enabling them to manufacture orders in times of steel shortages, such as occurred during the years in issue. As a result, petitioner's and Monotech's competitive positions were enhanced. 83 The price of raw steel fluctuated widely in the years in issue, with prices generally increasing. Approximately 60 to 65 percent of the raw steel purchased by petitioner and Monotech during the years in issue was purchased for stock on hand, and substantial amounts of raw steel were maintained on hand. Thus, it was necessary for petitioner and Monotech to maintain physical inventories of raw steel on hand.1033 Petitioner and Monotech maintained inventory accounts for raw materials and work in process. During the manufacturing process, costs of raw materials, labor, and overhead attributable to unfinished purchase orders (or long-term contracts) were accumulated in work-in-process inventory accounts. When performance was completed under a purchase order (or long-term contract), income was recognized and the associated costs were relieved from the inventory accounts and charged to cost of goods sold. Petitioner and Monotech did not recognize income upon receipt of advanced payments under a purchase order or long-term contract. (See note 8 and accompanying text infra.) Petitioner first adopted this method of accounting for 1969, and has since consistently used it.Schedules attached 84 to petitioner's Federal corporation income tax return for 1969, 6 and to petitioner's and Monotech's consolidated Federal corporation income tax returns for 1970, 1971, 1972, 1973, 1974, and 1975, indicate that cost of goods sold claimed therein was calculated by adding materials purchased, direct labor, and overhead to beginning inventory (including work-in-process inventory) and subtracting ending inventory (including work-in-process inventory). Thus, the costs attributable to a purchase order (or long-term contract) reduced gross receipts/sales (in computing gross profit) in the year of completion.For 1970, 1971, 1972, and 1973, petitioner and Monotech used the lower of cost (determined on a first-in, first-out (FIFO) basis) or market method to value inventories. 7 For the years in issue, petitioner and Monotech used the last-in, first-out (LIFO) method to value inventories. A Form 970 (Application to Use LIFO Inventory 85 Method) was filed with petitioner's and Monotech's consolidated income tax return for 1974, properly electing to use LIFO to value inventories. That application indicates that petitioner and Monotech used the dollar-value method based on one natural business unit to determine the value of LIFO inventories and the most recent purchases 1034 method to determine the cost of the goods in closing inventories in excess of those in opening inventories. A schedule showing raw materials and work-in-process inventories for 1972, 1973, and 1974 was attached to the Form 970.Total ending inventory balances shown on the balance sheets attached to petitioner's income tax return for 1969 and to petitioner's and Monotech's consolidated income tax returns for 1970 through 1975 are indicated in table 1.Table 1ConsolidatingConsolidatedPetitionerMonotechadjustmenttotal1969$ 205,414.50NA NANA 1970271,347.92$ 146,332.36$ 417,680.281971169,333.00236,152.00405,485.001972437,491.00228,974.00666,465.001973990,146.00566,681.001,556,827.0019742,195,163.57981,414.32186 $ 827,4402,349,137.891975 21,759,637.002,932,364.004,692,001.00Gross receipts/sales, cost of goods sold, and gross profit shown on petitioner's income tax return for 1969 and on petitioner's and Monotech's consolidated income tax returns for 1970 through 1973, and the ratio of gross profit to gross receipts/sales, for each of these years, are indicated in table 2.Table 219691970Gross receipts/sales$ 2,042,362.32$ 2,626,804.01Cost of goods sold1,520,781.192,170,413.50Gross profit521,581.13456,390.51Ratio of gross profit togross receipts/sales25.5% 17.4% Table 2197119721973Gross receipts/sales$ 3,125,248$ 3,237,152$ 3,970,163Cost of goods sold2,266,7802,509,3293,061,519Gross profit858,468727,823908,644Ratio of gross profit togross receipts/sales27.5% 22.5% 22.9% Gross 87 receipts/sales, cost of goods sold, and gross profit shown on petitioner's and Monotech's consolidated income tax returns and as determined by respondent, and the ratio of gross profit to gross receipts/sales, for the years in issue are indicated in table 3. 1035 Table 319741975Per returnDeterminedPer returnDeterminedGross receipts/sales$ 5,907,368.41$ 5,907,368.41$ 7,157,547$ 7,157,547Cost of goods sold 14,814,962.454,420,655.455,771,6545,058,644Gross profit1,092,405.961,486,712.961,385,8932,098.903Ratio of gross profit togross receipts/sales18.5% 25.2% 19.4% 29.3% No statements were attached to petitioner's (or petitioner's and Monotech's consolidated) income tax returns for 1969 through 1975 which indicate that income was reported using the completed contract method or any other long-term contract method. However, the balance sheets attached to petitioner's (or petitioner's and Monotech's consolidated) income tax returns for some of these years show unearned revenue as a liability account. 888 1036 (f) In a number of instances you used the completed contract method of reporting income. You applied the LIFO method of valuing inventory in computing the cost of those contracts. It is determined that the LIFO method of valuing inventory may not be applied under the completed contract method of accounting. The resulting adjustment to the costs of these contracts results in decreases in costs of goods sold in the years ended June 30, 1974 and June 30, 1975 and an increase in the cost of goods sold for the year ended June 30, 1976, in accordance with the following summary:YearendYearendYearend 96/30/746/30/756/30/76Ending LIFO reserve$ 394,307$ 1,107,317$ 901,220 Less: Beginning LIFO reserve0394,3071,107,317 Adjustment394,307713,010(206,097)In 89 any event, you may not apply the LIFO method of valuing inventories under the completed contract method of accounting as the property to which you applied it was not owned by you at the time of its application to that property. 10Petitioner's method of accounting, recognizing income and expenses when a contract is completed, is not consistent with the accrual shipment method of accounting.Petitioner's method of accounting, using inventory accounts to accumulate costs of long-term contracts, clearly reflects petitioner's and Monotech's consolidated income.Petitioner's method of accounting for inventories, using the LIFO valuation method, also clearly reflects petitioner's and Monotech's consolidated income.OPINIONRespondent asserts that petitioner utilized the completed contract method of accounting for Federal income tax purposes and, under section 1.451-3, Income Tax Regs., petitioner (1) is not permitted to consider inventories in computing petitioner's and Monotech's long-term contract costs, and (2) is not permitted 90 to compute these costs using the LIFO method of inventory valuation. Respondent contends that the use of an inventory method and LIFO to compute and value long-term contract costs is in direct conflict (or "mutually exclusive") 1037 with the deferral of such costs under the completed contract method; also, he states that the use of LIFO results in the deduction of long-term contract costs before the year the contract is completed.Petitioner asserts that it properly reported consolidated income from long-term contracts under the accrual shipment method, pursuant to section 1.451-5, Income Tax Regs., rather than under the completed contract method, and accordingly, petitioner and Monotech are required to maintain inventories and permitted to value their inventories using LIFO. Alternatively, petitioner asserts that, if petitioner's method of accounting for long-term contracts is considered to be the completed contract method and petitioner must defer costs associated with long-term contracts pursuant to section 1.451-3, Income Tax Regs., then petitioner and Monotech nevertheless should be permitted to (1) maintain inventories to defer their long-term contract costs and utilize LIFO to 91 value these inventories, or (2) use LIFO to value their long-term contract costs regardless of whether such costs are considered to be inventory. In conjunction with each of its assertions, petitioner contends that its methods of accounting for long-term contract costs, however characterized, were consistently applied, clearly reflected consolidated income, and therefore cannot be changed by respondent.We agree with respondent that petitioner did not use the accrual shipment method of accounting. We agree with petitioner's first alternative assertion that petitioner's and Monotech's use of inventories and LIFO were proper under the circumstances of the instant case.As we understand the factual situation, when petitioner or Monotech shipped a precipitator to a customer, much often remained to be done. Determination as to whether the product met the customer's specifications awaited at least on-site assembly. We are persuaded that recognition of profit and loss under petitioner's and Monotech's method of accounting did not occur on shipment (as would have been the case under the accrual shipment method of accounting), but rather occurred on completion of the contract. Accordingly, 92 we hold that petitioner and Monotech used the completed contract method of accounting.Under the completed contract method of accounting, recognition 1038 of cost of goods sold is deferred until the time when income from the contract is to be recognized. Where it is unfeasible to determine cost of goods sold by identifying the specific cost of each item of raw materials, it is appropriate to apply inventories to determine the amount of cost of goods sold. Respondent's regulations do not forbid such a use of inventories, nor do they provide an alternative method. One of respondent's rulings uses language which appears to forbid the use of inventories, but does not suggest an alternative method. We hold that the use of inventories is compatible with the completed contract method and that, in the instant case, this use clearly reflects petitioner's and Monotech's income.For the years before the Court, petitioner and Monotech used the LIFO method to value their inventories and determine their cost of goods sold. They complied with the requirements of section 472 in their use of LIFO. We hold that their use of LIFO clearly reflects petitioner's and Monotech's income.The remainder of this 93 opinion discusses, in order, each of the foregoing elements of our analysis.1. Petitioner's Overall Method of Accounting for Long-Term ContractsRespondent's contention that petitioner may not use inventories, and in particular, LIFO, to compute and value long-term contract costs is premised on his determination that petitioner used the completed contract method of accounting for petitioner's and Monotech's long-term contracts. Petitioner, on the other hand, asserts that it reported income from long-term contracts using the accrual shipment method of accounting 1194 pursuant to section 1.451-5, Income Tax Regs., that inventories must be maintained under such an accrual method, and that these inventories may be valued using LIFO.We must first decide whether petitioner reported income 1039 from long-term contracts using the completed contract method of accounting or the accrual shipment method. This issue depends on the resolution of a factual dispute between the parties as to when petitioner recognized income from long-term contracts for tax purposes. 1295 Daley v. United States, 243 F.2d 466">243 F.2d 466, 471 (9th Cir. 1957).Under the completed contract method of accounting, the gross contract price of each long-term contract is included in the taxpayer's gross income for the taxable year in which that contract is finally completed and accepted. Secs. 1.451-3(d)(1), 1.451-3(b)(2), Income Tax Regs.; 13C. H. Leavell & Co. v. Commissioner, 53 T.C. 426">53 T.C. 426, 436-437 (1969).Respondent's determination in the notice of deficiency that petitioner reported consolidated income from long-term contracts using the completed contract method of accounting is presumptively correct, and petitioner bears the burden of proving it reported consolidated income using another method of accounting. Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933); Rule 142(a). Petitioner has failed to prove that it reported consolidated income using the accrual shipment method of accounting.1496 Petitioner contends that it recognized income when final shipment of the product was made to the customer and therefore it used the "accrual shipment method of accounting." Petitioner relies on section 1.451-5(b)(3), Income Tax Regs., 1597 which permits a taxpayer using an accrual method of 1040 accounting that accrues income when, and accumulates costs until, the subject matter of the contract is shipped, to defer income recognition of advance payments on long-term contracts until the subject matter is shipped. See Rockwell International Corp. v. Commissioner, 77 T.C. 780">77 T.C. 780, 804 n. 12 (1981), on appeal (3d Cir., Jan 12, 1982). The pleadings and stipulations in the instant case, however, reflect an apparent agreement of the parties that petitioner reported income when a purchase order (or contract) was completed. 1698 In addition, petitioner failed to present evidence establishing a relationship between the date of shipment and the time of income recognition in the instant case. On the contrary, the record is replete with evidence indicating that shipment of petitioner's or Monotech's product was not the critical event for determining when a purchase order (or contract) was completed and hence, for triggering recognition of income. Petitioner's and Monotech's products were shipped in kit form because of their enormous size. Only after the product was assembled at the site could it be determined if the product conformed to the terms of the purchase order (or contract). On occasion, petitioner and Monotech were required to perform additional work after the product had reached the jobsite. The product was not accepted by the customer until it was assembled at the site and further work was performed by petitioner or Monotech, if necessary. Thus, it appears that there might often have been a substantial timelag between the shipment date and the date performance 99 of the contract was 1041 completed. Also of significance is the fact that petitioner and Monotech remained responsible for the acceptance of the product by the customer. These facts show that a purchase order (or contract) was completed when the product was accepted by the customer, not when the product was shipped. Since the parties agree that income was recognized when a purchase order (or contract) was completed, it follows that petitioner recognized income when the product was accepted by the customer.Petitioner points to the following in support of its accrual shipment method argument: (1) The testimony of petitioner's expert witness, Neal Harding (hereinafter referred to as Harding), a certified public accountant and partner in the accounting firm that prepared petitioner's income tax returns from 1969 through the years in issue, that petitioner "utilized the accrual method of accounting, accounting for the advanced payments received for its long term contracts, under the rules of * * * Regulation 1.451-5," and (2) petitioner's income tax return for 1969 and petitioner's and Monotech's consolidated income tax returns for 1970 through 1973 show that inventories were maintained in 100 each of these years and contain no reference to the completed contract method. Neither of these contentions is persuasive. Harding's bare assertion at trial that petitioner uses the accrual method is insufficient to establish petitioner's use of the accrual shipment method in the absence of evidence showing that income was accrued at the time of shipment, especially in light of the contradictory evidence in the record discussed supra. 17101 Similarly, the failure to attach statements 18 to petitioner's (or petitioner's and Monotech's consolidated) income tax returns indicating that income from long-term contracts was reported using the 1042 completed contract method does not convince us that petitioner did not use the completed contract method. 19Under these circumstances, we conclude that petitioner has failed to prove it used the accrual shipment method of accounting to report consolidated income during the years in issue. Indeed, the reasonable inference from the record is that petitioner used the completed contract method for these years. Stephens Marine, Inc. v. Commissioner, 430 F.2d 679">430 F.2d 679, 687 (9th Cir. 1970), affg. a Memorandum Opinion of this Court; 20L. A. Wells Construction Co. v. Commissioner, 46 B.T.A. 302">46 B.T.A. 302, 306 (1942), affd. 134 F.2d 623">134 F.2d 623 (6th Cir. 1943); Fort Pitt Bridge Works v. Commissioner, 24 B.T.A. 626">24 B.T.A. 626, 641-642 (1931), affd. on this point 92 F.2d 825">92 F.2d 825, 827 (3d Cir. 1937). Accordingly, for purposes of the instant case (see note 11 supra), the completed contract method of accounting is considered to be petitioner's method, as was 102 determined in the notice of deficiency.2. Use of Inventories Under the Completed Contract MethodWe next consider whether respondent is permitted to change petitioner's method of accounting for the costs associated with petitioner's and Monotech's long-term contracts.Respondent maintains that, as a matter of law, 21103 an inventory method may not be used under the completed contract method of accounting, and therefore petitioner's method of accounting for long-term contract costs does not clearly reflect income. In support thereof, respondent relies on Rev. Rul. 59-329, 2 C.B. 138">1959-2 C.B. 138, and sections 1.451-3 and 1.471-10, Income Tax Regs. Petitioner contends that it properly computed contract costs using an inventory method because (1) inventories are required under section 471 and under sections 1.471-1 and 1.446-1(c), Income Tax Regs., (2) the completed contract method of accounting and the use of inventories are not mutually exclusive, (3) inventories have consistently been 1043 used by petitioner and Monotech and this method clearly reflects their consolidated income, and (4) respondent abused his discretion in changing petitioner's method. We agree with petitioner's conclusion.Section 446(a) 22 provides the general rule that taxable income is to be computed using the method of accounting under which the taxpayer regularly computes income in keeping his books.Certain permissible accounting methods are enumerated in section 446(c) 23104 and the regulations thereunder. In addition to these methods, special methods of accounting for long-term contracts are provided in sections 1.451-3 and 1.451-5, Income Tax Regs.Sec. 1.446-1(c)(1)(iii), Income Tax Regs. Thus, in general, a taxpayer may compute income from long-term contracts using the following overall methods: (1) Cash, (2) accrual, including the so-called accrual shipment method, (3) percentage of completion, (4) completed contract, or (5) a combination of the foregoing (but see sec. 1.446-1(c)(1)(iv), Income Tax Regs.).The term "method of accounting" includes the overall method of accounting used by the taxpayer as well as the accounting treatment of any material item. Sec. 1.446-1(a)(1), Income Tax Regs. Petitioner's use of inventories to account for the costs associated with long-term contracts is a method of accounting. 24105 The general rule with respect to methods of accounting is reflected in section 1.446-1(a)(2), Income Tax Regs., as follows:1044 Sec. 1.446-1. General rule for methods of accounting.(a) General rule. * (2) It is recognized that no uniform method of accounting can be prescribed for all taxpayers. Each taxpayer shall adopt such forms and systems as are, in his judgment, best suited to his needs. However, no method of accounting is acceptable unless, in the opinion of the Commissioner, it clearly reflects income. A method of accounting which reflects the consistent application of generally accepted accounting principles in a particular trade or business in accordance with accepted conditions or practices in that trade or business will ordinarily be regarded as clearly reflecting income, provided all items of gross income and expense are treated consistently from year to year.If a taxpayer's method of accounting does not clearly reflect income, then respondent may choose to compute taxable income under a method of accounting that does clearly reflect the taxpayer's income (sec. 446(b) 25). Respondent possesses broad discretion in determining 106 whether an accounting method clearly reflects income. Commissioner v. Hansen, 360 U.S. 446">360 U.S. 446, 467 (1959). Even though an accounting method may be in accordance with generally accepted accounting principles, the requirement that the accounting method clearly reflect income is paramount. Thor Power Tool Co. v. Commissioner, 439 U.S. 522">439 U.S. 522, 538-544 (1979).Section 446(b) affords respondent more than the usual presumption of correctness in support of his determination that a method of accounting does not clearly reflect income, and it is not within the province of the Court to weigh and determine the relative merits of accounting methods. United States v. Catto, 384 U.S. 102">384 U.S. 102, 114 (1966). 107 In such matters, respondent's determination is not to be set aside unless it is shown to be plainly arbitrary or there has been a clear showing that respondent's determination was an abuse of discretion. Stephens Marine, Inc. v. Commissioner, 430 F.2d at 686; Baird v. Commissioner, 68 T.C. 115">68 T.C. 115, 131 (1977). The taxpayer, therefore, has a heavy burden in overcoming a finding by respondent that its method of accounting does not 1045 clearly reflect income. However, if the taxpayer succeeds in showing that the method it chose clearly reflects its income, then respondent does not have discretion to disturb that choice. Bay State Gas Co. v. Commissioner, 75 T.C. 410">75 T.C. 410, 417, 423 (1980), on appeal (1st Cir., Oct. 13, 1981); see Photo-Sonics, Inc. v. Commissioner, 357 F.2d 656">357 F.2d 656, 658 n. 1 (9th Cir. 1966), affg. 42 T.C. 926">42 T.C. 926 (1964).Whether a particular method of accounting clearly reflects income is primarily a question of fact (see note 21 supra) and will vary greatly from business to business and from factual situation to factual situation. Sam W. Emerson Co. v. Commissioner, 37 T.C. 1063">37 T.C. 1063, 1067 (1962). Ordinarily, a method of accounting which is in accordance with generally accepted accounting 108 principles will be regarded as clearly reflecting income for tax purposes if it is used consistently and if the taxpayer continues in existence. Sec. 1.446-1(a)(2), Income Tax Regs.; Sam W. Emerson Co. v. Commissioner, 37 T.C. at 1067-1068. However, an accounting method which conforms to generally accepted accounting principles but does not comply with respondent's regulations may not clearly reflect income. Thor Power Tool Co. v. Commissioner, supra;Rockwell International Corp. v. Commissioner, supra.Where there is a choice of alternative methods of accounting with no suggestion that the method adopted is impermissible from an accounting standpoint, and the method is substantially in accord with the regulations, great weight (although not necessarily controlling weight) will be given to consistency. Sam W. Emerson Co. v. Commissioner, 37 T.C. at 1068; Ezo Products Co. v. Commissioner, 37 T.C. 385">37 T.C. 385, 391 (1961); Klein Chocolate Co. v. Commissioner, 36 T.C. 142">36 T.C. 142, 146 (1961); Geometric Stamping Co. v. Commissioner, 26 T.C. 301">26 T.C. 301, 304 (1956); sec. 1.471-2(b), Income Tax Regs.We have found that petitioner's and Monotech's use of inventories to determine the costs associated with long-term 109 contracts under the completed contract method clearly reflected consolidated income during the years in issue. Accordingly, we conclude that petitioner has met its extraordinary burden under the circumstances of the instant case.As discussed supra (1. Petitioner's Overall Method of Accounting for Long-Term Contracts), petitioner used the completed 1046 contract method to report consolidated income from long-term contracts during the years in issue. 26 The purpose of the completed contract method is to account for the entire results of a contract at one time. National Contracting Co. v. Commissioner, 37 B.T.A. 689">37 B.T.A. 689, 702 (1938), affd. 105 F.2d 488">105 F.2d 488 (8th Cir. 1939). Accordingly, income is recognized under this method for the taxable year in which the contract is finally completed and accepted, and deduction of costs 27 properly allocable to the contract is deferred until such time as the income is recognized. Sec. 1.451-3(d)(1), Income Tax Regs.; 28112 McMaster v. Commissioner, 69 T.C. 952">69 T.C. 952 (1978). In Fort Pitt Bridge Works v. Commissioner, 24 B.T.A. at 641, we described the completed contract method as follows:The accounting system employed by the petitioner is the completed-contract system. 110 It is a modification of a strict accrual method and differs in the one respect that items of income and expense, though recorded in primary accounts when accrued or incurred, are not carried into profit and loss as earnings of the business until the contract to which they relate is completed. A separate account is kept for each contract. Any debit balance in the account represents the investment in the contract and any credit balance represents unearned income until the completion of the contract. A characteristic of this system is that income earned in one accounting period may not be accounted for until a later period. It is peculiarly adapted to a business fulfilling contracts which lap over accounting periods where the ultimate gain or loss can not be accurately determined until the completion of the contract. It may be used even though the contracts call for payment on 1047 the basis of a certain price per pound. The contracts need not run for more than a year. The Commissioner's regulations permit its use. It has been approved, for tax purposes, by the courts and by this Board.See also C. H. Leavell & Co. v. Commissioner, 53 T.C. at 437; L. A. Wells Construction Co. v. Commissioner, 46 B.T.A. at 306-307. 111 See generally 2 J. Mertens, Law of Federal Income Taxation sec. 12.134, at 536-540 (1974).Petitioner and Monotech are manufacturers of large products, typically made to conform to the customer's specifications. Because of their enormous sizes, these products are manufactured in components and shipped in kit form. Only after assembly at the customer's site can it be determined that the product conforms to the customer's specifications; at times, petitioner and Monotech are required to perform additional work at the site before the customer accepts the product. A significant portion of the work performed by petitioner and Monotech during the years in issue related to long-term contracts requiring advance payments during the course of manufacturing. From an overall standpoint, it 113 is difficult for petitioner and Monotech to accurately estimate the total costs of performing a long-term contract until the customer accepts the product. We believe (and respondent does not dispute) that the completed contract method of accounting is particularly useful for matching revenue and expenses under these circumstances. Fort Pitt Bridge Works v. Commissioner, supra.Similarly, we believe petitioner's and Monotech's use of inventories to account for raw materials and work in process was proper under the circumstances of the instant case.Firstly, petitioner and Monotech maintain large quantities of steel on hand which is not purchased for specific jobs; during the years in issue, approximately 60 to 65 percent of the steel purchased was for stock on hand. This substantial quantity of raw steel on hand is considered a key to petitioner's and Monotech's competitive positions, since, as a result, they have a continuous supply of steel and are able to manufacture in times of steel shortages. Although raw steel was sometimes purchased for a particular purchase order (or contract), the steel so designated might not actually be used on that job. The price of steel fluctuated 114 widely during the years in issue. Undoubtedly, it would be unfeasible to determine the cost of each piece of steel used by petitioner and Monotech on each 1048 job. Practical considerations would seem to dictate the use of inventories to accumulate the costs of raw materials on hand and the costs properly allocable to work in process in an orderly manner until the appropriate time to match expenses with revenue. Indeed, as far as we can tell, respondent's own adjustments in the notice of deficiency contemplate the use of inventories, although these adjustments apparently value the inventories on a FIFO basis.Secondly, we believe petitioner's and Monotech's use of inventories is not inconsistent with the completed contract method of accounting. Petitioner and Monotech accumulate the costs of raw materials, 29 labor, and overhead attributable to purchase orders (or contracts) in work-in-process inventory accounts. When performance of a particular purchase order (or contract) is completed, the associated costs are removed from the work-in-process inventory accounts and charged to cost of goods sold. At the same time, income from the purchase order (or contract), including any unearned 115 revenue previously billed or received, is recognized in full. Costs of raw materials on hand and costs attributable to purchase orders (or contracts) that are incomplete or in process at yearend remain in inventory accounts (i.e., either in raw materials inventories or in work-in-process inventories) to be deducted in a later year. In our view, the matching of income and expenses in this matter is consistent with the completed contract method of accounting since the entire results of a contract are accounted for in the taxable year in which the contract is completed. Petitioner's expert witness, Harding, testified that petitioner's method of accounting, using inventories, clearly reflected consolidated income because it properly matched income and expenses. Respondent has not contended herein that the use of inventories under the circumstances of the instant case is not in accordance with the best available accounting practice for similar manufacturers. 30117 Our calculations 1049 of ratios of gross profit to gross receipts/sales based on amounts shown on petitioner's (or petitioner's and Monotech's consolidated) income tax returns (see tables 2 and 3 supra) do not reveal any significant 116 distortions of income from petitioner's choices of accounting methods.Thirdly, it is evident from petitioner's (or petitioner's and Monotech's consolidated) income tax returns from 1969 through the years in issue that revenue had been billed or received but not recognized for tax purposes (see note 8 supra ) and that 118 petitioner and Monotech consistently maintained inventories (see table 1 supra ) and used the inventory figures to compute cost of goods sold. We find this consistent use of inventories is a factor weighing heavily in petitioner's favor. Secs. 1.446-1(a)(2), 1.471-2(b), Income Tax Regs.Fourthly, we do not think that the use of inventories by petitioner and Monotech is at variance with, or contrary to, respondent's regulations dealing with the completed contract method of accounting (secs. 1.451-3(a)(1), 1.451-3(d), Income Tax Regs.). Nothing therein prohibits the use of inventories nor states how the costs of long-term contracts are to be deferred (until income is recognized). These regulations do not require that when material costs are assigned to a job, they must be assigned at a value equal to the cost of the material bought first in time, the cost of material most recently 1050 purchased, or the cost of material specifically identified with the contract. In fact, section 1.451-3, Income Tax Regs., is concerned primarily with the timing of income recognition for long-term contracts and with the object that income and expense recognition coincide; it does not deal at all with methods 119 of accumulating the costs attributable to long-term contracts.Respondent contends that a taxpayer utilizing the completed contract method must value its contract costs in accordance with the provisions of section 1.451-3, Income Tax Regs., as opposed to using inventories under section 471. Respondent's position is not based on any factual analyses. (See note 21 supra.) Instead, respondent maintains that the following three provisions of the Treasury Regulations clearly indicate that the completed contract method of accounting and any inventory method of accounting are mutually exclusive methods as a matter of law:Sec. 1.451-3. Long-term contracts.(d) Completed contract method -- (1) In general. * * All costs which are properly allocable to a long-term contract (determined pursuant to subparagraph (5) of this paragraph) must be deducted from gross income for the taxable year in which the contract is completed. * * Sec. 1.451-3. Long-term contracts.(a) In general. (1) * * For example, if a manufacturer of heavy machinery has special-order contracts of a type that generally take 15 months to complete and also has contracts of a type that generally take 3 months to complete, 120 the manufacturer may use a long-term contract method for the 15-month contracts and a proper inventory method pursuant to section 471 and the regulations thereunder for the 3-month contracts. * Sec. 1.471-10. Applicability of long-term contract methods.For optional rules providing for application of the long-term contract methods to certain manufacturing contracts, see sec. 1.451-3.We disagree with respondent's conclusions. Firstly, none of the regulatory provisions on which respondent relies states that inventories in general are inconsistent with the completed contract method of accounting. If respondent wishes to achieve that result, the regulations (which were revised retroactively in 1976 (see Smith v. Commissioner, 66 T.C. 213">66 T.C. 213, 219 (1976); notes 13 & 26 supra)) could have been written or amended to so provide. See Henry C. Beck Builders, Inc. v. Commissioner, 41 T.C. 616">41 T.C. 616, 621, 628-629 (1964). Secondly, these regulatory provisions do not lead by necessary implication to 1051 the result respondent seeks. Section 1.451-3(d)(1), Income Tax Regs., requires deferral of deductions until the taxable year in which the contract is completed. This timing rule does not necessarily conflict 121 with the use of inventories to determine the amounts of the deductions. See American Can Co. v. Bowers, 35 F.2d 832">35 F.2d 832, 835 (2d Cir. 1929). The other two regulations on which respondent relies merely indicate that the inventory concepts of the section 471 regulations are to be subordinate to the concepts of section 1.451-3, Income Tax Regs., where there are conflicts. The timing concepts involved in section 1.451-3(d)(1), Income Tax Regs., furnish an example of such a potential conflict. However, the long-term contract regulations do not require in all events any particular method of determining the amount of the raw materials component of cost of goods sold. We do not find, and respondent has not pointed us to, any conflict between the two sets of regulations as to the timing matter here in dispute. Thirdly, respondent has suggested no policy consideration that might lead us to conclude that the regulations should be interpreted as forbidding the use of inventories in connection with the completed contract method of accounting.Respondent also relies on Rev. Rul. 59-329, supra, which states, in part, as follows:A taxpayer who, under section 1.451-3 of the Income Tax Regulations, reports 122 income from long-term contracts on the completed contract method may not consider as inventory, for Federal income tax purposes, the cost of materials, labor, supplies, depreciation, taxes, etc., accumulated with respect to such contracts. Such costs merely represent deferred expenditures which are to be treated as part of the cost of the particular contract and are to be allowed as a deduction for the year during which the contract is completed and the contract price reported as gross income. See Revenue Ruling 288, C.B. 1953-2, 27, at 28; I.T. 3434, C.B. 1940-2, 90; and A.R.R. 8367, C.B. III-2, 57 (1924). * * * [Rev. Rul. 59-329, 2 C.B. 138">1959-2 C.B. 138.]Each of the rulings cited in Rev. Rul. 59-329 deals with whether, under the completed contract method, certain expenses (salaries, depreciation, payroll taxes, or foreign taxes) are properly allocable to a long-term contract and, hence, deduction must be deferred until the contract is completed; no method for deferring such expenses is discussed in these rulings. Rev. Rul. 59-329, then, rests on a foundation that is consistent with our reconciliation of the regulations, and which does not conflict with petitioner's and Monotech's use of 123 1052 inventories for the purpose of determining amounts of cost of goods sold.If this 1959 ruling was intended to go further than its foundation and further than the regulations, then there were many opportunities to so provide in the regulations or to clarify the matter in subsequent rulings. No such opportunities were availed of.We believe that petitioner and Monotech complied with the requirements of the statute and the regulations authorized thereunder. We believe that the method used by petitioner and Monotech clearly reflected their consolidated income. We do not believe that respondent has authority to promulgate by a revenue ruling the absolute rule of law (see text at note 21 supra) he seeks to apply in the instant case. See Estate of Lang v. Commissioner, 613 F.2d 770">613 F.2d 770, 776 (9th Cir. 1980), affg. in part 64 T.C. 404">64 T.C. 404 (1975); Stubbs, Overbeck & Associates v. Commissioner, 445 F.2d 1142">445 F.2d 1142, 1146-1147 (5th Cir. 1971); Sandor v. Commissioner, 62 T.C. 469">62 T.C. 469, 482 (1974), affd. 536 F.2d 874">536 F.2d 874 (9th Cir. 1976); Henry C. Beck Builders, Inc. v. Commissioner, supra.To summarize, we conclude that petitioner's method of accounting for costs of long-term contracts, using inventories, was consistently 124 used, was in conformance with respondent's regulations, and was not inconsistent with the completed contract method of accounting. We disapprove of Rev. Rul. 59-329 on the facts of the instant case. We hold that petitioner's use of inventories to account for contract costs clearly reflected consolidated income during the years in issue and, accordingly, respondent is without authority to change it. 313. Use of LIFO Under the Completed Contract MethodThe final issue for resolution is whether respondent properly disallowed the use of LIFO by petitioner and Monotech to value inventories.Respondent contends that the completed contract method of accounting and the LIFO inventory method are mutually 1053 exclusive because LIFO has the effect of deducting costs allocable to uncompleted contracts before such contracts are completed. Accordingly, respondent contends 125 that LIFO causes a distortion of income under the completed contract method of accounting. Petitioner asserts that petitioner and Monotech are entitled to value their inventories using LIFO pursuant to section 472, that LIFO clearly reflects consolidated income for the years in issue, and that respondent's disallowance of LIFO is arbitrary since respondent has not suggested that petitioner's and Monotech's LIFO election was defective or that their method of applying LIFO was not in compliance with section 472 and respondent's regulations thereunder.We agree with petitioner.Inventories are used to compute cost of goods sold during a particular year, 32126 and gross income or profit for the year is determined by subtracting cost of goods sold from gross sales. See sec. 1.61-3(a), Income Tax Regs. Consequently, an inventory valuation method which assigns lower costs to ending inventories will yield higher cost of goods sold and lower gross income.Section 472(a)33128 authorizes the use of LIFO as a permissible 1054 method of inventorying goods. Under LIFO, inventories are valued at cost and the items remaining on hand at the end of the year are deemed to have come, first, from opening inventories (in reverse order of acquisition) and, second, from items acquired during the taxable year. Sec. 472(b). 34 That is, the order of goods flowing through LIFO inventories is based on the convention 127 that the goods purchased last are deemed to be the first goods sold and ending inventories are deemed to be composed of the earliest purchased goods. This convention is the reverse of the assumed order of goods flowing through inventories on a FIFO basis. In Fox Chevrolet, Inc. v. Commissioner, 76 T.C. 708">76 T.C. 708, 723 (1981), we observed that "The theory behind LIFO is that income may be more accurately determined by matching current costs against current revenues, thus eliminating from earnings any artificial profits resulting from inflationary increases in inventory costs." Cf. Hellermann v. Commissioner, 77 T.C. 1361">77 T.C. 1361 (1981).Before the years in issue, petitioner and Monotech consistently valued inventories using the lower of cost or market, identifying the flow of goods through inventories on a FIFO basis. 35 Beginning with the first year in issue (1974), petitioner and Monotech elected to use the dollar-value method 36 based on one natural business unit 37 to determine the value of LIFO inventories and the most 129 recent purchases method 38 to determine the cost of goods in closing inventories in excess of those 1055 in opening inventories. This change in the method of valuing and identifying petitioner's and Monotech's inventories constitutes a change in accounting method. Sec. 1.446-1(e)(2)(ii)(c), Income Tax Regs.; see F. S. Harmon Manufacturing Co. v. Commissioner, 34 T.C. 316">34 T.C. 316, 320 (1960). Except as otherwise "expressly provided" in chapter 1, a taxpayer must obtain the consent of respondent before changing an accounting method. Sec. 446(e); sec. 1.446-1(e)(2)(i), Income Tax Regs.Section 472(a) expressly provides otherwise, as follows:SEC. 472. LAST-IN, FIRST-OUT INVENTORIES.(a) Authorization. * * The change to * * * [LIFO] shall be in accordance with such regulations as the Secretary or his delegate may prescribe * * Thus, a change to LIFO is controlled by the regulations under section 472 instead of the general principles for changes of accounting methods provided in section 446(e) and the regulations thereunder, and respondent's discretion as to an initial election of LIFO is far more circumscribed than in the case of changes of accounting method generally. 39131 John Wanamaker Philadelphia, Inc. v. United States, 175 Ct. Cl. 169">175 Ct. Cl. 169, 174-177, 359 F.2d 437">359 F.2d 437, 439-441 (1966). 130 Petitioner appears to have complied with the formal requirements of section 472 and the regulations thereunder, and 1056 respondent has not indicated otherwise. Cf. Gimbel Bros. Inc. v. United States, 186 Ct. Cl. 299">186 Ct. Cl. 299, 404 F.2d 939">404 F.2d 939 (1968). Respondent has not suggested that petitioner has failed to comply with any of the substantive requirements, except for his absolute objection to the use of inventories and his contention that LIFO results in deducting costs of contracts that have not yet been completed.We have already held that respondent's 132 absolute objection to the use of inventories is not well founded. We conclude that respondent also errs in maintaining that LIFO necessarily results in deducting costs of contracts that have not yet been completed.Respondent's position is set forth on brief as follows:During the years at issue, all costs attributable to incompleted contracts were computed using the last-in, first-out (LIFO) method of inventory valuation. The utilization of this method in computing costs resulted in additions to petitioner's LIFO reserve accounts in the amounts of $ 394,307 and $ 713,010 for each of the years at issue. Petitioner then reduced its ending inventory by the amount of its additions to the LIFO reserve accounts for each year, which increased costs of goods sold in the amounts of $ 394,307 and $ 713,010 for each of the years at issue. Therefore, petitioner has deducted, by increasing its cost of goods sold in excess of $ 1,100,000 for the years at issue, costs allocable to its incompleted contracts before these contracts were completed. * * [Citations to the record omitted.]We believe respondent has misinterpreted the effect of LIFO on petitioner's and Monotech's method of reporting 133 income. The underlying purpose of the LIFO method of valuing inventories is to reverse the normal assumed flow of goods so that the last goods purchased or the last production costs incurred are considered to be the first goods (or costs) sold, thereby theoretically matching current income with current costs. Under petitioner's and Monotech's method of reporting income, costs attributable to purchase orders (or contracts) completed during the year are removed from inventories and charged to cost of goods sold for that year, but costs of materials not assigned to a job and costs attributable to jobs in process at yearend remain in raw materials or work-in-process inventories. Petitioner and Monotech, faced with increasing steel prices, valued yearend inventories using LIFO thereby assigning the most recently purchased materials costs to the contracts completed during the year. We reject respondent's assertion that petitioner and Monotech deducted costs properly 1057 allocable to incompleted contracts because ending inventories were reduced by the amount of the additions to the LIFO reserve account for the years in issue. As petitioner explains, the changes in the LIFO reserve account 134 on petitioner's books represent the clerical calculations required under the regulations 40 to arrive at the value of ending inventories under the dollar-value LIFO method. The determination of the value to be placed upon an inventory has no relation to the principle or theory affecting the determination of when income is deemed to be received and expenses deemed incurred. American Can Co. v. Bowers, supra.As such, the additions to the LIFO reserve account do not amount to additional deductions for inventories included in cost of goods sold, but rather, represent the difference between the valuation of ending inventories using most recent costs (FIFO) and earliest costs (LIFO). Stated another way, the additions to the LIFO reserve account represent the difference in the deduction for costs of completed contracts when the most recent costs are assigned to the completed contracts under LIFO as opposed to the assignment of the earliest costs on a FIFO basis.The LIFO method of inventory valuation is authorized by statute. The Congress intended that this method be available to all taxpayers properly maintaining inventories. Basse v. Commissioner, 10 T.C. 328">10 T.C. 328 (1948); 135 Hutzler Brothers Co. v. Commissioner, 8 T.C. 14">8 T.C. 14 (1947). Detailed rules for the use of LIFO, including rules for the dollar-value method, are provided by the regulations under section 472; neither these regulations nor the regulations dealing with the completed contract method of accounting ( sec. 1.451-3, Income Tax Regs.) prohibit or limit the use of a LIFO inventory method by a completed contract method taxpayer. We are unaware of abuses that might arise from allowing these taxpayers to account for the costs of contracts using inventories valued in accordance with the LIFO rules, and respondent has not enlightened us as to how petitioner's and Monotech's use of LIFO distorts income in a manner that is not the mere consequence of allocating most recent costs to contracts completed during the year which, in turn, results in the deduction of current costs. In 1058 fact, a comparison of the ratios of gross profit to gross receipts/sales, as computed from amounts shown on petitioner's and Monotech's consolidated income tax returns, for the years in issue (see table 3 supra) and for the preceding 5 years (see table 2 supra) does not indicate any significant distortion of consolidated income 136 for the years in issue. We have consistently refused to conclude that a matching of current costs and current income in this manner distorts income, and can find no persuasive reason to conclude otherwise in the instant case.On the basis of this record, we reject respondent's view that the completed contract method of accounting and the LIFO inventory valuation method are mutually exclusive.Since respondent's perceived distortion of income appears to merely be the difference in the deduction for costs of completed contracts when the most recent costs (LIFO) are used rather than earliest costs (FIFO), we are convinced, on the facts of the instant case, that respondent's determination is more of an expression of preference for FIFO over LIFO than a determination that petitioner's consistent use of LIFO to value inventories will not reasonably reflect consolidated income. See Klein Chocolate Co. v. Commissioner, 36 T.C. at 147. While we recognize that respondent possesses broad powers under section 446(b) to determine whether an accounting method clearly reflects income, we do not believe respondent may compel a change from a permissible method of accounting which clearly reflects income 137 in accordance with the regulations to another permissible method that is preferred by respondent. See Photo-Sonics, Inc. v. Commissioner, supra; Madison Gas & Electric Co. v. Commissioner, 72 T.C. 521">72 T.C. 521, 553-555 (1979), affd. on other issues 633 F.2d 512">633 F.2d 512 (7th Cir 1980); Auburn Packing Co. v. Commissioner, 60 T.C. 794">60 T.C. 794, 798-800 (1973); Garth v. Commissioner, 56 T.C. 610">56 T.C. 610, 618 (1971); Sam W. Emerson Co. v. Commissioner, 37 T.C. at 1068-1069. We think such a rule is particularly appropriate with respect to LIFO, a method expressly authorized by statute, and intended to be available to all taxpayers properly maintaining inventories ( Basse v. Commissioner, supra; Hutzler Brothers Co. v. Commissioner, supra).Respondent evidently is unhappy at petitioner's use of LIFO. The Congress has made the choice that LIFO is to be an 1059 available inventory valuation method and, as we have indicated, the Congress has even cut back on respondent's almost-plenary authority as to changes in accounting method in this area. John Wanamaker Philadelphia, Inc. v. United States, supra.Petitioner appears to have complied with respondent's regulations dealing with the LIFO method. Respondent has failed to show 138 us a policy problem so overwhelming as to force us to conclude that the Congress could not have meant what it said. Cf. United Telecommunications, Inc. v. Commissioner, 65 T.C. 278">65 T.C. 278 (1975), supplemental opinion 67 T.C. 760">67 T.C. 760 (1977), affd. 589 F.2d 1383">589 F.2d 1383 (10th Cir. 1978). The Congress has enacted its judgment regarding LIFO; we must guard against the efforts of the parties to persuade us to diminish ( Tipps v. Commissioner, 74 T.C. 458">74 T.C. 458, 472 (1980)) or expand ( Zuanich v. Commissioner, 77 T.C. 428">77 T.C. 428, 451-452 (1981), on appeal (9th Cir., Nov. 13, 1981)) what the Congress has chosen to enact.In view of the foregoing, we hold that petitioner's and Monotech's use of LIFO was proper under the circumstances of the instant case in that it clearly reflects consolidated income in accordance with section 1.472-8, Income Tax Regs., and that respondent is without authority to change this use. 41139 To reflect the concessions of the parties and the conclusions reached herein,Decision will be entered under Rule 155. Footnotes1. At trial, petitioner abandoned its claim for attorney's fees. The parties have reached a basis for settlement of the other issues, which relate to depreciation deductions and investment credits; this agreement is to be given effect in the computation under Rule 155.Unless indicated otherwise, all Rule references are to the Tax Court Rules of Practice and Procedure.↩2. Unless indicated otherwise, all chapter and section references are to chapters and sections of the Internal Revenue Code of 1954 as in effect for the taxable years in issue.↩3. All references to years hereinafter are to taxable years ended June 30.↩4. Although respondent did not issue any notice of deficiency to Monotech for the years in issue, and the notice of deficiency in the instant case did not name Monotech, the parties stipulated that the term "petitioner" includes Monotech. Since a notice of deficiency was issued to Peninsula Steel Products & Equipment Co., Inc., on a consolidated basis, and it timely filed a petition to this Court, we view this stipulation as a request for us to determine petitioner's and Monotech's consolidated income tax liability for which petitioner is severally liable ( sec. 1.1502-6(a), Income Tax Regs.). Thus, we need not decide whether Monotech is also a petitioner in the instant case. Compare sec. 1.1502-77(a), Income Tax Regs., and Intervest Enterprises, Inc. v. Commissioner, 59 T.C. 91">59 T.C. 91, 96-97 (1972), with Cincinnati Transit, Inc. v. Commissioner, 55 T.C. 879">55 T.C. 879 (1971), affd. 455 F.2d 220">455 F.2d 220 (6th Cir. 1972); Community Water Service Co. v. Commissioner, 32 B.T.A. 164">32 B.T.A. 164 (1935); and Rules 32(a), 34(a)(1), 61(a). See also sec. 6503(a)(2).Except where the context of the foregoing explanation indicates otherwise, the term "petitioner" applies only to Peninsula Steel Products & Equipment Co., Inc.↩5. A typical precipitator of petitioner's or Monotech's manufacture is about 300 feet by 120 feet and about 60 feet high, and may weigh as much as several million pounds.↩6. Petitioner filed an amended Federal corporation income tax return for 1969 as a result of the Congress' repeal of the investment credit. References hereinafter to petitioner's tax return for 1969 are to petitioner's tax return as originally filed for this year.↩7. Petitioner's income tax return for 1969 did not indicate the method of inventory valuation used by petitioner for that year.↩1. A correlative adjustment in the same amount ($ 827,440) was made to "Other Liabilities -- Progress Billings." The adjustment shown in this table was treated as a reduction in petitioner's beginning inventory for 1975. See note 8 infra↩.2. The parties have agreed to an adjustment decreasing petitioner's and Monotech's depreciation expense for 1975. Included in work-in-process inventories is an allocation of depreciation expense. We are unable to determine the effect, if any, of this agreed-to depreciation adjustment on ending inventories for that year.↩1. We are also unable to determine the effect, if any, of the parties' agreed-to depreciation adjustment on cost of goods sold for 1975. See note 2 to table 1 supra↩.8. Unearned revenue shown on Schedule L of petitioner's (or petitioner's and Monotech's consolidated) income tax returns is as follows:ConsolidatingConsolidatedPetitionerMonotechadjustmenttotal1969NA NANA1970$ 96,620.98$ 87,000$ 183,620.9819711972101,042.00232,947333,989.001073914,700.00379,7181,294,418.001974 Identified as "PROGESS BILLINGS."12,784,496.00827,440A correlative adjustment was made to the combined inventory accounts. See note 1 to table 1 supra.2 $ 827,4402,784,496.001975 Identified as "Unearned revenue on contract billings."3↩2,366,248.003,962,5616,328,809.009. The year 1976 is not in issue herein because no deficiency was determined for this year. Sec. 6214(a).↩10. At trial, respondent abandoned his inventory ownership contention.↩11. Petitioner focuses only on its method qualifying as an accrual method under sec. 1.451-5(b)(3), Income Tax Regs. (see note 15 infra), because it accrued income when, and accumulated costs until, "its goods are finally shipped"; petitioner does not contend that its method qualifies under the regulation's reference to accruals as of the time "the subject matter of the contract is * * * accepted." Under the circumstances, we do not consider what the posture of the instant case would have been if petitioner had contended, at an appropriate time, that it followed the accrual acceptance method.12. There may be differences between the timing of revenue recognition under the completed contract method and the accrual shipment method. Generally, under the completed contract method, no revenue is included in gross income until the entire long-term contract is completed and accepted. Under the accrual shipment method, revenues must be included in gross income upon shipment of units under a contract. Thus, if there is a contract to manufacture several items and some completed items are shipped before other items are completed, income would be recognized under the accrual shipment method before it would be recognized under the completed contract method. See Pye, "Inventories and Long-Term Contracts," 55 Taxes 163">55 Taxes 163↩ (1977); Schneider, "Tax Planning For Long-Term Contractors and Manufacturers Under New Final Regs.," 44 J. of Tax. 210, 211-213 (1976).13. As amended by T.D. 7397, filed Jan. 14, 1976, 1 C.B. 115">1976-1 C.B. 115↩.14. In view of our conclusion as to petitioner's method of reporting income, we do not decide petitioner's arguments which are based on the use of the accrual shipment method.15. Sec. 1.451-5. Advance payments for goods and long-term contracts.(b) Taxable year of inclusion. * * ** * * *(3) In the case of a taxpayer accounting for advance payments for tax purposes pursuant to a long-term contract method of accounting under section 1.451-3, or of a taxpayer accounting for advance payments with respect to a long-term contract pursuant to an accrual method of accounting referred to in the succeeding sentence, advance payments shall be included in income in the taxable year in which properly included in gross receipts pursuant to such method of accounting (without regard to the financial reporting requirement contained in subparagraph (1)(ii)(a) or (b) of this paragraph). An accrual method of accounting to which the preceding sentence applies shall consist of any method of accounting under which the income is accrued when, and costs are accumulated until, the subject matter of the contract is shipped, delivered, or accepted.See also sec. 1.446-1(c)(1)(ii), Income Tax Regs.↩16. In its petition, petitioner alleged that it "elected to report its income under the completed contract method of accounting pursuant to Treasury Regulations sec. 1.451-3 and applied last-in first-out (LIFO) method of valuing inventory in computing the cost of these contracts." Respondent agreed with this allegation in his answer. Furthermore, the parties have stipulated that, "During the years at issue, gross income derived from long-term contracts was reported by petitioner for tax purposes when the contracts were completed."17. We note that Harding's testimony as to petitioner's method of accounting provides greater support to respondent's determination. Harding testified as follows:"In their [petitioner's and Monotech's] particular manufacturing process, the delivery of goods to a customer and the subsequent requirement to have frequent back charges, to either make that item work on the job site, almost precludes them from knowing what their revenue would be from a margin standpoint, until the job is actually completed, accepted by the customer, and the revenue is then, at that point, and the cost is then determined from a total standpoint, reflected in income for tax purposes."18. See sec. 1.451-3(a)(2), Income Tax Regs.↩19. See 2. Use of Inventories Under the Completed Contract Method, infra↩, for discussion of petitioner's inventory argument.20. T.C. Memo. 1969-39↩.21. Respondent gave this as his reason for presenting no witnesses. Respondent did not cross-examine petitioner's witnesses.22. SEC. 446. GENERAL RULE FOR METHODS OF ACCOUNTING.(a) General Rule. -- Taxable income shall be computed under the method of accounting on the basis of which the taxpayer regularly computes his income in keeping his books.↩23. SEC. 446. GENERAL RULE FOR METHODS OF ACCOUNTING.(c) Permissible Methods. -- Subject to the provisions of subsections (a) and (b), a taxpayer may compute taxable income under any of the following methods of accounting -- (1) the cash receipts and disbursements method;(2) an accrual method;(3) any other method permitted by this chapter; or(4) any combination of the foregoing methods permitted under regulations prescribed by the Secretary or his delegate.↩The subsequent amendment of this provision by sec. 1906(b)(13) [sic] (A) of the Tax Reform Act of 1976, Pub. L. 94-455, 90 Stat. 1834, does not affect the taxable years before us.24. Whether or not it is a permissible method does not change its status as an accounting method. See H. F. Campbell Co. v. Commissioner, 53 T.C. 439">53 T.C. 439, 447 (1969), affd. 443 F.2d 965">443 F.2d 965 (6th Cir. 1971); Fruehauf Trailer Co. v. Commissioner, 42 T.C. 83">42 T.C. 83, 102-105 (1964), affd. 356 F.2d 975">356 F.2d 975 (6th Cir. 1966); sec. 1.446-1(e)(2)(ii)(b↩), Income Tax Regs.25. 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.The subsequent amendment of this provision by sec. 1906(b)(13) [sic] (A) of the Tax Reform Act of 1976, Pub. L. 94-455, 90 Stat. 1834, does not affect the taxable years before us.↩26. Respondent's regulations dealing with the completed contract method were amended in 1976 to expressly allow manufacturers to use this method. T.D. 7397, filed Jan. 14, 1976, 1 C.B. 115">1976-1 C.B. 115; Rockwell International Corp. v. Commissioner, 77 T.C. 780">77 T.C. 780, 804 n. 12 (1981), on appeal (3d Cir., Jan. 12, 1982). We note that there was judicial authority supporting the use of the completed contract method by a manufacturer before this amendment. See Stephens Marine, Inc. v. Commissioner, 430 F.2d 679">430 F.2d 679 (9th Cir. 1970); McMaster v. Commissioner, 69 T.C. 952">69 T.C. 952 (1978); Fort Pitt Bridge Works v. Commissioner, 24 B.T.A. 626">24 B.T.A. 626↩ (1931). Respondent does not challenge the propriety of such use by petitioner.27. Such costs include direct material and labor costs and certain indirect costs. Sec. 1.451-3(d)(5), Income Tax Regs.↩28. Sec. 1.451-3. Long-term contracts.(d) Completed contract method. -- (1) In general Except in cases to which subparagraph (2), (3), or (4) of this paragraph applies, under the completed contract method, gross income derived from long-term contracts must be reported by including the gross contract price of each contract in gross income for the taxable year in which such contract is completed (as defined in paragraph (b)(2) of this section). All costs which are properly allocable to a long-term contract (determined pursuant to subparagraph (5) of this paragraph) must be deducted from gross income for the taxable year in which the contract is completed. In addition, account must be taken of any material and supplies charged to the contract but remaining on hand at the time of completion.29. See note 32 infra↩ for the computation of cost of raw materials attributable to purchase orders (or contracts).30. We note that the American Institute of Certified Public Accountants (hereinafter referred to as AICPA has suggested that when a contractor using the completed contract method incurs an excess of accumulated costs over related billings, the asset account be described as "costs of uncompleted contracts in excess of related billings" rather than as "inventory" or "work in process." AICPA, Accounting Research Bulletin No. 45, "Long-Term Construction-Type Contracts" par. 12 (1955), reprinted in 2 APB Accounting Principles 6071-6073 (1973). More recently, the AICPA issued Statement of Position 81-1, "Accounting for Performance of Construction-Type and Certain Production-Type Contracts" (dated July 15, 1981) (hereafter SOP 81-1), appended to AICPA, Audit and Accounting Guide, "Construction Contractors" 105-149 (1981), to provide guidance on the application of ARB 45. Par. 71, SOP 81-1, stated:"71. Income is recognized over the term of the contract under the percentage-of-completion method or is recognized as units are delivered under the units-of-delivery modification and is deferred until performance is substantially complete under the completed-contract method. None of the characteristics peculiar to those methods, however, require accounting for contract costs to deviate in principle from the basic framework established in existing authoritative literature applicable to inventories or business enterprises in general. [Emphasis added.]"AICPA, Audit and Accounting Guide, "Construction Contractors" 139 (1981). Also appended to this audit and accounting guide are sample financial statements for a heating and air-conditioning contractor using the completed contract method, showing inventories for heating and air-conditioning components, and for parts and supplies, but without showing in detail the method of computing contract costs using these inventories. AICPA, Audit and Accounting Guide, "Construction Contractors" 199-205, app. 8 (1981).↩31. Since we hold that petitioner's method clearly reflected consolidated income, we do not decide petitioner's argument that sec. 471 overrides sec. 451 and, therefore, inventories are mandatory in every case in which the production, purchase, or sale of merchandise is an income-producing factor. See sec. 1.471-1, Income Tax Regs.↩32. The computation of cost of goods sold for manufacturers is more complex than for merchandisers. In general, a manufacturer's cost of goods sold is computed as follows:Cost Finished goods Cost of Finished goods of goods = beginning + goods - ending sold inventory manufactured inventoryTo determine cost of goods manufactured, the following separate computations are necessary:Cost Work-in-process Cost of raw Work-in-process of goods = beginning + materials used, - ending manufactured inventory direct labor, inventory and overheadCost of Raw materials Raw materials raw materials = beginning + Purchases - ending used inventory inventorySee generally W. B. Meigs, C. E. Johnson & R. F. Meigs, Accounting: The Basis for Business Decisions 845-850 (4th ed. 1977).Petitioner and Monotech do not maintain inventories of finished goods (apparently because they manufacture pursuant to specific purchase orders). Thus, petitioner's and Monotech's cost of goods sold equals their cost of goods manufactured.↩33. SEC. 472. LAST-IN, FIRST-OUT INVENTORIES.(a) Authorization. -- A taxpayer may use the method provided in subsection (b) (whether or not such method has been prescribed under section 471) in inventorying goods specified in an application to use such method filed at such time and in such manner as the Secretary or his delegate may prescribe. The change to, and the use of, such method shall be in accordance with such regulations as the Secretary or his delegate may prescribe as necessary in order that the use of such method may clearly reflect income.The subsequent amendment of this provision by sec. 1906(b)(13) [sic] (A) of the Tax Reform Act of 1976, Pub. L. 94-455, 90 Stat. 1834, does not affect the taxable years before us.34. SEC. 472. LAST-IN, FIRST-OUT INVENTORIES.(b) Method Applicable. -- In inventorying goods specified in the application described in subsection (a), the taxpayer shall: (1) Treat those remaining on hand at the close of the taxable year as being: First, those included in the opening inventory of the taxable year (in the order of acquisition) to the extent thereof; and second, those acquired in the taxable year;(2) Inventory them at cost; and(3) Treat those included in the opening inventory of the taxable year in which such method is first used as having been acquired at the same time and determine their cost by the average cost method.↩35. See secs. 1.471-2(c), 1.471-2(d), Income Tax Regs.↩36. See sec. 1.472-8, Income Tax Regs.↩37. See sec. 1.472-8(b), Income Tax Regs.↩38. See sec. 1.472-8(e)(2)(ii)(a↩), Income Tax Regs.39. This is to be contrasted with the authority given to respondent where a taxpayer who has properly elected LIFO wishes to change or fails to comply with conformity requirements. See sec. 472(e), which provides as follows:SEC. 472. LAST-IN, FIRST-OUT INVENTORIES.(e) Subsequent Inventories. -- If a taxpayer, having complied with subsection (a), uses the method described in subsection (b) for any taxable year, then such method shall be used in all subsequent taxable years unless -- (1) with the approval of the Secretary or his delegate a change to a different method is authorized; or,(2) the Secretary or his delegate determines that the taxpayer has used for any such subsequent taxable year some procedure other than that specified in paragraph (1) of subsection (b) in inventorying the goods specified in the application to ascertain the income, profit, or loss of such subsequent taxable year for the purpose of a report or statement covering such taxable year (A) to shareholders, partners, or other proprietors, or beneficiaries, or (B) for credit purposes; and requires a change to a method different from that prescribed in subsection (b) beginning with such subsequent taxable year or any taxable year thereafter.If paragraph (1) or (2) of this subsection applies, the change to, and the use of, the different method shall be in accordance with such regulations as the Secretary or his delegate may prescribe as necessary in order that the use of such method may clearly reflect income.The subsequent amendment of this provision by sec. 1906(b)(13) [sic] (A) of the Tax Reform Act of 1976, Pub. L. 94-455, 90 Stat. 1834, does not affect the taxable years before us.↩40. See sec. 1.472-8(e)(2), Income Tax Regs.↩41. Since we hold that petitioner may determine the costs of completed long-term contracts using inventories valued on the LIFO method, we need not address petitioner's other alternative argument that if inventories may not be used to accumulate deferred costs, LIFO may nevertheless be used to value such deferred costs.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621610/	ALLISON L. S. STERN, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Stern v. CommissionerDocket No. 93134.United States Board of Tax Appeals40 B.T.A. 757; 1939 BTA LEXIS 805; October 19, 1939, Promulgated 805 A trust for the petitioner's wife, later divorced, and his children was set up by another woman who was the defendant in settlement of litigation against her brought by the petitioner's wife, the trust naming petitioner as the grantor, although he transferred nothing to it. Termination of the trust could occur only at the joint election of petitioner and the attorneys for the adversaries in the suit. Held, the income of the trust is not taxable to the petitioner. Hugh Satterlee, Esq., and I. Herman Sher, Esq., for the petitioner. Francis S. Gettle, Esq., and Paul J. Ashe, Esq., for the respondent. STERNHAGEN 757 The Commissioner determined a deficiency of $2,848.62 in petitioner's income tax for 1935, including in his taxable income the income of a trust for his divorced wife and his children. FINDINGS OF FACT. Petitioner, a resident of New York, was married in 1923, and two children were born of the marriage. On December 16, 1926, he and his wife separated; on December 23, 1927, they made a separation agreement, and later petitioner brought suit for absolute divorce in New Jersey. The wife counterclaimed for absolute806 divorce, and in 1930 brought a separate action for criminal conversation and alienation of her husband's affection against another woman, claiming damages of $2,000,000. 758 In October 1933, while both suits were pending, petitioner paid his wife $100,000 in full settlement of his obligation to provide for her support and in release fo her right of dower and all other interest in his estate during life or after; she released him from "all debts, sums of money, accounts, contracts, claims and demands whatsoever", and agreed to provide fully and adequately for the support, maintenance, and education of the children. The prior separation agreement was canceled. At the same time the wife's suit for criminal conversation and alienation of affection was settled. Solely in consideration for this settlement, the defendant "or others, but not including the petitioner" transferred $400,000 to the City Bank Farmers Trust Co., as trustee, under an instrument dated January 18, 1933, in which petitioner was designated as the grantor, and his "purpose of providing for the complete support and maintenance forever" of his wife and children was recited. The trustee was empowered to hold807 and invest the corpus, pay taxes and expenses, collect the income, and pay the net amount thereof to the wife, who was to apply part to the children's support until each should reach the age of 21 years. When the child should attain that age, the trustee was to pay to him one-fourth of the income for life and the remainder to the wife for life. Upon the wife's death, corpus was to be distributed to the children, or if deceased, to their issue, or if they left no issue, to the wife's heirs and next of kin. In case of a child's death without issue during the wife's life, his interest in the trust was to go to the wife. Provision was made for termination of the trust and conveyance of its property to the "grantor" at the end of any calendar year upon a written notification to the trustee, signed not less than 13 months prior to such termination date, that a member of the law firm representing the defendant, the lawyer who represented the wife, and the petitioner elected to terminate. On January 17, 1934, the Chancery Court of New Jersey granted an absolute divorce by a decree which made no provision relating to alimony to the wife or the care, custody, education, and maintenance808 of the children; and no such provision has since been made. OPINION. STERNHAGEN: In determining petitioner's income tax for 1935, the Commissioner included in his gross income the $14,048.20 representing income of the trust. His determination was based upon the postulate that the petitioner was the grantor of the trust, and upon that hypothesis it cited ; ; and . Since that time the Brooks decision has been overruled by the same court in , which followed , and . In both the Fitch and the Leonard cases certiorari had been applied for. But we think it unnecessary to consider the doctrines of those cases. The evidence shows that notwithstanding the language of the trust instrument the petitioner was not the "grantor" and that he transferred nothing in trust. He was but the nominal grantor of a fund which was actually*809 transferred by another in settlement of litigation in which that other was the defendant. This fact appearing in evidence free from doubt, the ground for the Commissioner's determination falls and the holding falls with it. The nearest that petitioner is brought to participation in this trust is as a possible recipient of its property upon its termination. But the termination can only occur with the election of the attorneys for the two women who were adversaries in the suit. This clearly gave petitioner no use, control, or enjoyment of the corpus or income, and, even if he should be treated as the grantor, his election to revoke or revest would be subject to the control of substantial adverse interests. The Commissioner's determination was in error in including the $14,048.20 income of the trust in the petitioner's taxable income. Another item of adjustment by the Commissioner is not in dispute. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621611/	G. F. VOSSLER, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Vossler v. CommissionerDocket No. 5515.United States Board of Tax Appeals9 B.T.A. 1315; 1928 BTA LEXIS 4242; January 16, 1928, Promulgated 4242 Evidence insufficient to sustain the petitioner's claim for larger deductions from income in each of the taxable years than were allowed by the respondent. B. J. Carver, Esq., for the petitioner. L. A. Luce, Esq., for the respondent. LANSDON 1315 The respondent asserted an overassessment of income tax for the year 1918 in the amount of $184.94, and deficiencies for the years 1919 and 1920 in the respective amounts of $762.21 and $467.47. The only error alleged is that the respondent failed to allow reasonable deductions from the gross income of the petitioner for each of the years involved on account of depletion of certain oil-producing properties and the depreciation of equipment thereon. FINDINGS OF FACT. The petitioner is a resident of the State of Kansas, with his principal place of business at Osawatomie. For many years be has been engaged in the business of leasing, operating, buying and selling oil properties in the States of New York, Kansas, and Oklahoma. About the year 1900, the petitioner acquired a one-half interest in an oil lease on 225 acres of land, situated near Wellsville, N.Y., at a cost of $5,100. Upon such4243 property these were drilled 23 to 28 wells, at an average cost of from $2,500 to $3,000 per well. During the taxable years the average oil production from the property was 60 or 70 barrels per month, or something motr than 700 barrels per year. The average life of producing oil wells in the district here involved is more than 50 years. In his income-tax return for the taxable year, the petitioner claimed certain deductions on account of depreciation and depletion 1316 of his one-half interest in the equipment on and the oil produced from the properties in question. Upon audit of such return the respondent readjusted the amounts so claimed and allowed deductions for the years 1918, 1919, and 1920 in the amount of $500 for each year. OPINION. LANSDON: There being only an overassessment involved for 1918, this Board has no jurisdiction over the tax controversies of that year. . At the hearing the petitioner testified in his own behalf. The findings of fact which we have made are based upon such oral evidence and upon the testimony of the revenue agent who examined the petitioner's returns. There is*4244 nothing in the evidence so adduced to establish the contention of the petitioner. Judgment will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621613/	ROYCE C. McDOUGAL, M.D., INC., ET AL., 1 Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent McDougal v. CommissionerDocket Nos. 2852-83, 2853-83, 2854-83.United States Tax CourtT.C. Memo 1985-64; 1985 Tax Ct. Memo LEXIS 570; 49 T.C.M. (CCH) 731; T.C.M. (RIA) 85064; February 12, 1985. James F. Davis and Keith T. Childers, for the petitioners. Juandell D. Glass and Leroy D. Boyer, for the respondent. COHEN2 MEMORANDUM FINDINGS OF FACT AND OPINION COHEN, Judge: Respondent determined deficiencies in and additions to Federal income tax in these consolidated cases as follows: PetitionerTaxableAdditions to TaxDocket No.YearDeficiencySec. 6651(a)Sec. 6653(a) 2Royce C. McDougal,9-30-78$949.68M.D., Inc.9-30-79607.37$151.842852-839-30-80960.54Estate of Thomas19774,481.00$224.05ArchieTrow, Deceased, and19784,208.24210.41Elaine Trow2853-83Royce C. McDougal19776,080.82304.04and Martha T.197810,979.63548.98McDougal19797,882.00394.012854-83572 After concessions, the issues remaining for decision are (1) what amounts relating to the use of a vehicle owned by Royce C. McDougal, M.D., Inc. and operated by petitioner Royce C. McDougal should be allowed as deductions to the corporate petitioner and what amounts should be included in the McDougal's gross income as constructive dividends; and (2) the amounts allowable to petitioners in each of the taxable years as deductions for contributions of shares of stock in a closely held corporation to a charitable foundation. 733 FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts and exhibits attached thereto are incorporated herein by this reference. Petitioner corporation, R.C. McDougal M.D., Inc., a/k/a/Royce C. McDougal, M.D., Inc. (McDougal, Inc.), was an Oklahoma corporation having its principal office in Holdenville, Oklahoma, during the years in issue and at the time the petitions in these consolidated cases were filed. At all times material herein McDougal, Inc. 573 was a professional service corporation which rendered medical services. McDougal, Inc. was wholly-owned by petitioner Royce C. McDougal (McDougal), who served as president of the corporation. McDougal and his wife, Martha T. McDougal, and T.A. Trow (Trow) and his wife, Elaine Trow, resided in Holdenville, Oklahoma, during the years in issue and at the time their petitions were filed herein. At all times material herein McDougal was a physician practicing medicine as an employee of McDougal, Inc., and T. A.. Trow was a physician practicing medicine as an employee of his wholly-owned professional service corporation, T.A. Trow, Inc. (Trow, Inc.) T. A. Trow, also known as Thomas Archie Trow, died during the pendency of these proceedings on June 23, 1983. The Estate of Thomas Archie Trow, deceased, was substituted as a party petitioner on July 5, 1984. 4 (1) Personal Use of VehiclesDuring the years in issue McDougal, Inc. provided McDougal with a leased Ford pickup truck for his business and personal use. The corporation leased a new pickup truck every 2 years and paid all expenses relating to the operation and maintenance of the vehicle, including lease payments, 574 insurance, license fees, repairs, gasoline and oil. The vehicles were driven between 25,000 and 30,000 miles before being returned to the leasing company at the end of a 2-year period. Although the vehicle was used primarily for corporate business, McDougal also used it to commute between his home and clinic (1.6 miles round trip). His personal use of the vehicle also included travel between Holdenville and Oklahoma City (170 miles round trip) in connection with his work on the legislative council of the Oklahoma Medical Association (once a week during legislative sessions) and his work as a preceptor for a medical school (four to five times each year). McDougal also used the vehicle on local fishing and hunting trips. During the fishing season from March to October, McDougal went fishing an average of twice a week (30 miles round trip per week). He went hunting approximately five or six times a year (30 miles round trip). On its returns for the years ended September 30, 1978, September 30, 1979, and September 30, 1980, respectively, McDougal, Inc. claimed the following amounts as automobile and travel expenses: $4,090.45, $4,438.30, and $5,340.53 5 In his statutory575 notice of deficiency in docket No. 2852-83, respondent disallowed in entirety the claimed deductions of McDougal, Inc. for the fiscal years ended September 30, 1978, and September 30, 1980, because it was not established that the amounts represented ordinary and necessary business expenses or were expended for the purpose designated. In the statutory notice in docket No. 2854-83, respondent determined that payments made by McDougal, Inc. during the taxable years 1977, 1978, and 1979, for the operation and maintenance of the company-owned pickup trucks were for the McDougal's personal benefit and constituted constructive dividends for those years in amounts of $889.76, $3,954.02, and $3,948.91, respectively. Respondent now concedes that 90 percent of the expenses attributable to the pickup trucks were for the business use of McDougal, Inc., and 10 percent of those expenses were for the personal benefit of the McDougals. (2) Charitable Contribution DeductionsOn their individual income tax returns for the years in issue, petitioners McDougal and Trow claimed charitable contribution deductions with respect to donations in 1977 and 1978 of shares of Physicians and Surgeons Clinic,576 Incorporated (PSC) to The Care's Foundation (Care's), a private foundation within the meaning of section 170(b)(1)(D) (now section 170(b)(1)(E)). 6 At the time of incorporation in 1961, McDougal and Trow each owned one-fifth of the outstanding capital stock of PSC, an Oklahoma professional corporation. The corporation's status as a professional corporation was changed to that of a business corporation by amended articles of incorporation dated September 16, 1976. At the beginning of 1977, McDougal and Trow each owned 50 percent (10 shares) of the corporation's outstanding capital stock. At all times pertinent to this proceeding PSC maintained its books and records and filed its Federal income tax returns on a cash basis of accounting. Because McDougal and Trow wished to be relieved of many of the problems and responsibilities of running a business and hoped to increase the efficiency of the clinic, they arranged with William T. Daniel (Daniel) for an organization known as Medical Management Group (MMG) to take over the operation and management of PSC in 1976 on a trial basis for 1 year. Under the initial arrangement with MMG, McDougal and Trow performed medical services577 for PSC, and each received compensation equal to 50 percent of his collectible billing. The doctors were pleased with their arrangement with MMG and agreed to continue the arrangement for a 3-year period in exchange for an increased percentage of collectible billing. Pursuant to the new arrangement, McDougal and Trow entered into 7 identical agreements, dated August 25, 1977, which referred to PSC as "First Party" and each doctor's professional corporation as "Second Party" and provided in pertinent part as follows: 1. Second Party shall perform medical services on contract basis for First Party and Second Party shall receive as compensation therefore the following amounts: Fifty-five percent (55%) of collectible billing, payable monthly. 2. First Party shall furnish to Second Party office space, furniture, supplies, nurses and equipment necessary for Second Party to perform the services under this contract. 3. Second Party shall furnish those things necessary for personal use not related to practice income such as personal long distance phone calls, etc. 4. The term of this Contract shall be for a period of ten (10) years beginning the date of this agreement. 578 This Contract shall not be terminated by either party. * * 6. All work performed by Second Party under this Contract and Agreement shall be considered work performed for and on behalf of First Party. All clients of First Party shall at all times remain clients of First Party. All files, working papers, and any other material prepared by Second Party in connection with First Party clients shall remain the property of First Party. All account receivables due and owing as a result of work performed by Second Party for First Party under the terms of this contract shall remain and at all times be the property of First Party. All contracts, monthly billings and retainer agreements entered into as a result of this agreement shall remain the property of First Party. 7. * * * It is therefore agreed between the parties that patients of First Party shall at all times remain patients of First Party. All files, working papers, and any other materials prepared by Second Party in connection with First Party's patients shall remain the property of First Party. 8. For a period of two (2) years from the date of termination of this agreement, whether by mutual consent or by either579 party hereto, and whether by wrongful discharge or otherwise, Second Party shall not directly or indirectly, either as an individual on his own account, or as partner or joint venture, or as an employee, agent, or assistant for any person, association, corporation, or as an officer, director, or stockholder of a corporation or otherwise; 8 (a) canvas, solicit, or accept any business from any present or past client of First Party. (b) directly or indirectly request or advise any present or future clients of First Party to withdraw, curtail, or cancel his business with First Party. (c) directly or indirectly disclose to any other person, firm, or corporation, names of past, present or future clients of First Party. (d) directly or indirectly induce or attempt to influence any employee of the First Party to terminate his employment. (e) directly or indirectly engage in the business of rendering medical services or related services within the County of Hughes, Oklahoma. * * * 9. This Contract will be irrevocable unless any employee of Second Party performing services under this agreement ceases to be a professional in good standing with the peers in his profession. 580 An addendum to the 1977 agreement defined "collectible billing" as "total gross billing less all welfare and medicare/welfare assigned billing which will be paid on the percent formula upon receipt of payment from the state agency." The arrangement under the 1977 agreement continued until petitioners terminated their association with MMG on June 6, 1979. Expenses of PSC, other than doctors' fees, exceeded 45 percent of income for the fiscal years ended June 30, 1974, June 30, 1975, and June 30, 1977. At all times material herein, PSC owned all the tangible personal property located in the clinic and, subject to the rights of patients, all medical records and reports used by 9 McDougal, Inc. and Trow, Inc. in connection with the practice of medicine. The office space furnished under the employment agreements was leased by PSC, at its expense, from MTM Corporation (MTM), which was owned equally by McDougal and Trow. PSC paid no dividends prior to or during the years in issue. The balance sheet (Schedule L) of PSC's corporate income tax return for the year ended June 30, 1978, indicated current liabilities of $9,840.28 in excess of current assets. Pursuant to a plan581 devised by Daniel to further relieve the doctors from their responsibilities in connection with the clinic and to save taxes, McDougal and Trow donated shares of PSC to Care's in 1977 and 1978. McDougal and Trow pledged all of their shares in PSC (20 shares) and all of their shares in MTM to Care's pursuant to a "Pledge Agreement" dated August 25, 1977. Under the terms of the Pledge Agreement, McDougal and Trow agreed to deposit all their shares in PSC and MTM with attorney Max Moulton as escrow agent, instructed him to transfer to Care's stock in the corporations equal to a minimum value of $10,000 per year each, and authorized additional transfers to Care's within the agent's sole discretion. Under the Agreement, the escrow agent had the right to vote the shares held in the escrow account. Upon the death of either doctor, his shares held by the escrow agent would be immediately transferred to Care's. Stock assignments dated December 10, 1977, indicated transfers to Care's by McDougal and Trow of 2 shares and 1.4 10 shares, respectively. Additional transfers of .45 shares each were the subject of stock assignments dated December 10, 1978. 3582 Under Daniel's plan, Care's would arrange to have the PSC corporate assets appraised "as high as possible in an effort to secure the most optimistic appraisal. This would give each [doctor] a 30% of adjusted gross income tax deduction personally each year." Daniel advised McDougal and Trow: In the event that you hesitate in making your decision, you might let me warn you that in my opinion MTM is a holding company which has very serious tax consequences. In other words, impossible. I recommend that we have a meeting immediately to strive to eliminate the holding company problem by paying out all the earnings of reducing the income to the corporation from P&S Clinic so that there will not be a profit. Should you decide to go ahead with this option you need to sign the stock certificates for MTM and P&S Clinic on the back which will make the transfer, then send them back with Bob McLauchlin. Your accountants will work with you in taking the deduction to the best advantage. This, in my opinion, is a way for you to get rid of the responsibility, have Uncle Sam give you back a lot of money and keep the control where you can continue somewhat as you normally have in management583 with MMG coordinating and continuing with its operational contract. On their 1977, 1978, and 1979 returns, prepared by Walter S. Hammert, a certified public accountant, the McDougals claimed deductions of $14,751.04, $19,282.39, and $15,846.05, 11 respectively, for donations of 1 share of PSC in 1977 and 1.45 shares in 1978. These amounts were based on a value of $22,500 per share and reflect petitioners' limitation of their claimed charitable contribution deductions to 30 percent of adjusted gross income and their carryovers of the unused portions of these deductions to their 1978 and 1979 returns. The Trows claimed charitable contributions on their 1977 and 1978 returns with respect to their stock donations to Care's in amounts of $15,500 and $10,125, respectively. Respondent's valuation engineer, Fred M. Selensky (Selensky), determined the fair market value of 100 percent of the PSC stock to be not more than $500, or $25 per share. In his notices of deficiency, respondent determined that it was not established that the PSC stock contributed by petitioners had a fair market value in excess of $25 per share. Respondent allowed the McDougals $25 for the 1977 contribution584 and $36.25 for that in 1978, allowed no carryover deductions, and increased their taxable income by $14,726.04, $19,246.14, and $15,846.05, for 1977, 1978, and 1979, respectively. Respondent allowed the Trows $35 for the 1977 contribution and $11.25 for that in 1978, and increased their taxable income by $15,465 and $10,113.75 for 1977 and 1978, respectively. 12 ULTIMATE FINDINGS OF FACT (1) Petitioner McDougal used the company-owned vehicle 90 percent of the time on company business of McDougal, Inc. and 10 percent for personal purposes. (2) The fair market value of the PSC stock donated by petitioners to Care's in 1977 and 1978 was no more than $25 per share. OPINION (1) Personal Use of VehiclesAt trial petitioners admitted that some personal use was made of the pickup trucks leased for them by McDougal, Inc., but they claimed for the first time that only 90 percent of the total expenses incurred were actually taken as deductions on the corporate returns. Petitioners failed to introduce any evidence to substantiate this claim, and we therefore reject it. See Rule 142(a), Tax Court Rules of Practice and Procedure. The testimony of McDougal supports our585 finding that (at least) 10 percent of the use of the vehicles was personal to him. A corporation is not entitled to deductions related to a stockholder's use of corporate property for personal purposes not proximately related to corporate business, and the fair "rental" value of such property is includable in the stockholder's income. Commissioner v. Riss,374 F.2d 161">374 F.2d 161, 166-167, 170 (8th Cir. 1967), affg. a Memorandum Opinion of this Court; Challenge Manufacturing 13 Co. v. Commissioner,37 T.C. 650">37 T.C. 650, 659, 663 (1962); Rodgers Dairy Co. v. Commissioner,14 T.C. 66">14 T.C. 66, 73-74 (1950). The personal use of corporate property by a shareholder is a constructive dividend to the shareholder in amount equal to the fair value of the benefits conferred. See Nicholls, North, Buse Co. v. Commissioner,56 T.C. 1225">56 T.C. 1225, 1238 (1971); Challenge Manufacturing Co. v. Commissioner,37 T.C. at 663. Sections 301(c)(1) and 316 provide586 that to the extent of earnings and profits such distributions will be dividends to the shareholder. No evidence or argument was presented regarding the earnings and profits of McDougal, Inc.Thus we conclude that petitioners have not met their burden of proving that McDougal, Inc. lacked sufficient earnings and profits to cover the amounts in question. Rule 142(a), Tax Court Rules of Practice and Procedure. Accordingly, such distributions, to the extent disallowed as expenses of McDougal, Inc., represented dividend income to the McDougals individually. (2) Charitable Contribution DeductionsWe must determine the fair market value of the PSC stock at the times of the contributions to the Care's Foundation in 1977 and 1978. Although petitioners claimed charitable contribution deductions on their 1977 and 1978 returns based on a value of $22,500 per share, petitioners now contend the stock was worth $15,400 per share at the time of each contribution. Respondent 14 contends the stock was worth only $25 per share at the time of each contribution. Section 170(a)(1) allows a deduction587 (subject to certain limitations not relevant here) for charitable contributions made during the taxable year. The parties agree that Care's qualifies as a private foundation under section 170(b)(1)(D) (now section 170(b)(1)(E)). Section 1.170A-1(c)(1), Income Tax Regs., generally provides that if a charitable contribution is made in property other than money, the amount of the contribution is the fair market value of the property at the time of the contribution. Fair market value is 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 sell and both having a reasonable knowledge of relevant facts." Section 1.170A-1(c)(2), Income Tax Regs.Respondent's determination in the notice of deficiency is presumptively correct. Petitioners have the burden of proving that the valuation of the PSC stock should be higher than the $25 per share determined in the statutory notices. Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Rule588 142(a), Tax Court Rules of Practice and Procedure.Where the property contributed is stock in a closely held corporation, such value is a pure question of fact. See Hicks v. United States,486 F.2d 325">486 F.2d 325, 328 (10th Cir. 1973); Hamm v. Commissioner,325 F.2d 934">325 F.2d 934, 938 (8th Cir. 1963), affg. a 15 Memorandum Opinion of this Court; Duncan Industries, Inc. v. Commissioner,73 T.C. 266">73 T.C. 266, 276 (1979). In determining the value of unlisted stocks, actual sales made in reasonable amounts at arm's length, in the normal course of business within a reasonable time before or after the valuation date, are the best criteria of market value. Fitts' Estate v. Commissioner,237 F.2d 729">237 F.2d 729 (8th Cir. 1956), affg. a Memorandum Opinion of this Court; Duncan Industries, Inc. v. Commissioner,73 T.C. at 276. Petitioners made no effort to comport with this standard. Although McDougal testified that PSC repurchased the stock of two589 physicians who left the clinic sometime during the fiscal years 1975, 1976, or 1977, no evidence was introduced regarding these transactions. Petitioners' expert witness, Walter S. Hammert, testified that he did not consider the repurchases in arriving at his valuation of the PSC stock. We infer that evidence of those transactions would be unfavorable to petitioners' position. 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). Although opinion evidence is admissible and relevant on the question of value, we must weigh such evidence in light of the demonstrated qualifications of the expert and all other evidence of value. Anderson v. Commissioner,250 F.2d 242">250 F.2d 242, 249 (5th Cir. 1957), affg. a Memorandum Opinion of this Court. We may find the evidence of valuation by one of the parties sufficiently more 16 convincing than that of the other party. Buffalo Tool & Die Mfg. Co. v. Commissioner,74 T.C. 441">74 T.C. 441, 452 (1980). Petitioners rely on Hammert's testimony590 to support the claimed deductions. Hammert, a certified public accountant, admitted that he had never before performed a fair market valuation for stock of a closely-held corporation. Respondent relies on the valuation report and expert testimony of his valuation engineer, Selensky, an agent experienced in evaluating stock of closely-held corporations. Hammert testified that in his opinion each share of PSC stock had a value at the time of each contribution of $15,400 for liquidation purposes and from $18,500 to $20,500 as a going concern. He testified that he arrived at his valuation by making certain adjustments to the balance sheets (Schedule L) of the PSC Federal income tax returns for the fiscal years 1977 and 1978. Hammert attributed substantial value to accounts receivable, PSC's lease on the office space owned by MTM, and PSC's machinery, equipment, furniture, and fixtures. No books or records of the corporation, no copy of the lease, nor any other evidence was introduced to validate the adjustments. No written valuation report was introduced to support Hammert's appraisal. Hammert stated that he included $192,000 in accounts receivable for 1977 and $200,577 for 1978. 591 Hammert's approach is inherently flawed, however, in view of the effect of the employment agreements on the receivables. The agreements in effect at the times of the contributions provided for payment to 17 each physician of 55 percent of his collectible billing, with adjustments for welfare and medicare/welfare assigned billing. The evidence reveals that after payment of expenses and the percentage due the physicians under the employment agreements, there was no profit available for distribution to stockholders. Hammert attributed $95,000 for 1977 and $102,000 for 1978 to PSC's lease. Because neither the lease nor the subleases he assumed are part of the record, Hammert's testimony as to the value of the lease is purely speculative. We seriously doubt that an expert in the field or a prospective purchaser of stock would reasonably rely on such conjecture. See Rule 703, Federal Rules of Evidence. Moreover, the fact that McDougal and Trow were effectively both lessee and lessor by virtue of their ownership of MTM and could have changed the contract at any time casts doubt on any attribution of value to the lease. Hammert concluded that the fair value of PSC's machinery, 592 equipment, furniture, and fixtures on June 30, 1977 was $16,900. Hammert testified that this figure was composed of the undepreciated basis of the personal property shown on the corporation's 1977 income tax return balance sheet, plus 30 percent of the initial cost of those items. Again, the record contains no evidentiary support for Hammert's conclusion and no verification of the correctness of his method. Respondent's expert Selensky relied primarily on the overall effect of the physicians' employment agreements in reaching his conclusion that the total value of the PSC stock was worth no 18 more than $500. Because the 1977 agreements did not prevent the doctors from leaving the clinic at any time -- by moving to another community or by retiring from medical practice -- and there was no anticipated income available to potential stockholders after payment of expenses, Selensky concluded that there was no "future benefit," i.e., no expectation of return, from ownership of the PSC stock. There are many unexplained gaps in the evidence, and those gaps are to the disadvantage of petitioners, who bear the burden of proof. See also Wichita Terminal Elevator Co. v. Commissioner,supra.593 After weighing all the facts and circumstances revealed by the entire record and considering the opinions of the expert witnesses, in light of their qualifications and methods of valuation, we are convinced that respondent's valuation is the most reasonable. Petitioners have certainly failed to establish any value in excess of $25 per share. Decisions will be entered under Rule 155.Footnotes1. Cases of the following petitioners are consolidated herewith. Estate of Thomas Archie Trow, Deceased, Hugh Edward Brinson, Executor, and Elaine Trow, docket No. 2853-83; Royce C. McDougal and Martha T. McDougal, docket No. 2854-83.↩2. Unless otherwise indicated, all statutory references are to the Internal Revenue Code of 1954, as amended and in effect during the years in issue.↩3. The record is ambiguous as to when and in what amounts the shares of PSC were transferred by McDougal. The parties stipulated that he donated 1 share in 1977 and 1.45 shares in 1978. The PSC stockholder ledger for McDougal indicated a transfer of 2 shares on December 10, 1977, and .45 share on December 10, 1978. The McDougal's 1977 Form 1040 indicated a contribution of 1 share in 1977. Their 1978 return indicated a contribution of 1 share on October 3, 1978, and .45 share on December 10, 1978. Correspondence from petitioners' attorney, Moulton, contains conflicting statements as to when and in what amounts the total of 2.45 shares was transferred by McDougal.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621614/	ALVIN HOWSE and JEAN M. HOWSE, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentHowse v. CommissionerDocket No. 3462-69.United States Tax CourtT.C. Memo 1974-225; 1974 Tax Ct. Memo LEXIS 89; 33 T.C.M. (CCH) 996; T.C.M. (RIA) 74225; August 29, 1974, Filed. Alvin Howse, pro se. Stanford M. Kaufman, for the petitioner Jean M. Howse. Daniel A. Taylor, Jr., for the respondent. 91 FEATHERSTONMEMORANDUM FINDINGS OF FACT AND OPINION FEATHERSTON, Judge: Respondent determined deficiencies in petitioners' Federal income tax and additions to tax as follows: YearDeficiencyAddition to Tax (Sec. 6653(a), I.R.C. 1954) 1964$ 3,117.39$155.87196511,458.61572.93196680.344.02Several concessions having been made, the issues remaining for decision are: 1. Whether respondent could properly reconstruct, by use of the percentage markup method, petitioner's income in 1964 and 1965 from a retail-wholesale merchandising business; 2. Whether petitioners realized additional income in 1964, 1965, and 1966 which they did not report on their income tax returns for those years; 3. Whether petitioners are entitled, under section 165(a), 1 to deduct a confiscation loss for 1965 and, if so, the amount of such loss; 4. Whether petitioners are entitled to a deduction for a net operating loss carryback from 1965 to 1964; 5. Whether any part of the underpayment for each of the years92 in issue was due to "negligence or intentional disregard of rules and regulations" within the meaning of section 6653(a); and 6. Whether Mrs. Howse is relieved, under the "innocent spouse" provisions of section 6013(e), of liability for the deficiencies and additions to tax. FINDINGS OF FACT Alvin and Jean M. Howse (hereinafter petitioners) were husband and wife and legal residents of El Paso, Texas, at the time they filed their petition herein. Although joint Federal income tax returns were filed for the years in issue and both spouses petitioned this Court, the activities herein described are chiefly those of petitioner Alvin Howse. Accordingly, the term "petitioner" will refer to him individually. Petitioner holds a bachelor's degree in agricultural economics from New Mexico State University and has done one year of graduate work at that institution. On or about July 1, 1964, he started Howse Enterprises (hereinafter Enterprises), a sole proprietorship which he operated until December 1965, at which time he filed a petition in bankruptcy. Petitioners reported income and expenses of Enterprises, based upon a calendar year, accrual method of accounting, on Schedule93 C of their 1965 joint income tax return. However, petitioners failed to report any profit or loss for Enterprises on their joint return for 1964 even though it had revenues and expenses for that year. Petitioners reported the following income items on their joint income tax returns for the years in issue: Source Year196419651966 Wages 1$10,156.77$7,217.32$11,467.82Rent935.001,020.00982.50Sales-0-94,623.69-0-$11,091.77$102,861.01$12,450.32Enterprises was a small retail-wholesale sporting goods outlet in El Paso, Texas. Its business premises consisted of a storefront where outboard motors, camping equipment, refrigerators, stoves, washing machines, household items, office machines and supplies, and camera and photo supplies were displayed. In addition, boats were on display in a nearby yard. At the same location was a warehouse, approximately 48 feet by 200 feet, where household appliances were stored. 94 Enterprises also sold merchandise in west Texas, New Mexico, and Mexico at retail and wholesale. In addition to the El Paso store, it rented a "warehouse," consisting of four motel rooms, four garages, and parking space for two trucks, at the Riviera Motel in Juarez, Mexico. Petitioner failed to maintain any books or formal records for Enterprises from which his business transactions could be ascertained. However, the parties have stipulated that Enterprises had no beginning inventory for its taxable year 1964, that the ending inventories for its 1964 and 1965 tax years were $21,362.70 and $10,906.34, respectively, and that during 1964 and 1965, it had ordinary and necessary business expenses of $5,889.73 and $21,964.81, respectively. The following table reflects the amounts of Enterprises' purchases of various kinds of merchandise and the percentage of each category in relation to total purchases: 2 1964 1965Amount%Amount% Foods$ 1,748.633.91$4,985.133.85Camping Equipment3,196.327.156,746.525.21Household Appliances & Furniture17,125.0438.3232,155.4824.85Marine Supplies17,541.5739.2531,915.9024.66Auto Parts & Accessories1,433.313.213,170.512.45Fishing Tackle3,231.447.2313,195.1710.20Hardware & Tools22.480.0515,208.2811.75Water Sports Equipment180.750.402,227.151.72Guns, Ammunition, & Parts-0--0-12,392.939.58Office Machines & Supplies206.750.461,422.141.10Cameras & Photo Supplies-0--0-549.00.042Golf Equipment-0--0-343.33$0.27Clothing-0--0-3,257.182.52Toys-0--0-1,626.021.26Game Calls-0--0-61.580.05Spray Devices-0--0-142.560.111 $44,686.2999.982 $129,398.88100.0095 On July 26, 1965, Mrs. Howse planned to accompany her husband on a trip to deliver merchandise in Mexico. However, when she arrived at the Riviera Motel in Juarez, where the goods were warehoused, she found officials of the Mexican Government. When petitioner arrived, he spoke with the officials in Spanish regarding the merchandise. This merchandise was inspected and some cartons and boxes were broken open. The merchandise was then confiscated and removed from the motel. Mexican officials prepared a document listing the property seized. The agents detained petitioner but allowed Mrs. Howse to return to El Paso to raise a large sum of money which they requested. She returned to Juarez and went to the customs house, accompanied by her Mexican lawyer, to find that many of the items which had been seized were not there. In addition to the merchandise, petitioner's 1965 International pickup truck, used in transporting and hauling the merchandise, was confiscated, as96 was a rented trailer which had been towed by the truck. Petitioner claimed that he had purchased the truck in April 1965 for approximately $4,000. Petitioners did not claim a deduction for this confiscation on their joint 1965 return. However, upon being audited by the Internal Revenue Service, petitioners' accountant claimed a confiscation loss of $19,057.26 for 1965. The revenue agent, Henry Doblado (Doblado), allowed only $4,977.87 of this loss, consisting of merchandise having a cost of $1,846.55 3 and the truck valued at $3,130.32. Since Enterprises lacked both an accounts Totalreceivable ledger and a cash disbursements journal, and in fact had no books or complete records, Doblado determined that Enterprises' records were not adequate to clearly reflect income. Using the specific item method of reconstructing income, he determined that Enterprises had sales of $33,899.63 and $175,267.04 for 1964 and 1965, respectively. Because the period prescribed by the statute of limitations97 was due to expire shortly, the district conferee recommended that the agent's report be adopted although he had some reservations concerning it, particularly regarding the inclusion of a $32,000 Mexican judgment in Enterprises' 1965 sales. On review it was recommended that the percentage markup method, rather than the specific item method used by the agent, be used to recompute Enterprises' sales, and this was done. Under this method, the alleged judgment was not included in sales. Accordingly, the district conferee computed gross sales for Enterprises, based on cost of goods sold as computed by Doblado, using figures taken from a 1964 and a 1965 "Costs-of-Doing Business Survey" published by the National Sporting Goods Association (NSGA). These surveys showed that, for those NSGA member-retailers participating in the surveys, costs of goods sold represented, on the average, 67.3 percent of net sales in 1964 and 69.7 percent in 1965 and that gross profits for those years constituted 32.7 and 30.3 percent of sales, respectively. 4On this basis, respondent determined that Enterprises' sales98 for 1964 and 1965 were $36,887.49 and $188,566.82, respectively, computed by the percentage markup method and using the NSGA percentages. He also increased petitioners' income for 1966 by $618.73. OPINION 1. Propriety of Percentage Markup Method Each taxpayer is required to * * * maintain such accounting records as will enable him to file a correct return. * * * Accounting records include the taxpayer's regular books of account and such other records and data as may be necessary to support the entries on his books of account and on his return, * * * Sec. 1.446-1(a) (4), Income Tax Regs. Petitioner exhibited in Court large quantities of papers purportedly representing worksheets, bank transfers, bank deposit and sales slips, etc. However, these papers were disorganized and incomplete, and petitioner had never recorded their essential elements in books of account covering the income and expenses of Enterprises. Neither he nor his accountant could substantiate the figures shown on Schedule C of petitioners' 1965 return. Accordingly, we think respondent was justified in resorting to any reasonable method of income reconstruction which would clearly reflect Enterprises' 99 income. Webb v. Commissioner, 394 F.2d 366">394 F.2d 366, 371-372 (C.A. 5, 1968), affirming a Memorandum Opinion of this Court. The percentage markup method chosen by respondent in reconstructing Enterprises' income consisted of "adding to the cost of goods sold a predetermined percentage of profit." Bernstein v. Commissioner, 267 F.2d 879">267 F.2d 879, 880 (C.A. 5, 1959), affirming a Memorandum Opinion of this Court. This percentage markup method has long been recognized as an acceptable method of income reconstruction. Maurice Cross, 24 B.T.A. 1079">24 B.T.A. 1079, 1082 (1931); Jacob Roffwarg, 2 B.T.A. 332">2 B.T.A. 332 (1925). 2. Unreported Income for 1964, 1965, and 1966 There is no dispute between the parties as to Enterprises' cost of goods sold. The parties have stipulated the closing inventories for 1964 and 1965 and, consequently, the opening inventory for 1965. In reconstructing Enterprises' income, respondent essentially accepted the amount of purchases determined by petitioner from his suppliers' invoices. As discussed below, respondent adjusted his computation for 1965 for the goods confiscated by the Mexican authorities. We are, therefore, satisfied that the cost-of-goods-sold100 figures determined by respondent are reasonable. The most serious area of dispute is the percentage markup applied by respondent to the cost of goods sold in computing gross sales. Respondent used the national average percentage markup employed by member-retailers of the National Sporting Goods Association… Petitioner earnestly contends that the national gross profit averages (32.7 percent for 1964 and 30.3 percent for 1965) far exceed the gross profits he realized from Enterprises' retail sales and, further, that a large portion of his sales were wholesale transactions having a much lower markup. Petitioner testified to his approximate markup on various types of goods, but offered no documentation to support his figures. Taking into account all the pertinent evidence, we think the average markup used by members of the National Sporting Goods Association is higher than that used by petitioner. As we understand the record, NSGA's members are sporting goods dealers scattered over the United States who sell at retail. The parties agree that only $14,692.12 of Enterprises' 1965 sales were made at retail rates. A more reliable guide could have been obtained from a similar business101 of the same relative size and mode of operation, located in petitioner's immediate area. 5 Yet we think petitioner's testimony as to his gross profit was too heavily weighted in his favor. We think it incredible that he would have taken the criminal and other risks he ran in making sales in Mexico for the small margin of profit he claims. To avoid a harsh and unrealistic result, we find, in the light of all the evidence, the applicable percentages to be 25 percent for 1964 and 23 percent for 1965. 6 Based on these percentages, Enterprises had sales of $31,031.60 for 1964 and $161,660.22 for 1965 and net profits of $316.59 and $8,264.34, respectively, for the two years, computed as follows: 1964 1965 Sales$31,031.60$161,660.22less Cost of goods sold:(24,825.28)(131,431.07)Beginning inventory$ -0-$ 21,362.70plus Purchases-Merchandise46,187.98122,822.26less Ending inventory(21,362.70)(10,906.34)Adjustment for confiscation-0-(1,847.55)Gross profit$ 6,206.32$ 30,229.15less Expenses(5,889.73)(21,964.81)Net Profit$ 316.59$ 8,264.34102 Petitioner reported no income from Enterprises on his 1964 return and his income for that year should be accordingly increased by $316.59. He reported a loss of $28,973.95 from Enterprises on his return for 1965, and we have determined that he realized a profit of $8,264.34. In addition, petitioner has not shown that respondent erred in determining that he omitted an item of $618.73 from his 1966 income. This item was discovered by his accountant during the reconstruction of petitioner's books and records. Petitioner did not object to this item at trial or on brief and has failed to meet his burden of proof as to it. We find no merit in peitioner's claim that this item should be offset by a loss claimed for goods stolen from Enterprises' El Paso store since respondent did not disallow this loss which was claimed on petitioners' 1966 return. 3. Confiscation Loss Petitioner contends that he is entitled to a confiscation loss deduction of $30,052.31 for 1965 representing merchandise with an alleged cost of $27,252.31 and a truck valued at $2,800 7 seized by Mexican authorities. Petitioner argues that before applying any percentage markup, his purchases for 1965 should103 be reduced by the cost of merchandise seized. Since this merchandise was not sold, its cost should not be used in computing gross profits for that year. Respondent agrees that an adjustment is in order but does not agree with the amount claimed by petitioner. As noted in our Findings of Fact, the Mexican authorities prepared an inventory of the property seized, and this list was introduced into evidence. Petitioner alleges that this list is incomplete, and he implies that the officials misappropriated a large portion of the merchandise seized and recorded only the remainder. Petitioner's only corroboration was the testimony of Mrs. Howse, who testified that all the property seized was not displayed at the customs house. However, she would not go so far as to state that the officials stole some of the merchandise. She also admitted that some of the property could have been stored at another location. This testimony does not substantiate petitioner's claim. We find the invoices which petitioner104 presented insufficient to establish an additional loss. Petitioner presented no evidence correlating these "invoices" with the merchandise confiscated. Our study of the documents offered to corroborate this claim, together with all the related testimony, convinces us that respondent did not err to the prejudice of petitioner in computing the amount of this loss. Accordingly, we hold that petitioner has not shown that his confiscation loss exceeded the $4,977.87 deduction already allowed him in the notice of deficiency. 4. Net Operating Loss Carryback Under our Findings, there is no loss to carry back from 1965 to 1964. Furthermore, section 172(b) (2) requires that the entire amount of the net operating loss for any tax year first be carried back to the earliest of the tax years to which such loss may be carried (3 years per section 172(b) (1) (A)), and only the amount by which the loss exceeds the taxable income for each of those prior years may be carried forward. In the instant case, the entire amount of the claimed loss for 1965 would first be carried back to 1962 and then to 1963. However, petitioner has presented no evidence as to his 1962 and 1963 income. For this105 additional reason, no net operating loss, even if one had been proved, could be carried back to 1964. 5. Additions to Tax Under Section 6653(a) Section 6653(a) provides for the imposition of an addition to the tax if any part of an underpayment "is due to negligence or intentional disregard of rules and regulations (but without intent to defraud)." Respondent's determination that petitioner's underpayment for each of the years in issue was due to negligence or intentional disregard of rules and regulations is prima facie correct. Rule 142, Tax Court Rules of Practice and Procedure. Petitioner presented no evidence to the contrary, and the record amply demonstrates the negligence of petitioner in keeping records for Enterprises. Therefore, the additions to tax on the underpayments for 1964 and 1965 are proper. Mark Bixby, 58 T.C. 757">58 T.C. 757, 791-792 (1972); James S. Reily, 53 T.C. 8">53 T.C. 8, 14 (1969); James W. England, Jr., 34 T.C. 617">34 T.C. 617, 623 (1960). However, the omission of the one item from 1966 income resulted from mere inadvertence rather than negligence. For this reason, we find the addition to tax for that year improper. 6. Mrs. Howse's Liability106 for Tax and Additions Thereto As a general rule, when a husband and wife file a joint return, each is jointly and severally liable for the tax. Sec. 6013(d) (3). However, section 6013(e) 8 relieves a spouse of liability for taxes, interest, and additions to tax resulting from an omission of income by the other spouse if three requirements are met: (1) the income omitted from the return exceeds 25 percent of the amount of gross income stated in the return; (2) the spouse did not know of, and had no reason to know of, the omission; and (3) the spouse did not benefit from the omitted income. 107 Respondent has conceded that Mrs. Howse is entitled to the benefits of section 6013(e) if the percentage omission test of section 6013(e) (1) (A) is met. Petitioners reported the following amounts of gross income for the years in issue, and we have determined the following omissions from gross income for those years: 196419651966 Gross income reported:Wages1 $10,156.77$ 7,217.32$11,467.82Rent935.001,020.00982.50Sales 2-0-94,623.69-0-Total gross income reported$11,091.77$102,861.01$12,450.32Gross income omitted:Sales$31,031.60$ 67,036.53$ -0-Other-0--0-618.73Total gross income omitted$31,031.60$ 67,036.53$ 618.73108 * * Clearly, the omissions from gross income for 1964 and 1965 exceed 25 percent of the gross income reported for those years. Accordingly, Mrs. Howse is relieved of liability for the taxes, interest, and additions due to Mr. Howse's omissions in those years. To reflect the foregoing and the concessions by the parties, Decision will be entered under Rule 155. Footnotes1. All section references are to the Internal Revenue Code of 1954, as in effect during the tax years in issue, unless otherwise noted. ↩1. This includes an item of $270 representing reimbursement for travel expenses. ↩2. These figures were compiled by petitioner from invoices. They do not include items which were paid by check for which no invoice was available. ↩1. In the statutory notice of deficiency, this figure was increased to $46,187.98.↩2. In the statutory notice of deficiency, this figure was reduced to $122,822.26 to reflect a confiscation loss adjustment. ↩3. This amount was based on estimates in pesos by Mexican officials and converted to dollars by the revenue agent. The district conferee reduced cost of goods sold by this amount. ↩4. The 1964 figures are for retailers having a sales volume of less than $75,000. ↩5. See Leo J. Omelian, a Memorandum Opinion of this Court dated Mar. 23, 1953. ↩6. The figure for 1965 is lower than that for 1964 in order to reflect a higher level of wholesale sales by Enterprises and the lower gross profits realized nationally by NSGA members. ↩7. It appears that petitioner may have recovered this truck since he listed a 1965 International pickup, with $1,600 owing on it, on his bankruptcy petition filed on Dec. 23, 1965. ↩8. This subsection reads as follows: (e) Spouse Relieved of Liability in Certain Cases. - (e) In general. - Under regulations prescribed by the Secretary or his delegate, if - (A) a joint return has been made under this section for taxable year and on such return there was omitted from gross income an amount properly includable therein which is attributable to one spouse and which is in excess of 25 percent of the amount of gross income stated in the return, (B) the other spouse establishes that in signing the return he or she did not know of, and had no reason to know of, such omission, and (c) taking into account whether or not the other spouse significantly benefited directly or indirectly from the items omitted from gross income and taking into account all other facts and circumstances, it is inequitable to hold the other spouse liable for the deficiency in tax for such taxable year attributable to such omission, then the other spouse shall be relieved of liability for tax (including interest, penalties, and other amounts) for such taxable year to the extent that such liability is attributable to such omission from gross income. (2) Special rules. - For purposes of paragraph (1) - (A) the determination of the spouse to whom items of gross income (other than gross income from property) are attributable shall be made without regard to community property laws, and (B) the amount omitted gross income shall be determined in the manner provided by section 6501(e) (1) (A). ↩1. This includes an item of $270 representing reimbursement for travel expenses. ↩2. Sec. 6013(e) (2) (B) provides that the amount omitted from gross income "shall be determined in the manner provided by section 6501(e) (1) (A)." Sec. 6501(e) (1) (A) (i) is as follows: In the case of a trade or business, the term "gross income" means the total of the amounts received or accrued from the sale of goods or services (if such amounts are required to be shown on the return) prior to diminution by the cost of such sales or services; * ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621615/	Meridian Mutual Insurance Company, Petitioner, v. Commissioner of Internal Revenue, RespondentMeridian Mut. Ins. Co. v. CommissionerDocket No. 3615-62United States Tax Court44 T.C. 375; 1965 U.S. Tax Ct. LEXIS 73; June 17, 1965, Filed 73 Decision will be entered for the respondent. Held: 1. In determining the tax on a mutual insurance company other than life or marine under section 821, the tax on net investment income computed under section 821(a) (1) is first to be compared with the alternative tax on capital gains computed under section 1201(a) and the lesser of these is next to be compared with the tax computed under section 821(a) (2) on gross investment income and net premiums, the greater of these being the tax imposed.2. A mutual insurance company other than life or marine which redeems U.S. savings bonds Series G or K before maturity is not entitled to a deduction for the interest which it is required to repay the Government upon redemption. C. Blaine Hays, Jr., for the petitioner.Dennis J. Fox, for the respondent. Bruce, Judge. Withey, J., dissents. Drennen, J., dissenting. Forrester, Fay, and Hoyt, JJ., agree with this dissent. BRUCE 375 OPINIONThe respondent determined deficiencies in income tax for the calendar years 1958 and 1959 in the respective amounts of $ 11,059.9475 and $ 7,136.35.Two issues are presented: The first concerns the method of computing the petitioner's tax as a mutual insurance company other than life or marine. The second is whether petitioner is entitled to a deduction for a payment required on redemption of U.S. savings bonds, Series G and K.The facts are stipulated and the stipulation is adopted as our findings of fact.Petitioner is a corporation organized under the laws of the State of Indiana, with its principal office in Indianapolis, Ind. Since 376 January 1, 1953, it has been engaged in the fire and casualty insurance business as a mutual insurance company in Indiana, Kentucky, Michigan, and South Carolina.Petitioner filed its income tax returns as a mutual insurance company other than life or marine for the taxable years 1958 and 1959 on Form 1120M with the district director of internal revenue, Indianapolis, Ind.On its 1958 return petitioner entered computations of tax in the following amounts, as described below:Line 12, p. 2 (the investment method)$ 113,368.67Line 21, p. 2 (the premium method)111,095.01Line 20, Schedule D (the alternative method)99,418.62Line 27, p. 1 (total income tax)111,095.0176 As a result of respondent's examination of petitioner's 1958 return, a refund of tax for the taxable year 1958 was paid to petitioner on August 19, 1959.On its original 1959 return petitioner entered computations of tax in the following amounts, as described below:Line 12, p. 2 (the investment method)$ 129,588.46Line 21, p. 2 (the premium method)123,730.99Line 20, Schedule D (the alternative method)116,594.64Line 27, p. 1 (total income tax)116,594.64Upon examination of such return respondent determined that petitioner was not entitled to pay its 1959 income tax under the alternative method and that the refund of tax for the taxable year 1958 should not have been made.During the taxable year 1959 petitioner redeemed certain U.S. Series G and K bonds. Interest on such bonds was payable annually by the Government at a flat rate from purchase date to maturity. Such bonds were sold at par value and redeemed at par value, but in the event of redemption before maturity the purchaser was obliged to repay a portion of the interest to the Government. The following schedule shows the G and K bonds, their cost, purchase date, redemption price, date redeemed, net proceeds77 paid to petitioner after offset of interest, and amount of interest repaid by petitioner with respect to each bond:Cost andNet proceedsSavingsPurchasedredemptionDatepaid toInterestbondspriceredeemedpetitionerrepaid(par value)GJan. 1, 1948$ 100,000Dec. 15, 1959$ 99,940.00$ 60.00GJuly 1, 1948100,000Dec. 15, 195999,300.00700.00GFeb. 1, 1952100,000Sept. 1, 195996,400.003,600.00KJuly 1, 1952200,000Sept. 1, 1959193,933.336,066.67KAug. 25, 1953200,000Sept. 1, 1959193,933.336,066.67KJan. 1, 1954200,000Sept. 1, 1959193,933.346,066.66900,000877,440.0022,560.00377 On its original 1959 tax return petitioner deducted the $ 22,560 of interest repaid the Government as a long-term capital loss on Schedule D attached to the return. On September 7, 1962, petitioner filed an amended income tax return for the year 1959, claiming the $ 22,560 on line 13, page 1 of the return, as a deduction for "Refund of Interest on Series G & K U.S. Saving Bonds."The Internal Revenue Code of 1954 provides for taxation of mutual insurance companies other than life or marine or certain others78 in subchapter L, part II, sec. 821-823. 1Section 821(a) provides for a tax computed under paragraph (1) or paragraph (2), whichever is the greater. Paragraph (1) provides for a tax on "mutual insurance company taxable income" at the regular corporation tax rates. Section 822 defines this income, which is, in general, income from investments and capital gains less deductions for investment expenses, real estate expenses, depreciation, interest paid or accrued, and capital losses. Paragraph (2) of section 821(a) provides for a tax on the gross income from investments except capital gains, plus premium income, 378 less dividends to policyholders and interest on certain governmental obligations, at the rate of 1 percent. Section 821(e) refers to the alternative tax provided in section 1201(a), which is to be in lieu of the tax imposed by section 821(a)(1) if it is less than the tax imposed by such section.79 These sections provide for making three possible computations of tax and a selection of one of the three as the tax imposed. These methods of computation are referred to herein as the investment method, which is described in section 821(a)(1); the premium method, section 821(a)(2); and the alternative method, section 1201(a). The parties are in agreement as to the mechanics of these computations and on the amounts so computed for the taxable years. They differ as to the method of selection of the one computation which is the tax imposed. As between the investment method and the premium method, the greater amount is the tax imposed. As between the investment method and the alternative method, the lesser amount is the tax imposed. The petitioner's position is that the tax computed by the investment method is first to be compared with the tax computed by the premium method, and if the tax by the investment method is the greater, it is to be compared, next, with the amount computed by the alternative method, the lesser of these being the tax imposed. The respondent's position is that the tax computed by the investment method is first to be compared with the tax computed80 by the alternative method, and the lesser of these is next to be compared with the tax computed under the premium method, the greater of these amounts being the tax imposed.In its 1958 return the petitioner entered as the tax imposed the amount computed under the method the respondent now contends is correct. On examination of that return the respondent first determined that that method was erroneous and made a refund on the basis of computation which the petitioner now contends is correct and which it followed in its 1959 return. On examination of the 1959 return respondent determined that such method is erroneous and that the refund for 1958 was made in error.The petitioner first contends that it was entitled to rely upon the respondent's interpretation in allowing a refund of tax upon the 1958 return. The petitioner does not plead estoppel but argues that respondent should be consistent. Where there has been a mistake of law, the respondent is not estopped to correct the mistake in a year where the statute of limitations has not run. Automobile Club v. Commissioner, 353 U.S. 180">353 U.S. 180 (1957), affirming 20 T.C. 1033">20 T.C. 1033 (1953);81 Fruehauf Trailer Co., 42 T.C. 83">42 T.C. 83 (1964), on appeal (C.A. 6); McIlhenny v. Commissioner, 39 F. 2d 356 (C.A. 3, 1930), affirming 13 B.T.A. 288">13 B.T.A. 288; Lucy M. Lawton, 16 T.C. 725">16 T.C. 725 (1951). The respondent could proceed by suit under section 7405 to collect the erroneous refund but is not 379 limited to that procedure and may determine a deficiency within the period of limitations. Mary R. Milleg, 19 T.C. 395">19 T.C. 395, 398 (1952). The refund is not conclusive on the respondent in the absence of a closing agreement, valid compromise, or final adjudication.It is obvious that if the amount computed under the premium method was the largest of the three amounts it would become the tax imposed, regardless of which of the two other amounts was the greater or lesser. And, if the amount computed under the premium method was the smallest of the three it could not become the tax imposed, for the lesser of the other two would qualify. The method of selection becomes important only where the amount computed under the premium method is the middle figure 82 of the three, as was the case in these taxable years. Under the respondent's method it then becomes the tax imposed; under petitioner's method it does not.Petitioner argues that section 1201(a) was meant to provide relief where a taxpayer had income from capital gains; that in the case of a mutual insurance company the respondent's interpretation would make this meaningless, as section 1201(a) could never result in any benefit to such a taxpayer. Respondent says it is not true that the tax computed under the alternative method could never result in a benefit to a mutual insurance company, as such a company might liquidate sufficient investments to result in a tax by the alternative method in excess of the tax under the premium method.Petitioner stresses the language of section 1201(a)2 that "in lieu of the tax imposed by sections * * * 821(a)(1) * * * there is hereby imposed a tax (if such tax is less than the tax imposed by such sections)." (Emphasis supplied.) Petitioner says that until the section 821(a)(1) tax is compared with the 821(a)(2) tax and found to be the greater, it is not the tax imposed, therefore that comparison must be made first. We do not agree. 83 First, it should be pointed out that no particular significance is to be given to the fact that reference to section 1201(a) is made in section 821(e). See sec. 7806(a) and (b). 384 380 The tax under section 1201(a) is provided as an alternative to the tax under section 821(a)(1) but not to that under section 821(a)(2). Had petitioner's viewpoint been the intent of the Congress, the tax could have been provided as an alternative to the tax under section 821(a) instead of only the tax under section 821(a)(1).The tax computed under the investment method includes capital gains in the computation, as does also the alternative tax, while the computation under the premium method excludes capital gains. The object of the alternative tax computation is to limit the amount of capital gains tax otherwise imposed by section 821(a)(1); it is not an alternative to the premium method tax under section 821(a)(2) or any other tax not specifically set forth in section 1201(a). Income Tax Regs., sec. 1.1201-1(a).The petitioner's method would choose the lowest figure of the three in the situation existing in these taxable years. The respondent's method would choose the middle figure. Respondent points out that the consequence of using the method contended for by the petitioner would be that a mutual insurance company having some long-term capital gains would85 pay less tax than a company having the same other income but no capital gains, thus paying less tax on greater income.Section 1201(a), made applicable to any corporation, provides for the imposition of a tax to be computed in the manner prescribed therein, in lieu of the tax imposed, among others, by section 821(a)(1), if the net long-term capital gain of the corporation exceeds the net short-term capital loss, and if the section 1201(a) tax is less than the section 821(a)(1) tax. Thus, when the 1201(a) tax is less than the 821(a)(1) tax it takes the place of the 821(a)(1) tax for the purposes of section 821(a). When the amount of such alternative tax is greater than the amount of the tax computed under paragraph (2) of section 821(a), it is the tax imposed, but when, as here, it is less than the amount of the tax computed under paragraph (2), section 821(a) requires the use of the larger amount, that is, the tax computed under section 821(a)(2) as the tax imposed.In our opinion the respondent's method of selecting the tax imposed is correct and the comparison is to be made first between the amounts computed under sections 821(a)(1) and 1201(a), the lesser of these86 being compared next with the amount computed under section 821(a)(2), and the greater of these being the tax imposed. In the present case the tax computed under section 821(a)(2) is the tax imposed for 1958 and 1959. 4The second issue is whether the redemption in 1959, prior to maturity, of U.S. savings bonds, Series G and K, accompanied by a mandatory repayment of interest to the Government, gives rise to a tax deduction to a mutual insurance company other than life or marine. 381 Petitioner claimed a deduction of the amount so repaid in 1959 as a long-term capital loss on its original return, and later filed an amended return claiming it as a deduction for refund of interest. Respondent disallowed the deduction.Petitioner says, on brief, that this issue is important only if its liability for 1959 is to be determined under section 821(a)(1), or that section as modified by section 1201(a). It would87 appear from petitioner's statement it is not contending that the deduction is allowable in a computation under section 821(a)(2). We have concluded that the petitioner's tax is to be computed under section 821(a)(2). We agree with the respondent that section 821(a)(2) contains no provision which would authorize this deduction. Accordingly we sustain respondent on this issue. The reasoning in Equitable Life Insurance Co. of Iowa v. United States, 340 F. 2d 9 (C.A. 8, 1965), holding a similar payment to be not deductible under the provisions governing taxation of life insurance companies, is applicable here.Decision will be entered for the respondent. DRENNENDrennen, J. dissenting: I respectfully dissent because I believe a strict application of the statutory language here involved as written, unaided by any legislative history or regulatory interpretation, more logically reaches the opposite result from that of the majority.The tax on mutual insurance companies is imposed by section 821(a) and is the tax computed under paragraph (1) or paragraph (2), whichever is the greater. No reference is made in section 821(a) to the alternative88 tax on capital gain under section 1201(a). The reference to section 1201(a) is made in section 821(e).Paragraphs (1) and (2) of section 821(a) provide methods of computation of the tax imposed by section 821(a). Section 1201(a) provides, in the case of corporations, that if the net long-term capital gain of the corporation exceeds the net short-term capital loss of the corporation, then, in lieu of the tax imposed by section 821(a)(1) there is imposed a tax as therein computed. In other words, as I read it, section 1201(a) imposes an alternative tax rather than an alternative method of computation under section 821(a).It appears to me that the more logical application of the statutory language contained in section 821(a) requires a computation of tax under paragraphs (1) and (2) first. If the tax as computed under paragraph (2), the so-called premium method, is greater, that is the end of the matter and that is the tax that is imposed by section 821(a). However, if the tax computed under paragraph (1), the so-called investment method, is greater, then that is the tax imposed by section 821(a) unless an alternative tax is imposed by virtue of section 382 1201(a). But 89 section 1201(a) does substitute an alternative tax if the tax on a mutual insurance company has been imposed by section 821(a)(1). There is no election provided; section 1201(a) provides that the tax computed thereunder is imposed in lieu of the tax imposed under section 821(a)(1).If Congress had actually intended, under section 821(a), to impose the greater of the tax computed under three alternative methods, which is the effect of the majority opinion except where the alternative tax under section 1201(a) is less than the tax computed under section 821(a)(1) but greater than the tax computed under section 821(a)(2), it seems to me that it would have made the reference to section 1201(a) either immediately following section 821(a)(1) or as a separate paragraph (3) under section 821(a). I do not think the provisions of section 7806, quoted in footnote 3 in the majority opinion, support an argument to the contrary. While those provisions may prevent the drawing of inferences, etc., from "the location or grouping of any particular section or provision or portion of this title" they certainly do not suggest that Congress would not make a logical arrangement of the three alternative90 methods of computation under section 821(a) if that was what it intended.In my opinion petitioner's application of the statute is correct and should be sustained. Footnotes1. Secs. 821 through 823 of the Internal Revenue Code of 1954 were substantially changed by amendments contained in the Revenue Act of 1962. Accordingly, for the purposes of the years here involved, all references to such sections shall refer to the statutory language thereof as it existed prior to 1962. Similarly, since small clarifying changes were made in sec. 1201(a) by the Revenue Act of 1962, references herein to sec. 1201(a) of the Internal Revenue Code of 1954 shall refer to the language thereof as it existed prior to 1962.SEC. 821. TAX ON MUTUAL INSURANCE COMPANIES (OTHER THAN LIFE OR MARINE OR FIRE INSURANCE COMPANIES ISSUING PERPETUAL POLICIES).(a) Imposition of Tax on Mutual Companies Other Than Interinsurers. -- There shall be imposed for each taxable year on the income of every mutual insurance company (other than a life or a marine insurance company or a fire insurance company subject to the tax imposed by section 831 and other than an interinsurer or reciprocal underwriter) a tax computed under paragraph (1) or paragraph (2), whichever is the greater: (1) If the mutual insurance company taxable income (computed without regard to the deduction provided in section 242 for partially tax-exempt interest) is over $ 3,000, a tax computed as follows: (A) Normal tax. --(i) Taxable years beginning before July 1, 1959. -- In the case of taxable years beginning before July 1, 1959, a normal tax of 30 percent of the mutual insurance company taxable income, or 60 percent of the amount by which such taxable income exceeds $ 3,000, whichever is the lesser; * * (2) If for the taxable year the gross amount of income from the items described in section 822(b) (other than paragraph (1) (D) thereof) and net premiums, minus dividends to policyholders, minus the interest which under section 103 is excluded from gross income, exceeds $ 75,000, a tax equal to 1 percent of the amount so computed, or 2 percent of the excess of the amount so computed over $ 75,000, whichever is the lesser. * * (e) Alternative Tax on Capital Gains. -- For alternative tax in case of capital gains, see section 1201(a).[As amended by sec. 2, Pub. L. 85-475, approved June 30, 1958.]↩2. SEC. 1201. ALTERNATIVE TAX.(a) Corporations. -- If for any taxable year the net long-term capital gain of any corporation exceeds the net short-term capital loss, then, in lieu of the tax imposed by sections * * 821(a)(1) or (b), * * * there is hereby imposed a tax (if such tax is less than the tax imposed by such sections) which shall consist of the sum of -- (1) a partial tax computed on the taxable income reduced by the amount of such excess, at the rates and in the manner as if this subsection had not been enacted, and(2) an amount equal to 25 percent of such excess, * * ↩[As amended by sec. 3(f)(2), Pub. L. 86-69, approved June 25, 1959.]3. SEC. 7806. CONSTRUCTION OF TITLE.(a) Cross References. -- The cross references in this title to other portions of the title, or other provisions of law, where the word "see" is used, are made only for convenience, and shall be given no legal effect.(b) Arrangement and Classification. -- No inference, implication, or presumption of legislative construction shall be drawn or made by reason of the location or grouping of any particular section or provision or portion of this title, * *↩4. See Rev. Rul. 62-3 (published Jan. 8, 1962), 1 C.B. 92">1962-1 C.B. 92↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621616/	SCHUMAN PIANO CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Schuman Piano Co. v. CommissionerDocket No. 12772.United States Board of Tax Appeals10 B.T.A. 118; 1928 BTA LEXIS 4188; January 23, 1928, Promulgated 4188 The petitioner in the year 1920 in order to obtain an agency for a certain line of merchandise and to eliminate a competitor, purchased from the competitor for $7,000 its stock of goods worth $665.43, the competittor agreeing to cease dealing therein. Six thousand dollars of the purchase price was paid in 1920 and the remainder was paid in 1921. During the year 1920 the demand for the kind of merchandise acquired by the petitioner greatly lessened and in its income-tax return for that year it deducted as a loss the difference between the value of the goods purchased and the amount actually paid therefor. Held, that the deduction was properly disallowed. James A. O'Callaghan, Esq., for the respondent. MARQUETTE 119 This proceeding is for the redetermination of a deficiency in income and excess-profits taxes asserted by the respondent for the year 1920 in the amount of $1,101.48. The deficiency arises from the disallowance by the respondent of a deduction of $5,334.57 claimed by the petitioner on account of an alleged loss. FINDINGS OF FACT. This proceeding was submitted on the pleadings. The respondent by his answer admits all the allegations4189 of fact contained in the petition but avers that the facts do not constitute a good cause of action. The material allegations of the petition are as follows: The taxpayer is an Illinois corporation with principal offices at Fulton & Logan Streets, in the City of Rockford, County of Winnebago, State of Illinois, U.S.A.The deficiency letter (copy of which is attached) was mailed to the taxpayer on the 26th day of January, 1926, was received on the 29th day of January, 1926, and states a deficiency of One Thousand One Hundred One Dollars and Forty-Eight Cents ($1,101.48). The taxes in controversy are income and excess profits taxes for the calendar year 1920 and are less than Two Thousand Dollars $2,000, to-wit - One Thousand One Hundred and One Dollars and Forty Eight Cents ($1,101.48). The determination of tax contained in said deficiency letter is based upon the disallowance of a loss of Five Thousand Three Hundred Thirty Four Dollars and Fifty-Seven Cents ($5,334.57) claimed by the taxpayer. When the Edison Phonograph Company opened another account in the City of Rockford we were compelled to drop this line and as our patronage was accustomed to buy phonographs and4190 records from our retail store we were sorely in need of another line of phonographs. We were very anxious to obtain the Victor Talking Machine Company's line but found that this was possible only by eliminating one of the present dealers in the City of Rockford. We, therefore, approached Messrs. E. L. and A. M. Burr, a sporting goods store located in the City of Rockford, County of Winnebago, State of Illinois, U.S.A., who were accredited dealers of Victor merchandise but handled said merchandise as a sideline only. After conversation pro and con, we finally purchased from Messrs. E. L. and A. M. Burr of this city, for the amount of Seven Thousand Dollars ($7,000) merchandise of the Victor Talking Machine Company of Camden, N.J., valuing at wholesale Six Hundred Sixty Five Dollars and Forty Three Cents ($665.43), and their assurance that they would discontinue buying and selling Victor merchandise in their establishment. In the fall of 1920 we experienced a great slump in the sale of talking machines and records and our business in such merchandise since that time has been practically nil. Therefore, in order that the financial statement of our corporation be correct and not4191 show untrue values we were compelled to write off as a loss that excess amount which we paid for the Victor merchandise purchased from E. L. and A. M. Burr, amounting to Six Thousand Three Hundred Thirty-Four Dollars and Fifty-Seven Cents ($6,334.57), and decided to write off during 1920 Five Thousand Three Hundred Thirty Four Dollars and 120 Fifty Seven Cents ($5,334.57) of said excess, the amount actually paid by us during the year. The balance of One Thousand Dollars ($1,000) was paid during 1921 and written off at that time. OPINION. MARQUETTE: The petitioner during 1920 paid $6,000 to E. L. and A. M. Burr for their stock of Victor Talking Machine Co. merchandise and their oral promise that they would discontinue buying and selling Victor merchandise from their place of business. The wholesale value of the merchandise bought by the petitioner was only $665.43. Practically no sales of talking machines or records were made by the petitioner during the balance of the year 1920; therefore petitioner claims the right to deduct as a loss the difference between the purchase price and the wholesale value of the goods bought from the Burrs, viz, $5,334.57. The petitioner4192 relies upon section 234(a)(4) of the Revenue Act of 1918, which reads as follows: SEC. 234. (a) That in computing the net income of a corporation subject to the tax imposed by section 230 there shall be allowed as deductions: * * (4) Losses sustained during the taxable year and not compensated for by insurance or otherwise. The petitioner's purchase from the Burrs covered not only the stock in trade and agency rights, but also the elimination of the Burrs as a competitor. The fact that the petitioner's sales thereafter during 1920 were negligible in amount is not sufficient to establish a loss as of that year. The petitioner still had the principal consideration for which the purchase was made, namely, the agency for Victor machines and records and the elimination of the Burrs as a competitor. These were not confined to the year 1920. They were continuous and may have proved profitable in later years. It was not, therefore, a closed transaction which would establish loss to the petitioner. . Judgment will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621617/	Helen Lambert Norton v. Commissioner.Norton v. CommissionerDocket No. 85649.United States Tax CourtT.C. Memo 1962-20; 1962 Tax Ct. Memo LEXIS 291; 21 T.C.M. (CCH) 92; T.C.M. (RIA) 62020; January 30, 1962291 1. Petitioner, in 1945, purchased a historic house known as the "General Wadsworth cottage" for restoration. She had business cards printed and designated her alleged business as "Lambert Studios," and after her name used the title of "Decorative Consultant." Petitioner paid $7,500 for said house and lot, and during the years 1945 through 1950, inclusive, she made certain improvements to the house and lot so that her cost basis for the property (not including land) was $32,182.65 on January 1, 1957. Petitioner has resided in said house from 1945 to the time of the instant trial. From January 1, 1950, to December 31, 1957, she had no receipts from Lambert Studios. On her income tax return for the taxable year 1957, petitioner claimed business expenses on Schedule C which were disallowed by respondent. Held: That the expenditures in question are not deductible as ordinary and necessary expenses paid or incurred during the taxable year 1957 in carrying on any trade or business under sec. 162 of the 1954 Code. Held, further: That real estate taxes and interest are allowable as deductions in determining net income. 2. During the taxable year 1957, petitioner received social security payments 292 totaling $483.60. For each of the years 1933 through 1940, inclusive, she earned in excess of $600. During 1953, she earned a salary of exactly $600 as a member of the Legislature of the State of Connecticut, and received dividends of $1,130.52. In 1955, she reported salary of $600 from the State Legislature, a long-term capital gain with respect to the Branford property, dividend income and interest income. During 1956, petitioner reported a net long-term capital gain from the sale of securities of $244.12. Held: That petitioner has failed to prove she earned income of more than $600 in each of ten previous calendar years before the taxable year 1957 and, hence, is not entitled to the retirement income credit under sec. 37(b) of the 1954 Code. Watson Washburn, Esq., 36 W. 44th St., New York, N. Y., for the petitioner. J. Frost Walker, Jr., Esq., for the respondent. FISHERMemorandum Findings of Fact and Opinion FISHER, Judge: Respondent determined a deficiency in petitioner's income tax for the taxable year 1957 in the amount of $544.94. The issues to be decided are: (1) Whether, during the taxable year 1957, expenditures incident to restoration of a historic house were ordinary 293 and necessary expenses paid or incurred in carrying on a trade or business within the purview of section 162(a) of the Code of 1954; (2) whether real estate taxes on said property and interest were deductible in determining net income, and (3) whether petitioner received earned income of more than $600 in each of any ten previous calendar years before the taxable year 1957 within the meaning of section 37(b) of the 1954 Code. Findings of Fact Some of the facts have stipulated and are incorporated herein by this reference. Helen Lambert Norton, hereinafter sometimes called petitioner, a citizen of the United States and a resident of Durham Center, Connecticut, filed her Federal income tax return for the taxable year 1957 with the district director of internal revenue, Hartford, Connecticut. In 1933, petitioner was employed as an appraiser for inheritance tax purposes on a single assignment which took about two years to complete. Thereafter, she began to remodel old homes, joined the New York Real Estate Board, handled fire retarding alterations of tenements for several banks, and engaged in general construction work, first operating under the trade name of Lambert Studios and later 294 as the Cadley Construction Company. These business activities lasted from 1933 until the beginning of 1941, and her annual earnings during the years 1933 to 1940, inclusive, ranged from $4,000 to $7,000. In 1938 petitioner remarried, and in 1945 she was separated from her husband. She received a separation allowance of $300 a month. In addition to this monthly allowance she had at that time about $40,000 in marketable stocks and also an interest in a family corporation which paid her dividends of about $2,500 a year. After her separation she had "business cards" printed which referred to her alleged business as "Lambert Studios, Real Estate," and after her name there was the designation "Architectural & Building Contractor." These cards showed her address as Durham, Connecticut, where she lived in the spring of 1945. Petitioner also listed herself as a contractor and specialist in restoration of old houses in the classified directory of her local telephone books. In the fall of 1945, petitioner purchased the "General Wadsworth cottage" at Durham, Connecticut. She had business letterheads printed in that year with a picture of the General Wadsworth cottage at the top, and designated 295 herself thereon as "Specialist in Old Home Restorations." Also, she had new business cards printed giving her new address at Durham Center and designated her alleged business as "Lambert Studios, Estate Appraisals, Antiques," and after her name used the title of "Decorative Consultant." Petitioner paid $7,500 for said house and lot. During the years 1945 through 1950, inclusive, petitioner made certain improvements to the house and lot so that her cost basis for the house (not including land) was $32,182.65 on January 1, 1957. In 1947, petitioner also purchased land and a log cabin at Branford, Connecticut, for $20,050. Shortly thereafter she purchased the building known as the "Goodrich Homestead" (but not the land) for $5,000, and spent $1,039.30 in dismantling said building and storing it. In 1950 and 1951, she spent $2,905.58 in erecting a new house at Branford. In 1952 petitioner was elected to the State Legislature. In 1955 she sold her Branford property, including the new house thereon, together with the dismantled Goodrich Homestead, for $39,000, of which $20,000 was in the form of a purchase money mortgage. The sales expenses on said sale were $4,142.90. In addition, while 296 she owned said land, she paid $4,977.03 in carrying charges applicable to her cost basis. She made a net gain of $4,850.43 on which she paid income tax as capital gain. In 1952 the State of Connecticut passed a law requiring realtors to take out licenses and to bond themselves. In that year petitioner took out a license, secured a bond, and paid the license fees and bond premiums annually from that time through 1957. The cost of said fees and premiums in 1957 was $32.50. The General Wadsworth cottage became a show place for individuals and groups interested in restorations. Petitioner was a member of several organizations, such as the Landmark and Antiquarian Society in Connecticut, which were interested in restoring old homes. Petitioner has resided in the General Wadsworth cottage from the time of its acquisition to the time of the instant trial. Petitioner used part of the house to store the materials used in restoring the property. She performed some of the manual work herself. On Schedule C of her income tax return for the taxable year ended December 31, 1957, petitioner claimed business expenses respecting Lambert Studios as follows: Cost of labor$1,119.00Material and supplies561.67Interest on business indebted-ness471.22Taxes on business and busi-ness property321.01Depreciation1,287.30Telephone105.91Entertainment243.79Travel60.00Real estate license15.00Bond premium as realtor17.50Total$4,202.40297 In addition, on Schedule C of her return for 1957, petitioner reported total receipts of Lambert Studios in the amount of $912.50. Said amount was, in fact, interest income received by petitioner on mortgage indebtedness of which she was the mortgagee. From January 1, 1950, to December 31, 1957, inclusive, petitioner had no receipts from Lambert Studios. Petitioner's husband (Norton) had been a broker for 40 years. At the time they were married in 1938 he traded entirely on his own account and they spent considerable time together discussing his trading. When they separated in 1945, petitioner had marketable securities of $40,000 and she employed her own broker. She studied market quotations, company financial statements, read the Wall Street Journal, and consulted her broker daily or weekly. Petitioner did not always follow her broker's advice. During the years 1946 through 1956, inclusive, petitioner realized capital gains from the sales of securities as follows: Number ofGain orYearSalesLoss194612+ $ 4,759.53194711+ 1,088.0519488+ 203.2619492- 051.8619503+ 407.1519513+ 1,692.3719523+ 1,078.5419537+ 1,130.52195411+ 2,051.1919557+ 3,079.67195610+ 244.12Total77 Total gain$14,682.54298 Petitioner was a member of the Legislature of the State of Connecticut during the years 1953 and 1955, and during each of said years received a salary of $600. During 1957 petitioner received social security payments aggregating $483.60. Opinion Issue I. Petitioner contends that the amounts claimed as business expenses under Schedule C of her return for 1957 are deductible in computing her income tax for that year under section 162(a) 1299 of the 1954 Code. In essence, it is petitioner's position that she maintained the General Wadsworth cottage during the taxable year as a business headquarters for Lambert Studios to advertise herself as a specialist in restoration and decoration; that she looked to a possible profitable sale, and that her living on the premises was purely incidental to the business of its restoration and upkeep. Respondent, in opposition, maintains that the expenditures in question are not ordinary and necessary expenses; that petitioner was not carrying on any trade or business in 1957, and that the expenditures, therefore, are not deductible. Disallowance of the claimed deductions by respondent, of course, carries a presumption of correctness, and casts upon petitioner the burden of proving error. Henry P. White, 23 T.C. 90">23 T.C. 90, 94 (1954), affd. per curiam 227 F. 2d 779 (C.A. 6, 1955). Whether the activities of a taxpayer constitute carrying on a trade or business within the intendment of the statute during the taxable year is primarily a question of fact. Morton v. Commissioner, 174 F.2d 302">174 F. 2d 302-303 (C.A. 2, 1949), affirming a Memorandum Opinion of this Court. The record fails to establish that during the taxable year 1957 (or in any of the years after petitioner purchased the General Wadsworth cottage) the property had been held or converted to an income-producing purpose or that petitioner was, in 1957, carrying on an active real estate business, or an active business as a restorer or decorator of homes, or the business of renting properties, or any other business. Some mention is made of $2 admission fees charged to people who visited her home to study architectural phases or furnishings involved in old house restorations. 300 There is no affirmative evidence of any such charges in 1957 or in any other year involved, and no income therefrom was reported in her returns from 1954 to 1957, inclusive. Petitioner had no business receipts of any kind from Lambert Studios from 1950 through 1957. In this connection, on Schedule C for the taxable year 1957, petitioner reported the amount of $912.50 as total receipts from her business, "Lambert Studios." On cross-examination, however, petitioner admitted she had no receipts from Lambert Studios for 1957, and that said amount actually constituted interest income derived from a mortgage which should have been reported on page 3 of her return for that year. For the year 1956, petitioner reported $962.50 as gross receipts from Lambert Studios, which, like its counterpart for 1957, was actually interest income which she had received as a mortgagee. To return to the question of whether or not petitioner was carrying on any trade or business in 1957 to which the deductions claimed might be attributed, it is clear at the outset that petitioner was not engaged in the real estate business in any form. She received no brokerage commissions, rental or any other business income, 301 bought or sold no properties, and engaged in no like activities for profit. The only property with which she was concerned in that year was the General Wadsworth cottage. This she occupied herself, partly as a residence, partly as a workshop for repair and restoration of the same property and partly as a show place. As will be discussed later, she was not engaged, during that year, in the business of restoration or decoration. If she had received a satisfactory offer, she may well have sold the property, but she did nothing in the nature of carrying on a business to promote such a sale. The most that can be said in favor of her position is that she was preparing to engage in such a business in the future. This is not enough to put her in the real estate business. See James M. Osborn, 3 T.C. 603">3 T.C. 603-604 (1944); Morton Frank, 20 T.C. 511">20 T.C. 511, 513 (1953). As illustrative, though in a somewhat different factual setting, see Henry G. Owen, 23 T.C. 377">23 T.C. 377, 381 (1954). The fact that petitioner sold the Branford property in 1955 does not help her here. The record, as far as it goes, (with the burden being on petitioner to prove the contrary) demonstrates that the sale was not made in the course of 302 carrying on a business. We have given consideration to the fact that she had a real estate license and filed a real estate operator's bond, but these facts fall short of demonstrating that she was actually in the real estate business. Much the same may be said about the claim that petitioner, in 1957, was in the business of restoration and decoration of old homes. We have no doubt that she spent time, effort and money in the restoration of the General Wadsworth cottage. But this was not done in the course of any going business. It was for her own home. She received no income from it and carried on no business in connection with it. It may well be that she intended to enter into the business of restoration in the future; that she was advertising her capacities; and that she believed she was creating valuable good will, but all of this was for a business to be begun at a later time. Although arising under different circumstances, the applicable principles are clearly expressed in Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933), in which the Supreme Court said in part (pp. 115-116): Reputation and learning are akin to capital assets, like the good will of an old partnership. Cf. Colony Coal and Coke Corp. v. Commissioner of Internal Revenue (C.A. 4th) 52 F. (2d) 923. 303 For many, they are the only tools with which to hew a pathway to success. The money spent in acquiring them is well and wisely spent. It is not an ordinary expense of the operation of a business. See also James M. Osborn, Morton Frank, and Henry G. Owen, all supra. There is no evidence in the record that petitioner was in any other activity which might be deemed the carrying on of a trade or business by her in 1957. Bearing in mind the conclusions reached to this point, we now consider the claimed deduction. It is stipulated that petitioner expended the items in question. We agree with respondent in disallowing all of the items in question except two. The items of cost of labor, material and supplies, depreciation, telephone, entertainment, real estate license and bond premium as realtor are not related to the carrying on of a trade or business (no such trade or business having been carried on), and there is no other basis upon which they may be deducted. The item of travel relates to petitioner's travel expense in consulting her attorney about income tax matters. We need not consider whether or not this was an ordinary and necessary expense because there was no business to which 304 it might be related. On proper proof, it might be allowable in connection with the preparation of petitioner's income tax return or for any other purpose allowable under section 212(3), but there is no evidence that the expenditure was in fact made in connection with the preparation of her return or "in connection with the determination, collection or refund of any tax." The consultation of an attorney concerning income tax matters may cover a wide field and may have no relationship to any of the factors above referred to. Cf Bonnyman v. United States, 156 F. Supp. 625">156 F. Supp. 625 (1954), affd. per curiam 261 F. 2d 835 (C.A. 6). As to the two remaining items described as "Interest on business indebtedness ($471.22) and Taxes on business and business property ($321.01)," we take a different view. It is true in the light of our conclusions, supra, that they cannot be classified as business expenses and should not have been included in Schedule C of petitioner's return. Petitioner did not take the standard deduction on her return, however, and both items are deductible from adjusted gross income in determining net income. (See section 163 as to interest and section 164 as to taxes.) The taxes in 305 question were real estate taxes on the General Wadsworth cottage. The two items discussed in this paragraph, therefore, will be allowed as deductions. Issue II Petitioner contends that she received social security payments of $483.60 during the taxable year 1957, and that her retirement income tax credit was 20 percent of $1,200, minus $483.60, or $143.28. Respondent determined that petitioner did not receive earned income of more than $600 in each of ten previous calendar years before the taxable year 1957, and, hence, was not entitled to the retirement income credit under section 37(a) and (b) 2306 of the 1954 Code. We agree with respondent. The retirement tax credit, first introduced in the 1954 Code, is an attempt to place retired individuals receiving retirement pensions under publicly administered programs on an equal footing with those receiving tax-exempt social security benefits from the Federal Government. S. Rept. 1622, to accompany H.R. 8300 (Pub. L. 591), 83d Cong., 2d Sess., p. 8 (1954). For a discussion of the legislative history of section 37(b), supra, see 32 Taxes 721">32 Taxes 721, "Taxation of Retirement Income." In order for an individual to qualify for the retirement income credit against his tax he must have received earned income in excess of $600 in each of any 307 ten calendar years (not necessarily consecutive) before the taxable year involved. Earned income for the purpose here in issue is defined in section 37(g) 3 as having the same meaning (with one exception not here material) as earned income which qualifies for the exclusion of income earned abroad under section 911(b) 4308 of the 1954 Code. In general, such earned income includes wages, salaries, professional fees, and other amounts received as compensation for personal services. See section 1.37-1, Income Tax Regs., for examples of the operation of the retirement income credit. Essentially, petitioner urges that her earnings from her contracting and real estate business for eight years from 1933 through 1940, inclusive, were never less than $4,000 a year; that in 1953 she earned a salary of $600 as a member of the Legislature of the State of Connecticut, and had in that year gains of $1,130.52 from the sale of stock as a trader in securities; that in 1955 she earned salary of $600 as a Connecticut State representative, $3,079.67 as a trader in securities, and realized a net profit of $4,850 from the sale of the "Branford Property;" and that in 1956 she earned 309 in excess of $600 as a trader in securities. Petitioner argues further that in the year 1956 she received over $900 in interest from the purchase money mortgage which she received from the sale of the Branford property, and that the net profit she realized therefrom was the result, in part, of her own supervision and physical work which entitled her to a reasonable allowance as compensation for the personal services rendered under section 37(g), supra. While we are satisfied from petitioner's testimony that she earned in excess of $600 during each of the eight years from 1933 through 1940, inclusive, she has not established that she earned the required amount in two additional years before the taxable year involved. Petitioner has not demonstrated that during 1956 she received any earned income as the term is defined in section 37(g). On her return for 1956, she reported a net long-term capital gain from the sale of securities of $244.12, and at the time said return was filed, she did not claim to be in the business of buying and selling securities. We think petitioner has failed to meet the burden of proving that she was a dealer, or that she was otherwise in the business of buying 310 and selling securities. The fact that she studied market conditions, had frequent consultations with her financial advisor, and made a profit from her securities transactions in every year but one from 1946 to 1956, inclusive, does not require a contrary conclusion. On her 1956 return, petitioner reported dividends in the amount of $3,743.24. Dividend income is clearly not to be taken as earned income within the ambit of the section 37(g), supra. Cf. John E. Greenawalt, 27 B.T.A. 936">27 B.T.A. 936, 940 (1933). The only income which petitioner reported on her return for 1955, other than the $600 as salary from the State of Connecticut, is a long-term capital gain (from the sale of the Branford property), dividend income, and interest income. As to the reported gain from the Branford property, we have concluded under Issue I that the sale thereof was not an integral part of any real estate business conducted by her during 1955, and, hence, said profit is not attributable to her personal services in operating a business. With respect to the interest income received in 1955, petitioner urges that the interest should be attributed to her personal services rendered in developing the Branford property 311 before its sale under section 37(g), supra. We find no basis to support the view that the interest income is to be treated as earned income for purposes of the retirement income credit. See W. P. Ferguson, 20 B.T.A. 130">20 B.T.A. 130, 135 (1930), affd. on this point, 45 F. 2d 573, 577 (C.A. 5, 1930). Likewise, the dividend income ($2,574.20) and the gains from the sale of securities ($3,079.67) earned in 1955 by petitioner do not qualify for the retirement income credit, since she was not a dealer in securities and, hence, is not entitled to a reasonable allowance as compensation for personal services rendered by her in handling her own affairs. See section 37(g), supra. With respect to the year 1953, petitioner earned salary in the precise amount of $600, and received gains from the sale of securities of $1,130.52. For the reasons discussed with respect to the years 1955 and 1956, the gains cannot qualify as earned income within the meaning of section 37(g). In view of the foregoing discussion, we hold that petitioner is not entitled to the retirement income credit during the taxable year 1957 within the purview of section 37(a) and (b), supra. Decision will be entered under Rule 50. Footnotes1. SEC. 162. TRADE OR BUSINESS EXPENSES. (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 trade or business, including - * ↩2. SEC. 37. RETIREMENT INCOME. (a) General Rule. - In the case of an individual who has received earned income before the beginning of the taxable year, there shall be allowed as a credit against the tax imposed by this chapter for the taxable year an amount equal to the amount received by such individual as retirement income (as defined in subsection (c) and as limited by subsection (d)), multiplied by the rate provided in section 1 for the first $2,000 of taxable income; but this credit shall not exceed such tax reduced by the credits allowable under section 32(2) (relating to the tax withheld at source on tax-free covenant bonds), section 33 (relating to foreign tax credit), section 34 (relating to credit for dividends received by individuals), and section 35 (relating to partially tax exempt interest). (b) Individual Who Has Received Earned Income. - For purposes of subsection (a), an individual shall be considered to have received earned income if he has received, in each of any 10 calendar years before the taxable year, earned income (as defined in subsection (g)), in excess of $600. * ↩3. (g) Earned Income Defined. - For purposes of subsections (b) and (d)(2), the term "earned income" has the meaning assigned to such term in section 911(b), except that such term does not include any amount received as a pension or annuity. * ↩4. SEC. 911. EARNED INCOME FROM SOURCES WITHOUT THE UNITED STATES. * *(b) Definition of Earned Income. - For purposes of this section, the term "earned income" means wages, salaries, or professional fees, and other amounts received as compensation for personal services actually rendered, but does not include that part of the compensation derived by the taxpayer for personal services rendered by him to a corporation which represents a distribution of earnings or profits rather than a reasonable allowance as compensation for the 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, under regulations prescribed by the Secretary or his delegate, a reasonable allowance as compensation for the personal services rendered by the taxpayer, not in excess of 30 percent of his share of the net profits of such trade or business, shall be considered as earned income.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621619/	FINANCE CORPORATION OF NEW ENGLAND, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Finance Corp. of New England v. CommissionerDocket No. 18742.United States Board of Tax Appeals16 B.T.A. 763; 1929 BTA LEXIS 2528; May 28, 1929, Promulgated 2528 1. Premiums paid in on capital stock may be included in invested capital. 2. Oversubscriptions to capital stock and commissions paid on the sale of capital stock held to have been improperly included in invested capital. James C. Peacock, Esq., for the petitioner. Arthur Carnduff, Esq., for the respondent. ARUNDELL763 Proceeding for the redetermination of deficiencies in income and profits taxes for the calendar years 1920 and 1921 in the respective amounts of $2,988.88 and $1,859.76, or a total of $4,848.64. Only a part, approximately $3,675, of the total is in controversy. The error alleged by petitioner is that respondent failed to include in invested capital the full amount actually paid in on capital stock. At the hearing counsel for respondent amended his answer by alleging that the invested capital as determined for each of the years should be decreased in an amount equal to the oversubscriptions to petitioner's stock, and to the extent of commissions paid for the sale of stock. The parties have stipulated that invested capital, as computed by respondent, should be increased by $155,783.33 for 1920 and $15,375 for2529 1921, representing the average amounts paid in for stock during those years. FINDINGS OF FACT. Petitioner is a corporation with principal office at Boston, Mass. Petitioner's balance sheets at the close of the taxable years were as follows: December 21, 1920December 31, 1921ASSETSCash$36,028.65$77,005.52Bank stocks61,882.3565,203.50Loans on real estate338,600.00448,650.00Notes discounted510,264.48316,590.92Receivable on subscriptions152,295.8078,341.91Underwriting contracts199,850.00199,850.00Organization expenseBonds102,263.53147,017.00Repossessed cars14,772.7111,339.67Furniture and fixtures1,431.891,484.35Suspense87.001,417,476.411,345.482.87December 21, 1920December 31, 1921LIABILITIES AND CAPITALCommon capital stock$200,000.00$200,000.00Preferred stock outstanding696,800.00735,500.00Preferred stock subscribed216,150.00101,250.00Uncompleted loans113,400.00139,208.00Accounts payable18,418.352,968.97Notes payable145,000.00120,000.00Reserve for losses11,900.57Reserve for depreciation125.00Suspense1,942.65Reserve for taxes (part of surplus)5,529.0011,604.16Surplus22,053.2021,108.521,417,476.411,345,482.872530 764 In the taxable years petitioner had in use subscription agreements. The following is a copy of the face of a typical subscription ageement: SUBSCRIPTION AGREEMENT FINANCE CORPORATION OF NEW ENGLANDAgreement by and between the FINANCE CORPORATION OF NEW ENGLAND incorporated under the laws of Massachusetts, having its home office in Boston, Mass., and George H. Coates of Worcester, Mass. hereinafter called the "Subscriber." WITNESSETH. The said FINANCE CORPORATION OF NEW ENGLAND hereby sells to the Subscriber, and the Subscriber hereby purchases, subject to conditions contained on the reverse side hereof, Fifty Shares of the Preferred Stock of said FINANCE CORPORATION OF NEW ENGLAND of he par value of Fifty Dollars ( $50) each, fully paid and non-assessable, at and for the sum of One Thousand Dollars, the receipt whereof is hereby acknowledged, and the balance in notes amounting to Twenty five hundred Dollars and it is agreed that the FINANCE CORPORATION OF NEW ENGLAND may attach the said shares of stock when issued in due course to the said notes as collateral and deposit the same in the hands of the said FINANCE CORPORATION OF NEW ENGLAND. WHEN the Subscriber2531 has paid all the notes aforesaid, according to the tenor thereof, the said FINANCE CORPORATION OF NEW ENGLAND agrees that it will deliver to said Subscriber or his or her heirs, or assigns, certificate or certificates of said Preferred Stock, so paid for, together with Six & 1/4 shares of Common Stock. In Witness whereof, the parties hereto have caused the same to be executed in duplicate and have thereto set their hands and seals this 7th day of November, 1919. FINANCE CORPORATION OF NEW ENGLANDH. O. ROBB, INC.Fiscal Agent(Signed) GEORGE H. COATES Subscriber 235 Chandler St.Address (St. and No.) Worcester, Mass.City and State Valid only when countersigned by: Witness: (Signed) J. C. AVERY, Jr., Salesman765 The following is a copy of the note executed in connection with the subscription agreements and is typical of the notes in use by petitioner: $2,500.00 2376 WORCESTER, MASS. Nov. 7, 1919.Ten months after date, for value received, I, the undersigned, hereby promise to pay to FINANCE CORPORATION OF NEW ENGLAND, or order, at the office of the said corporation, 35 Congress Street, Boston, Mass.Twenty five hundredDollars2532 payable $250.00 monthly from date until fully paid and do hereby agree that said corporation may attach hereto as general collateral 50 SHARES FINANCE CORPORATION OF NEW ENGLAND - PREFERRED 6 1/4 SHARES FINANCE CORPORATION OF NEW ENGLAND - COMMONand I do hereby give to the holder hereof full power and authority, upon the non-payment of this instrument or any part payment when due, sell, assign, transfer and deliver at any time thereafter the whole or any part of said collateral at public or private sale after due notice and advertisement thereof, at the option of the holder hereof. (Signed) GEO. H. COATES. In invested capital as computed in the deficiency letter there is included $53,237.46 for 1920 and $63,854.20 for 1921 which had been paid in on account of subscriptions to preferred stock at par plus premiums and which were later refunded because the stock had been oversubscribed. In invested capital as computed in the deficiency letter there is included $54,697.60 for 1920 and $70,872.00 for 1921 which represents part but not all of the premiums that had been paid in by stockholders and in turn paid out by petitioner as commissions to the agents through whom he2533 stock had been sold. These amounts were 10 per cent on the average amount of stock outstanding and were allowed by the Commissioner as a fair commission for selling the stock. Prior to January 1, 1920, there had been paid in on stock which was outstanding during the years 1920 and 1921 at least $130,991.23 in premiums in excess of the par value of the stock, and the full amount of these premiums had been paid to the agents as commissions for the sale of the stock. In invested capital as computed in the deficiency letter there is excluded $76,293.63 of this amount, on the ground that it represented the balance of the commissions paid to agents for he sale of stock in excess of the amount allowed by the Commissioner. Petitioner's earned surplus was $15,849.66 at the beginning of 1920 and $27,583.06 at the beginning of 1921, and these amounts were included in invested capital for the respective years. 766 OPINION. ARUNDELL: The petitioner seeks to have included in its invested capital the full amount of premiums paid in on stock by its stockholders. The total amount so paid in prior to 1920 was $130,991.23, of which the respondent has allowed as "commissions," $54,697.602534 for 1920 and $70,872 for 1921. Premiums received on the sale of capital stock constitute paid-in surplus and should be included in invested capital. . However, where commissions are paid by a corporation for the sale of its stock the amount of the commissions must be deducted from the corporation's earned surplus to the extent of such surplus. . In this case the amount of earned surplus at the beginning of each of the taxable years is stipulated, the amount for each year being less than the commissions paid. Accordingly, on recomputation, the premiums of $130,991.23 should be included in invested capital for each year instead of the lesser amounts allowed by respondent and which he allowed as "commissions," and there should be deducted the earned surplus of $15,849.66 at the beginning of 1920 and $27,583.06 at the beginning of 1921. The Commissioner asserts that he erred in not reducing invested capital by the amounts of oversubscriptions to petitioner's stock and by the amount of commissions paid. We think there can be no doubt but that amounts paid in on oversubscriptions may2535 not be included in invested capital. Such amounts were not received by the corporation for stock as it had no stock to issue for them. When oversubscriptions were received there was a liability on the part of he corporation to refund the amounts paid thereon, and if such amounts were used as capital they could amount to nothing more than borrowed capital which is excluded by the taxing statute from invested capital. As to the other point raised by the respondent, it is settled by , that commissions paid by a corporation on the sale of its capital stock can never serve to increase invested capital. Cf. . The amounts of $54,697.60 and $70,872 which were allowed by the respondent for the years 1920 and 1921, respectively, and which were a part of the premiums paid for stock, should accordingly be excluded from invested capital on recomputation. Judgment will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621620/	Ralph G. Foster v. Commissioner.Foster v. CommissionerDocket No. 5427-70SC.United States Tax CourtT.C. Memo 1971-240; 1971 Tax Ct. Memo LEXIS 92; 30 T.C.M. (CCH) 1032; T.C.M. (RIA) 71240; September 21, 1971, Filed Ralph G. Foster, pro se, 5620 1/2 Edgemar Ave., Los Angeles, Calif. Stephen W. Simpson, for the respondent. FAYMemorandum Findings of Fact and Opinion FAY, Judge: Respondent determined a deficiency in the petitioner's income tax for taxable year 1968 of $768.64. Concessions having been made, the issues remaining for decision are: (1) the proper amount of charitable deduction allowable; (2) whether the petitioner is entitled to a dependency exemption for each of his three children; (3) the deductibility93 of legal fees paid to the petitioner's former wife's attorney; and (4) whether the petitioner is entitled to use head of household rates in computing his tax. 1Findings of Fact Some of the facts have been stipulated, and such facts, together with the exhibits attached to the stipulation, are incorporated herein by this reference. Ralph G. Foster (hereinafter referred to as petitioner) was a resident of Los Angeles County, California, during the taxable year 1968 as well as at the time of filing the petition herein. He filed a separate income tax return for calendar year 1968 with the district director of internal revenue, Los Angeles, California. Petitioner, a school bus driver, was employed by the Los Angeles City schools. His gross income for taxable year 1968 was $9,539.01. In computing his taxable income petitioner deducted $430 as gifts to various charities. Respondent disallowed $190 of the charitable deduction for lack of substantiation. In January of 1968 petitioner's wife, Rhenee Foster, together with the three children of the marriage, 94 moved out of the 1033 family home. An interlocutory decree of divorce was received in July 1968 awarding the wife custody of the three children. The final decree of divorce was received in July of 1969. From the time of their separation in January, throughout the year in question, petitioner lived alone. Pursuant to a court order petitioner moved out of the family residence in July 1968. After his departure petitioner's former wife and children returned to the home. During the year in question Rhenee Foster was employed as a school teacher earning an annual salary of approximately $8,800. Commencing in January 1968 she assumed responsibility for managing the family affairs and providing for the children. The total support provided by Rhenee was approximately $1,300 for each of two children and $1,200 for the third and youngest child. Pursuant to a court order petitioner was required to pay $50 per month per child. During 1968, however, petitioner voluntarily paid only $300 in support money for all of the three children combined. An additional $200 was received from petitioner through garnishment proceedings. Rhenee incurred legal fees of $1,075 in acquiring the divorce from95 petitioner. Under court order petitioner paid the legal fees incurred by his former wife in severing the marital relationship. On his income tax return for 1968 petitioner deducted the legal fees paid to his former wife's attorney, took a dependency exemption for each of the three children, and computed his tax by employing the head of household rates. Respondent, determining that the above items, as well as the charitable contributions, were not properly deductible by petitioner, asserted the deficiency involved herein. Opinion The first issue to be decided is the proper amount of charitable deduction to be allowed petitioner for taxable year 1968. Respondent has disallowed $190 of the $430 claimed by petitioner. The burden of proving that he is entitled to a deduction greater than was allowed rests with petitioner. Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933); Rule 32, Tax Court Rules of Practice.Petitioner may meet this burden by establishing with credible evidence that charitable contributions were made in excess of the amounts allowed. Petitioner presented no evidence whatsoever in support of his contention. On direct examination petitioner testified that contributions96 were actually made in excess of the amounts shown on his return. We cannot, however, accept his barren and conclusory testimony as sufficiently substantiating petitioner's claimed deduction. We therefore hold that due to lack of substantiation petitioner is entitled to no greater charitable deduction than was allowed by respondent. Petitioner next contends that he properly deducted dependency exemptions for each of his three children. In order to be entitled to a dependency exemption for his children it is necessary for petitioner to satisfy the requirements of section 151(e) 2 which in turn looks to section 152. 3 We are not convinced by the evidence that petitioner has satisfied section 152. To qualify as a dependent the statute requires that petitioner has provided more than one-half of each child's support for the year in question. We have found as facts that petitioner provided at the very most $500 in support for all three children combined and that over $1,000 was spent for each child's support during the year. This, of course, demonstrates the absence of merit in petitioner's position. Moreover, in a divorce situation section 152(e) awards the dependency exemption to the97 parent having custody of the children unless dictated otherwise by the divorce decree and the noncustodial parent satisfies the remaining requirements of that section. 4 Since petitioner in this case 1034 has shown no facts whatsoever tending to bring him within either of the two exceptions to section 152(e), we must conclude that the exemptions were properly disallowed by respondent. 98 On his 1968 income tax return petitioner sought to deduct $1,075 paid to his former wife's attorney as the fee for severing the marital relationship. Even when such fees are paid under court order, as they were here, they are considered personal expenses and hence nondeductible. United States v. Patrick, 372 U.S. 53">372 U.S. 53 (1963); Lindsay C. Howard, 16 T.C. 157">16 T.C. 157 (1951), aff'd [53-1 USTC 9213] 202 F. 2d 28 (C.A. 9, 1953). While such a payment is certainly an extraordinary expense as petitioner claims, it cannot form the basis of a deduction without express Congressional sanction. Lastly, in computing his tax liability for the year in question, petitioner employed the head of household rates. Petitioner's use of the more favorable rates was clearly improper. To fit within the definition of section 1(b)(2) as a head of household petitioner must be one who is not married at the close of his taxable year and maintains as his home the principal place of abode of his children. At the close of the year in question petitioner and his wife were separated under an interlocutory divorce decree. Such a decree does not render the spouses unmarried. The status99 of being unmarried is not reached until a final divorce decree is entered. Merle Johnson, 50 T.C. 723">50 T.C. 723 (1968). Nor did petitioner maintain as his home a household which constituted the principal place of abode, as a member of such household, of his children. Petitioner frankly admits that he lived alone. Petitioner therefore fails to satisfy the requirements of section 1(b)(2) and is not entitled to employ the head of household rates. Decision will be entered under Rule 50 Footnotes1. Petitioner conceded at trial a fifth issue relating to the double deduction of $175 relating to the purchase of eyeglasses.↩2. Unless otherwise specified all statutoryreferences are to the Internal Revenue Code of 1954. SEC. 151. ALLOWANCE OF DEDUCTIONS FOR PERSONAL EXEMPTIONS. * * (e) Additional Exemption for Dependents. - (1) In General. - An exemption of $600 for each dependent (as defined in section 152) - (A) whose gross income for the calendar year in which the taxable year of the taxpayer begins is less than $600, or (B) who is a child of the taxpayer and who (i) has not attained the age of 19 at the close of the calendar year in which the taxable year of the taxpayer begins, or (ii) is a student. * * * ↩3. 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, * * * ↩4. SEC. 152. DEPENDENT DEFINED. * * * (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.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621622/	ANDRE DECOPPET AND MURIEL DECOPPET, PETITIONERS, ET AL., 1v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. De Coppet v. CommissionerDocket Nos. 85685, 85877, 85965, 85985, 86202, 86203, 86796, 86818.United States Board of Tax Appeals38 B.T.A. 1381; 1938 BTA LEXIS 745; December 15, 1938, Promulgated 745 1. The shareholders of a bank were entitled to share, through a trust, in dividends and cash distributions of an investment corporation which the bank had organized to engage in activities forbidden to it. The investment corporation's shares, always kept equal in number to outstanding bank shares, were owned by trustees, required to be bank directors or officers, and the corporation's activities were controlled by the bank's directors. The shareholders' rights under the trust were inseparable from their ownership of bank shares, and were evidenced only by an endorsement on their bank share certificates. In 1933 the investment corporation shares became worthless. Held, bank shareholders not entitled to the deduction of a loss. Stanley Hagerman,34 B.T.A. 1158">34 B.T.A. 1158, distinguished. 2. Complexity and difficulty of computation are in themselves insufficient reasons for denying the deduction of a loss; but an apportionment of basis, for the calculation of loss upon the worthlessness of a beneficial interest in shares in one corporation, acquired together with shares of another corporation which controlled the first, held, because of numerous circumstances including746 imponderable factors, to be impracticable and not required to be made for the purpose of computing a deductible loss. Elden McFarland, Esq., for petitioners Andre deCoppet and Muriel deCoppet. Horace N. Taylor, Esq., for petitioners Allen K. Brehm, Siegfried Gabel and Paula A. Gabel, Ferdinand Anthony Grien, Woolsey A. Shepard, and Henry M. Wise. Samuel Nichtberger, Esq., for petitioners Walter Frederichs and Frederick H. Hornby. Edward A. Tonjes, Esq., for the respondent. STERNHAGEN 1382 The Commissioner determined the following deficiencies in petitioners' income taxes for 1933: Allen K. Brehm$1,897.33Siegfried Gabel and Paula A. Gabel921.29Ferdinand Anthony Grien772.88Andre deCoppet and Muriel deCoppet140,125.97Walter Frederichs4,689.27Frederick H. Hornby4,324.19Woolsey A. Shepard1,689.68Henry M. Wise7,262.35They assail the disallowance of deductions for alleged losses sustained on the worthlessness of investment corporation shares held by trustees for the pro rata benefit of petitioners as the holders of bank shares. They contend that the cost of the bank shares can and should747 be apportioned between their interests in the bank and in the investment corporation. FINDINGS OF FACT. Petitioners are all residents of New York, New York, except Henry M. Wise, who resides at Hillsdale, New Jersey. In 1933 they each owned shares of stock in the Continental Bank & Trust Co. of New York (herein called the bank), which entitled them to proportionate parts of all dividends and liquidating distributions of the Continental Corporation of New York (herein called the investment corporation), the shares of which were held by designated officers or directors of the bank as trustees. The investment corporation was organized in 1929 to pursue an investment policy forbidden to the bank, but regarded as desirable by its directors. It was dissolved on September 20, 1933, having no assets to distribute in liquidation. At the beginning of 1929 the bank had capital stock of $1,000,000, divided into 10,000 shares of $100 par value. During that year it increased its capital stock to $2,000,000, represented by 200,000 shares of $10 par value. Shareholders exchanged each $100 share for 10 new $10 shares, and received with each new share the right to subscribe for one $10748 par value share at the price of $40. As an integral part of this plan, the investment corporation was organized with a 1383 capital stock of $1,000,000, represented by 200,000 shares of $5 par value, title to which was to be held by three trustees, chosen from among the bank's officers and directors, "for the benefit of the stockholders of the Bank." The bank's shareholders all exercised their subscription rights on June 15, 1929; the 100,000 new shares of the bank were issued to them; 200,000 shares of investment corporation were issued to the trustees; and $4,000,000 was realized from the sale. Pursuant to the plan as adopted and as previously explained to the shareholders, $1,000,000 of this amount was credited to the capital account of the bank, $2,000,000 to its paid-in surplus, and $1,000,000 to the capital account of the investment corporation. The trustees received the investment corporation shares by virtue of the following resolution of the bank's board of directors, adopted May 14, 1929: RESOLVED that all of the capital stock of [investment corporation] be issued to Frederick H. Hornby, Andre deCoppet and Julian A. Acosta, as Trustees, * * * in consideration749 of there being paid to [investment corporation] as capital $10 out of each $40 per share subscribed for the new 100,000 Ten Dollars par value stock of the Bank amounting in all to the sum of $1,000,000. Each bank share bore a written endorsement that the registered holder: * * is entitled to a beneficial interest in the capital stock of the [investment corporation] * * , from time to time held by the Trustees under said agreement, ratably with all other stockholders of the [bank] who have a beneficial interest in the capital stock of said [investment corporation], evidenced by certificates of stock of said [bank] * . The said beneficial interest is transferable only by the transfer on the books of said [bank] of the shares of stock represented by the within certificate of stock. The agreement by which the trustees held the investment corporation shares recited that the investment corporation had been organized: * * to take advantage of opportunities for investment * * , which the Bank cannot avail itself of, but which it is desired to make available to the stockholders of the Bank; * * and that: * * * it is desired to provide for the ownership750 of the stock of the [investment corporation] and for the management of its affairs in accordance with the recommendations of the Board of Directors of the Bank * . The agreement incorporated the whole plan and provided specifically that: ELEVENTH: The Trustees shall possess and may exercise all the rights and powers of absolute owners of capital stock of the [investment corporation]. and more particularly the "right to vote is and shall be reserved exclusively to and by the Trustees and their successors." 1384 The trustees constituted the first board of directors and had power to appoint their successors. They were relieved of responsibility in respect of management except for gross negligence or willful malfeasance. The holders of bank shares were expressly vested "only with such rights in respect of the [investment corporation] or of its capital stock as are indicated in this Agreement * * ." These rights were: THIRTEENTH: All dividends upon the capital stock of [investment corporation] (except as hereinafter provided) and all distributions of capital thereof received by the Trustees shall be paid by the Trustees to those stockholders of the Bank751 whose certificates shall be indorsed as provided in clause (a) of paragraph TWELFTH hereof, according to the respective interests of such stockholders. Such payments may be made by the Trustees to said stockholders direct or to the Bank for their account, and the Bank in such case, shall distribute such dividends and distributions of capital among those entitled to receive the same. * * * In the event that the [investment corporation] shall at any time or times declare a dividend or dividends payable in its capital stock, then such capital stock shall be payable to the Trustees hereunder to be held by them as Trustees in accordance with the terms and provisions of this Agreement * * . On July 1, 1929, the bank's capital stock was increased from $2,000,000 to $6,000,000, and 400,000 additional $10 par value shares were authorized, of which 100,000 were distributed as a 50 percent stock dividend to the bank's shareholders and 300,000 were offered for sale. On the same date the investment corporation's capital stock was increased from $1,000,000 to $3,000,000, and 400,000 additional $5 par value shares were authorized to: * * be sold at par payable in cash * * * pro rata752 to such persons, firms, and/or corporations as shall purchase the 300,000 shares of additional stock of The [bank] which are to be sold for cash, upon the condition that all shares of additional stock of this Corporation so sold shall be forthwith transferred to the Trustees under the Trust Agreement dated May 1, 1929, for the pro-rata benefit of the persons from time to time constituting the stockholders of the [bank]; The bank's directors at the same time resolved that it: * * issue and sell to Messrs. Smith & Gallatin, or to such persons, firms and/or corporations as may be designated by Messrs. Smith & Gallatin, 300,000 shares of the additional stock of this Bank, (or such part thereof as can be sold), at the price of $45 per share, * * * such price to include the purchase at par by such purchasers from [investment corporation] of its additional stock of the par value of $5 per share, at the rate of one and one-third shares * * * for each share * * * of this Bank so purchased, * * * The investment corporation shares were to be forthwith transferred to the trustees for the pro rata benefit of the bank's shareholders. The bank's shareholders were given a prior right753 to subscribe on the same terms as Smith & Gallatin for new bank shares, proportionate 1385 to their holdings. A purchaser of each bank share who had not theretofore been a shareholder acquired beneficial rights only to one investment corporation share, and the benefit of the one-third share was enjoyed by the bank's old shareholders. After approval of these proposed steps on July 3, 1929, by the shareholders of the bank and of the investment corporation, holders of about 30,000 shares of bank stock exercised their right to purchase new bank shares, and Smith & Gallatin, pursuant to contract, subscribed and paid for the remaining 270,000 shares. A total of $13,500,000 was thus paid in, of which $3,000,000 par value of the 300,000 new bank shares, was credited to the bank's capital stock account; $8,000,000 to its paid-in surplus account; $500,000 to its undivided profits account; and $2,000,000 to the capital stock account of the investment corporation in payment for its newly authorized 400,000 shares. These shares were issued to the trustees to hold for the benefit of the bank's shareholders under the agreement of May 1, 1929. In July 1929 the investment corporation754 made a contract to purchase a plot of land at 30-40 Broad Street, New York City, for $10,000,000. It transferred this contract to the Continental Realty Corporation, later known as the Thirty Broad Street Corporation, which took title to the land on November 1, 1930. An old structure upon the land was torn down, and contracts were let on May 1, 1931, for the construction of a 48-story office building. By September 15, 1931, the foundations had been laid, and the bank had bought 6,667 shares of the Thirty Broad Street Corporation, paying therefor $1,500,000 to that corporation, and had loaned $1,400,000 to the investment corporation for application to the construction work. On September 15, 1931, the Straus National Bank & Trust Co. and the International Trust Co. were merged into the bank under a complicated plan which resulted in important changes in the capital structure and assets of the bank and of the investment corporation. The three banks contributed to the bank, as the surviving institution, assets of a specified net value, and the bank assumed all liabilities of the constituents. The contribution of the bank itself consisted of assets of an appraised value equal to755 the sum of its liabilities (other than capital stock), surplus, undivided profits, and reserves and $9,500,000. All of its assets, comprising inter alia over $4,000,000 in cash and the 6,667 Thirty Broad Street Corporation shares, were, as a preliminary, transferred to a distributing agent, who later distributed among the old shareholders all of the assets in excess of the stipulated contribution to the surviving institution. About the same time the investment corporation likewise transferred to the distributing agent all of its assets, which consisted of cash $22,308.05, loans receivable $131,079.60, and stock, among which were 11,110 shares of 1386 the Thirty Broad Street Corporation, carried at cost, $2,500,000, and 43,000 shares of the bank, carried at cost, $1,737,003.38, and other shares, carried at cost, $88,801; total, $4,479,191.98. Among the aforesaid other shares were 1,000 of Indiana Southwestern Gas & Electric Co., which had been given to the investment corporation by a corporation indebted to the bank. The investment corporation then had liabilities of $1,404,982.38, of which $1,400,000 represented the aforesaid loan from the bank. The distributing756 agent surrendered 41,300 of the bank shares for cancellation and retained 1,700. At the same time the investment corporation shares were reduced by the cancellation of 41,300. Immediately thereafter the remaining 558,700 bank shares and the remaining 558,700 investment corporation shares were further reduced to 352,000 of each corporation. The shareholders of the bank surrendered their old certificates and received in exchange a proportionate number of the new, roughly 63 percent of the former number, and also $8 a share in cash from the distributing agent, together with a certificate of proportionate beneficial interest in the assets remaining in his hands, which had a book value of $1.40 a share, and an actual value of 40 or 50 cents a share. At the same time the trustees exchanged the old investment corporation shares for the same proportionate lesser number of the new. The bank's distributing agent thereupon bought all the assets of the investment corporation for $4,000,000 in cash and the assumption of liabilities, $1,404,982.38. As a result of this transaction the distributing agent held the entire outstanding 17,777 shares of Thirty Broad Street Corporation, which it757 then sold to the investment corporation for $4,000,000 cash. The investment corporation was thus left without liabilities and with all the shares of the Thirty Broad Street Corporation as its only asset. In pursuance of the merger plan, the bank then increased its capital stock from 352,000 to 400,000 shares, and of this increase of 48,000 it issued 28,000 to the Straus corporation and 20,000 to the International corporation, in exchange for their contributions of assets to it as survivor. Concomitantly the investment corporation made the same increase in its capital stock, issuing 28,000 new shares to Straus and 20,000 to International, and received $250,000 in cash from each. Of this amount $240,000 was credited to capital account and $260,000 to paid-in surplus. The distributing agent's payment of $4,000,000 to the investment corporation for assets and the merged banks' payment of $500,000 for stock were steps taken to effect the intent of the merging parties that the investment corporation was to have a surplus of $2,500,000, of which the bank should provide $2,000,000 and Straus and International $250,000 each. This surplus was regarded as necessary to put the investment758 corporation in a position to insure 1387 the completion by its subsidiary of the building at 30-40 Broad Street. The investment corporation's acquisition of all of the stock of the Thirty Broad Street Corporation was prompted by objections of the State Banking Department of New York to the bank's close connection with the building project through direct ownership of shares in the Thirty Broad Street Corporation. The building at 30-40 Broad Street was completed and rented in May 1932, but it was not profitable. By August 1933 the investment corporation's financial position was such that it could not render the Thirty Broad Street Corporation the necessary assistance to meet its obligations and continue operations. On September 14, 1933, the Thirty Broad Street Corporation was indebted on mortgage bonds, with interest accrued, in the amount of $10,704,899.67, and its assets then consisted of $71,499.17 in cash and the encumbered property, which had a fair market value less than the amount of the encumbrances. For lack of funds to support the Thirty Broad Street Corporation and for other reasons, the investment corporation transferred all of the shares of Thirty Broad Street759 Corporation to the mortgagee and was dissolved on September 20, 1933, having no assets. 1. In September 1933, Andre deCoppet was the owner of 32,023 shares of bank stock, which had their origin in the following acquisitions: SharesDate acquiredManner acquiredCost11,000Prior to June 1929Purchase$408,193.0011,000June 15, 1929Rights exercised440,000.0011,000doStock dividend0 250July 15, 1929Purchase11,250.00 1,000July 26, 1929do59,250.00 1,350Dec. 16, 1929Div. of other corp., value54,000.00 500Mar. 14, 1930Purchase18,500.00 100May 5, 1930do3,515.00 300Oct. 30, 1930do6,037.0012,610May 18, 1931do270,000.0049,1101,270,745.00 94Oct. 15, 1931Received in payment of loan, value1,880.00 500June 1, 1932Purchase5,400.00 300June 3, 1932do3,262.00 76dodo817.00 113June 17, 1932Received in payment of loan, value1,356.00 1,083Total1,283,460.00As the holder of 11,000 shares of the bank issued as a stock dividend in 1929, deCoppet became entitled to all dividends and liquidating distributions on 11,000 investment corporation shares held760 under the trust agreement. He reported no income on account thereof in his income tax return for 1929. In January 1931 a revenue agent investigated the items on this return and was given access to all books and records by deCoppet's office manager; these showed in detail of what the several items were composed. The agent found "all items * * correctly reported"; the Commissioner made only a minor adjustment not here material. 1388 In September 1931 deCoppet received a cash distribution of $392,880 and certificates of beneficial interest on 49,110 shares of the bank from the bank's distributing agent. After an investigation, in the course of which the trustees' arrangements with Smith & Gallatin were produced, the Commissioner determined that $87,833.36 of the distribution was taxable as a dividend. After the merger of September 1931 deCoppet exchanged the 49,110 bank shares then held by him for 30,939 new shares of the bank, which with the 1,083 thereafter acquired constituted the 32,023 [sic] held by him in September 1933. In computing the joint income tax of Andre and Muriel deCoppet, husband and wife, for 1933, the Commissioner disallowed the deduction761 of a loss of $254,676.08 claimed on account of the worthlessness of 32,023 [sic] shares of the investment corporation. 2. In September 1933 Allen K. Brehm was the owner of 1,400 shares of the bank stock, which had their origin in the following acquisitions: SharesDate acquiredManner acquiredCost 400Sept. 9, 1929Purchase$21,200.001,000Jan. 13, 1931do14,500.00 830Sept. 21, 1931do16,492.502,230Total52,192.50In September 1931 Brehm received a cash distribution of $17,840 and certificates of beneficial interest on 2,230 bank shares from the bank's distributing agent. In his income tax return for 1931 he reported $20,962 on account thereof as a return of capital; the return was accepted by the Commissioner without adjustments. After the merger of September 1931 Brehm exchanged his 2,230 bank shares for 1,404.9 new shares of the bank, of which he sold 4.9 shares. The cost of the remaining 1,400 was $51,780.36. In computing Brehm's income tax for 1933 the Commissioner disallowed the deduction of a loss of $15,750 claimed on account of the worthlessness of 1,400 investment corporation shares. 3. In September762 1933 Siegfried Gabel was the owner of 1,417 1/2 shares of the bank stock, which had their origin in the following acquisitions: SharesDate acquiredManner acquiredCost 600Prior to May 1929Purchase$30,990 600June 15, 1929Exercise of rights24,000 100June 3, 1929Purchase and exercise of rights8,000 200June 7, 1929Purchase and exercise of rights15,000 750June 24, 1929Stock dividend2,250Total78,4901389 As the holder of 750 bank shares issued as a stock dividend, Gabel became entitled to all dividends and liquidating distributions on 750 investment corporation shares held under the trust agreement. He reported no income on account thereof in his income tax return for 1929. In september 1931 Gabel received a cash distribution of $18,000 and certificates of beneficial interest on 2,250 bank shares from the bank's distributing agent. In his income tax return for 1931 he reported $21,150 on account thereof as a return of capital; the return was accepted by the Commissioner without adjustments. After the merger of September 1931 Gabel exchanged his 2,250 bank shares for 1,417 1/2 new shares of the bank. On763 September 18, 1931, Gabel's wife, Paula, purchased 82 1/2 new bank shares for $1,650. In September 1933 they held the total of 1,500 shares, for which they had paid $80,140. In computing the joint income of Siegfried and Paula Gabel, husband and wife, for 1933, the Commissioner disallowed the deduction of a loss of $16,875 claimed on account of the worthlessness of 1,500 investment corporation shares. 4. In September 1933 Ferdinand Anthony Grien was the owner of 630 shares of the bank's stock, which had their origin in the following acquisitions: SharesDate acquiredManner acquiredCost 400Nov. 18, 1930$6,883.00 100Mar. 19, 19311,450.00 500June 27, 19318,049.501,000Total16,382.50In September 1931 Grien received a cash distribution of $8,000 and certificates of beneficial interest on 1,000 bank shares from the bank's distributing agent. In his income tax return for 1931 he reported $9,400 on account thereof as a return of capital; the Commissioner treated $5,320 as taxable income. After the merger of September 1931 Grien exchanged his 1,000 bank shares for 630 new shares of the bank. In computing Grien's income764 tax for 1933 the Commissioner disallowed the deduction of a loss of $7,593.75 claimed on account of the worthlessness of 630 shares of the investment corporation. 5. In September 1933 Walter Frederichs was the owner of 1,931 shares of the bank's stock, which had their origin in the following acquisitions: SharesDate acquiredManner acquiredCost 800Prior to June 1929Purchase$15,081.51 666June 1929Inheritance; value35,964.00 634June 15, 1929Exercise of rights25,360.001,050July 15, 1929Stock dividend0.003,150Total76,405.511390 By virtue of owning 1,466 shares in June 1929, Frederichs received the right to purchase an equal number of the new bank shares to be issued, which rights he exercised only in respect of 634 of them. He sold the right to purchase 666 for $14,666.66 and made a gift of the right to purchase 166. As the holder of 1,050 bank shares issued as a stock dividend, Frederichs became entitled to all dividends and liquidating distributions on 1,050 investment corporation shares held under the trust agreement. He reported no income on account thereof in his income tax return for 1929. In September765 1931 Frederichs received a cash distribution of $25,200 and certificates of beneficial interest on 3,150 bank shares from the bank's distributing agent. In his income tax return for 1931 he reported $29,610 on account thereof as a return of capital, and the return was accepted by the Commissioner. After the merger of September 1931 Frederichs exchanged his 3,150 bank shares for 1,984 new shares of the bank, of which he gave 53 to his wife, and kept the remaining 1,931. In computing Frederichs' income tax for 1933 the Commissioner disallowed the deduction of a loss of $21,723.25 claimed on account of the worthlessness of 1,931 investment corporation shares. 6. In September 1933 Frederick H. Hornby was the owner of 14,175 shares of the bank's stock, which had their origin in the following acquisitions: SharesDate acquiredManner acquiredCost 7,500Prior to June 1929Purchase$261,386.29 7,500June 15, 1929Exercise of rights300,000.00 7,500July 15, 1929Stock dividend0.0022,500Total561,386.29As the holder of 7,500 bank shares issued as a stock dividend, Hornby became entitled to all dividends and liquidating distributions766 on 7,500 investment corporation shares held under the trust agreement. He reported no income on account thereof in his income tax return for 1929. In September 1931 Hornby received a cash distribution of $180,000 and certificate of beneficial interest on 22,500 bank shares from the bank's distributing agent. In his income tax return for 1931 he reported $47,827.12 thereof as income and so the Commissioner treated it. After the merger of September 1931 Hornby exchanged his 22,500 bank shares for 14,175 new shares of the bank. In computing Hornby's income tax for 1933 the Commissioner disallowed the deduction of a loss of $159,468.75 claimed on account of the worthlessness of 14,175 investment corporation shares. 1391 7. In September 1933 Woolsey A. Shepard was the owner of 182 1/2 shares of the bank's stock, which had their origin in the following acquisitions: SharesDate acquiredManner acquiredCost100Oct. 10, 1929$6,242.50 50Jan. 9, 1931825.00 50May 20, 1931900.00 50June 11, 1931925.002508,892.50 25Sept. 20, 1933Purchase412.50Total9,305.00In September 1931 Shepard received a cash767 distribution of $2,000 and certificates of beneficial interest on 250 bank shares from the bank's distributing agent. In his income tax return for 1931 he reported $2,350 on account thereof as a return of capital; the Commissioner treated $531.41 as taxable income. After the merger of September 1931 Shepard exchanged his 250 bank shares for 157 1/2 new shares of the bank, which with the 25 shares thereafter acquired constituted the 182 1/2 shares held by him in September 1933. In computing Shepard's income tax for 1933 the Commissioner disallowed the deduction of a loss of $3,476.25 claimed on account of the worthlessness of 182 1/2 shares of the investment corporation. 8. In September 1933 Henry M. Wise was the owner of 1,812 1/2 shares of the bank's stock, which had their origin in the following acquisitions: SharesDate acquiredManner acquiredCost 600Prior to June 1929Purchase$18,855.00 150June 13, 1929Purchase and exercise of rights12,000.00 150June 14, 1929Purchase and exercise of rights11,872.50 600June 15, 1929Exercise of rights24,000.00 18June 18, 1929Purchase and exercise of rights1,134.00 759July 15, 1929Stock dividend0.00 500Aug. 9, 1929Purchase28,087.50 100June 3, 1931do1,675.002,877Total97,624.00768 As the holder of 759 bank shares issued as a stock dividend, Wise became entitled to all dividends and liquidating distributions on 759 investment corporation shares held under the trust agreement. He reported no income on account thereof in his income tax return for 1929. In September 1931 Wise received a cash distribution of $23,016 and certificates of beneficial interest on 2,877 bank shares from the bank's liquidating agent. In his income tax return for 1931 he reported $27,043.80 on account thereof as a return of capital; the return was accepted by the Commissioner without adjustments. 1392 After the merger of September 1931 Wise exchanged his 2,877 bank shares for 1,812 1/2 new shares of the bank. In computing Wise's income tax for 1933 the Commissioner disallowed the deduction of a loss of $20,610 claimed on account of the worthlessness of 1,812 1/2 shares of the investment corporation. OPINION. STERNHAGAN: The petitioners demand a deduction in 1933 for loss because of the worthlessness of the shares of the Continental Corporation of New York, the "investment corporation." The Commissioner disallowed the deduction for the reason that " * * no part of769 the cost of the [bank] stock can be allocated to the [investment corporation] stock." The shares of the investment corporation were owned by the trustees, and the petitioners' interest in them was that of beneficiaries of the trust, a position which was always incidental to their ownership of shares in the bank. Notwithstanding this unity, petitioners have undertaken to prove a cost basis to them of the investment corporation shares, by way either of direct cost or of apportionment in the manner of Regulations 77, article 58. 2 They rely heavily on the Board's decision in (on review C.C.A., 3d Cir.), where an allocation was used to arrive at a basis for computing gain from the sale of interests in a security investment corporation similarly affiliated with a bank. There was some similarity in the purpose of organization of the Security Co. in that case and of the organization of the investment corporation in this, but the allocation of basis as between the bank shares and the Security Co. shares, found practicable in the Hagerman case, was predicated largely upon an actual separation. The Board said it was770 "only because the unit [of bank and Security Co. shares] was in fact separated and one of its constituent parts sold that the present issue arose." It may not be assumed that allocation would have been recognized as proper if there had been no such separation. The petitioners say that they sustained a loss when the investment corporation dissolved without assets and its shares became worthless. We find it impossible to accept this view. Strictly speaking, in accordance with the conception which underlies the trust agreement of May 1, 1929, they were never the owners of investment corporation 1393 shares from the time of its organization771 until its dissolution. Their investment was always in shares of the bank, and indissolubly within that investment was embedded their more remote interest in the affairs of the investment corporation; and that interest went only so far as those affairs, conducted by the directors of the bank, might result in distribution to the trustees and in turn to them. In 1929 petitioners paid $40 entirely to the bank and the bank was to use $10 of it as a subscription for two shares of investment corporation stock to be issued to the trustees, who were the bank's directors. Aside from the New York law's requirement of a separate corporation, the affairs conducted in the name of the investment corporation were inseparable from those of the bank. They were conducted by the same persons, not because they happened to be holding positions as directors of both corporations, but because it was designed so and anything else was inherently impossible. The identity of a trustee was not in his person but in his position as a director or officer of the bank. Thus it was assured that there could be no conflict between the interests of the two. This unity was carried out in the identity of bank shareholders772 and trust beneficiaries; in distributive interests of the investment corporation, one being proportionate to the other; and in the evidence of both being shown by the same certificate. To all this was added the injunction that no holder might dispose of either alone; both must be held inseparably. This unitary conception was thoroughly adopted and adhered to by everyone at all times throughout the life of the enterprise at every stage and in every change in its course. Through the Smith & Gallatin transactions (with one unimportant exception) and through the Straus and International merger the composite units were preserved. The new corporation was never for a moment treated practically as independent. During the merger the investment corporation transferred its assets to the bank's distributing agent, changed its shares with changes by the bank, and transferred its assets so that after the merger it owned the Thirty Broad Street shares, worth $2,000,000 more than the assets given up. The final event which is relied upon to demonstrate the petitioners' loss is itself an indication of the inseparable composite character of their investment. The Thirty Broad Street Building773 was found to be unprofitable. In itself this was not a recognizable loss to its owner, the Thirty Broad Street Corporation, but merely a failure of expected profits; it still owned the building, subject to a mortgage, and the mortgage had not been foreclosed. In actual value its assets were less than its liabilities. To its only shareholder its condition was not such an "identifiable event" as to establish a deductible loss. For its own reasons, the investment corporation transferred the shares of 1394 Thirty Broad Street Corporation to the mortgagee; and thus by its own act it made itself destitute and its own shares worthless. The trust corpus consisted of only such worthless investment corporation shares, and petitioners as beneficiaries were thus forever deprived of the expectation of trust distributions of amounts received by the trustees as dividends and capital distributions of the investment corporation. But the petitioners still had their bank shares for which they had paid various amounts at various times under various circumstances, all including the $40 per share in June 1929, of which $10 was in turn used by the bank to subscribe for two shares of the new774 investment corporation. The conclusion which seems to us inevitable is that petitioners' investment must be regarded as existing in their bank stock and that their relation to the investment corporation and the trust was an inherent part of their ownership of bank shares, the ultimate disposition of which will reflect gain or loss upon the full basis of their cost. But if it were proper to consider the petitioners' investment as divisible between the bank shares and the beneficial interest in the investment shares, the question of the practicability of apportionment of basis would become important. We should find such an apportionment wholly impracticable. There is only a short parallel of the complex circumstances of acquisition here, as in deCoppet's case, and the comparatively simple circumstances of the transactions considered in These petitioners bought shares for cash, acquired them by inheritance, in discharge of loans, as dividends, and by the exercise of rights; both corporations canceled shares, the bank participated in a merger which involved a change in the investment corporation's share structure, and its assets and liabilities775 were shifted for the convenience of the bank. The problem of computing the basis of shares in the investment corporation is thus far more difficult than in the cases cited. Complexity and difficulty of computation are in themselves insufficient reasons for denying the deduction, and neither the Commissioner nor the Board may refuse to ascertain the amount of deduction merely because its computation is a burdensome task. The question whether an apportionment is practicable, however, goes further. If this case had involved but the sale by each petitioner of a separate share in the investment corporation received from the trustees at a time when the shareholder's right thereto was the direct result of his paying the $40 to the bank upon the understanding that $10 would be turned in to the investment corporation, the gain or loss from such a sale might have been computed upon the basis of such $10 for each two shares sold. That, however, is not the question to be decided. The acts of June 1929 were still more complex and were soon enmeshed in such later transactions as obscured them entirely. 1395 Any calculation of a separate basis would require some appraisal of several776 imponderable factors. The $2,000,000 gain in Thirty Broad Street shares is illustrative. The apportionment would be entirely artificial and quite unworthy of use - hardly reliable enough to be called "practicable." The necessity is thus eliminated for considering the question whether there was a statutory reorganization in September 1931 affecting the basis of the investment shares, and also for considering the question, affirmatively raised by the respondent, whether in any event petitioners are estopped. The Commissioner's determination is sustained. Reviewed by the Board. Decision will be entered under Rule 50.LEECH, DISNEY, and KERN concur only in the result. SMITH SMITH, dissenting: The evidence shows that the bank and the investment corporation were separate corporations. The shares of the investment corporation became worthless in 1933. It follows that a stockholder owning shares in the investment corporation sustained a loss in 1933 represented by his investment in the shares of the investment corporation. The petitioners claim the right to deduct from their gross incomes of 1933 the amounts they paid for shares of stock in the investment777 corporation. The Board has denied the claimed deductions upon the ground that it is difficult, if not impossible, to determine the exact amount of their investments in those shares. I am of the opinion that the deductions are not to be disallowed upon this ground. It is the function of the Board to determine the amount of the losses, if any such were sustained. The Board is not absolved from the duty of making such determinations because of difficulty in doing so. Cf. ; . In the case of Andre deCoppet it is shown that he acquired 11,000 shares of the bank's stock prior to June 1929, and that on June 15, 1929, he paid $440,000 in the acquisition of an additional 11,000 shares. He was required to pay $40 a share, of which amount $10 was the cost to him of beneficial rights in 2 shares of the investment corporation, which shares were to be held by trustees for the benefit of the bank's shareholders. The shares of the investment corporation became worthless in 1933. DeCoppet plainly sustained a loss778 on his investment in 22,000 shares of the investment corporation of at least $110,000. I think the Board is in error in disallowing the deduction of the proven loss. 1396 DeCoppet also claims the right to the deduction of additional amounts representing his investment in shares of stock acquired subsequent to June 15, 1929. I think it is possible to determine that the loss was in excess of $110,000. But in any event deCoppet is entitled to deduct from the gross income of 1933 his proven loss. It is also possible to determine minimum amounts of losses sustained by other petitioners which likewise are deductible. ARUNDELL, VAN FOSSAN, and HARRON agree with this dissent. Footnotes1. Proceedings of the following petitioners are consolidated herewith: Allen K. Brehm; Siegfried Gabel and Paula A. Gabel; Ferdinand Anthony Grien; Walter Frederichs; Frederick H. Hornby; Woolsey A. Shepard; and Henry M. Wise. ↩2. * * * Where common stock is received as a bonus with the purchase of preferred stock or bonds, the total purchase price shall be fairly apportioned between such common stock and the securities purchased for the purpose of determining the portion of the cost attributable to each class of stock or securities, but if that should be impracticable in any case, no profit on any subsequent sale of any part of the stock or securities will be realized until out of the proceeds of sales shall have been recovered the total cost. * * * ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621623/	CHRISTOPHER JAMES VALVERDE, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentValverde v. CommissionerDocket No. 36740-84.United States Tax CourtT.C. Memo 1987-203; 1987 Tax Ct. Memo LEXIS 199; 53 T.C.M. (CCH) 628; T.C.M. (RIA) 87203; April 20, 1987. Christopher James Valverde, pro se. Andrew D. Weiss, for the respondent. NIMSMEMORANDUM FINDINGS OF FACT AND OPINION NIMS, Judge: Respondent determined deficiencies in petitioner's Federal income tax and additions to tax for 1981 as follows: Additions to TaxDeficiencySec. 6651(a)(1) 1Sec. 6653(a)(1)Sec. 6653(a)(2)Sec. 6654(a)$5,618.00$1,060.29$280.9050 percent of$298.19interest due onunderpayment dueto negligence200 The issues for decision are: (1) whether the Form 1040 filed by petitioner for 1981 on which petitioner typed "OBJECT SELF INCRIMINATION" or "none" on lines 7 through 66 constitutes a valid Federal income tax return; (2) whether petitioner is liable for the addition to tax for failure to file a return under section 6651(a)(1); (3) whether petitioner is liable for the additions to tax for negligence under sections 6653(a)(1) and 6653(a)(2); and (4) whether petitioner is liable for the addition to tax for underpayment of estimated tax under section 6654(a). Some of the facts have been stipulated and are so found. Petitioner resided in Manteca, California, at the time he filed his petition in this case. Petitioner filed a Fifth Amendment protester-type Form 1040 for 1981, on which he typed "OBJECT SELF INCRIMINATION" or "none" on lines 7 through 66 of the form. Such a document does not constitute a return and petitioner is consequently liable for the addition to tax under section 6651(a)(1). United States v. Porth,426 F.2d 519">426 F.2d 519 (10th Cir. 1970); Beard v. Commissioner,82 T.C. 766">82 T.C. 766 (1984), affd. 793 F.2d 139">793 F.2d 139 (6th Cir. 1986). At201 the trial, petitioner conceded that he is now raising no substantive issues in this case, except that he objects to the imposition of the additions to tax for negligence on the ground that employees of the Internal Revenue Service declined to discuss with him the authority by which income tax returns are required and the basis upon which the Commissioner determined the additions to tax under consideration here. Petitioner filed a valid 1980 return and was well aware of his obligation to file correct returns. We accordingly affirm the imposition of the additions to tax for negligence under sections 6653(a)(1) and 6653(a)(2). For the year 1981 petitioner had $1,377 withheld from his pay. None of the exceptions contained in section 6654(a) (relating to estimated tax) is applicable. The addition to tax under section 6654(a) is therefore sustained. Respondent concedes that petitioner is entitled to income averaging based upon a schedule offered into evidence at trial and that the deficiencies in tax and additions to tax should be adjusted accordingly. To reflect the foregoing, Decision will be entered under Rule 155.Footnotes1. All section references are to sections of the Internal Revenue Code in effect during 1981. 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/4621624/	ALBERT H. PAYNE, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentPayne v. CommissionerDocket No. 16426-84.United States Tax CourtT.C. Memo 1986-93; 1986 Tax Ct. Memo LEXIS 514; 51 T.C.M. (CCH) 579; T.C.M. (RIA) 86093; March 10, 1986. Albert H. Payne, pro se. Irene Scott Carroll, for the respondent. AARONSMEMORANDUM OPINION AARONS, Special Trial Judge: This case was assigned to Special Trial Judge Lehman C. Aarons pursuant to section 7456(d)(3) of the Internal Revenue Code and Rules 180, 181 and 182 of the Tax Court Rules of Practice and Procedure.1Respondent516 determined a deficiency in petitioner's 1980 Federal income tax in the amount of $5,484, along with an addition to tax under section 6653(a) in the amount of $274. After concessions by both parties, the remaining issues to be decided are: (1) whether petitioner is entitled to certain Schedule C deductions claimed in relation to his engineering services business; (2) whether petitioner was in the trade or business of being an income tax consultant, and if so, whether his deductions claimed for his business are allowable; (3) whether petitioner is liable for self-employment tax; and (4) whether petitioner can carry back to 1980 a net operating loss generated in 1983. To the extent stipulated, the facts are so found. Petitioner resided in Los Angeles, California, at the time he filed his petition. Petitioner filed his 1980 Federal income tax return under "married filing separately" status. His wife throughout 1980 was Shirley M. Payne. Petitioner and Mrs. Payne were subsequently divorced and she is not a petitioner herein. Preliminarily, a fundamental principle common to all issues in this case must be noted. The issues are primarily factual. The 517 factual determinations made by respondent in his notice of deficiency are presumed to be correct. Petitioner bears the burden of establishing error in those determinations. Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933); Rule 142(a). For clarity, facts and law will be combined under the following headings. ENGINEERING SERVICES EXPENSES During 1980 petitioner worked as an architectural engineer, designing and supervising the alteration and rehabilitation of industrial offices. On his 1980 engineering Schedule C petitioner reported $26,543 of total income and claimed the following deductions from this business (also shown) are the amounts that the parties agreed were deductible): AmountAmount AgreedDescriptionClaimedDeductibleBank Charges$ 92Car & Truck Expense2,502Insurance1,653Interest554$168.26Laundry & Cleaning85Legal & Professional944Postage188125.00Rent (office in home)750Repairs2,206Taxes10291.27Telephone4,956Travel & Entertainment3,0611,589.76Post Office Box28Printing7640.00Schooling1,817Books178Messenger26Telegrams134134.00Gifts846Membership35Contributions6514.00Subscriptions10872.00Passport15Utilities146Tips312Total$20,879518 It is respondent's contention that most of these items claimed by petitioner on his Schedule C represent personal expenditures rather than allowable business deductions. Section 162(a) permits the deduction of ordinary and necessary expenses incurred in carrying on any trade or business. However, no deduction is allowed for personal living or family expenses. Sec. 262. There is no question that petitioner was in the office design business. Telephone Expenses and Bank Charges: Petitioner deducted $4,956 in telephone expenses in 1980. However, his telephone bill shows only $4,216.43 in charges. Petitioner explained that this discrepancy was due to a mathematical error. At trial, petitioner estimated that $3,500 of the total telephone charges were for business calls. Due to the voluminous nature of petitioner's 1980 telephone bill presented to the Court, the parties have agreed that the bill for January is a fair representation of petitioner's and his family's telephone usage throughout the year. Therefore, whatever percentage of business use we find for January will be applied519 to the remaining months to determine the total business usage for 1980. Petitioner also claimed $92 in bank charges. The parties also agreed to apply this same percentage to determine the business portion of petitioner's bank charges. Petitioner testified that he used his home phone to call prospective employers, headhunters and job shops throughout the United States and all over the world in order to find work. In January 1980 he called, inter alia, Alaska (Alaska pipeline project), British Columbia (oil refinery job), and Scotland (fabrication plant job in Spain).He also testified that Mrs. Payne used the telephone to call friends in England and Santa Monica, California, and that his two teen-age sons used the telephone regularly. There are approximately 160 charges listed on the January bill for long distance telephone calls and telegrams totaling $677.65, and approximately 60 local message unit charges totaling $14.40. At the trial, petitioner conceded that $108 for the long distance charges and $2.50 of the local charges were personal in nature and nondeductible. Based upon the entire record herein and the approximation authority vested in the Court, Cohan v. Commissioner,39 F.2d 540">39 F.2d 540 (2d Cir. 1930),520 we find that 40-percent of petitioner's January 1980 telephone calls and telegrams were business related. Accordingly, the same percentage of petitioner's 1980 telephone bill of $4,216.43 is deductible and the same percentage of petitioner's claimed $92 in bank charges is deductible. Car and Truck Expenses and Repairs: In 1980 petitioner owned four automobiles: a 1964 Porsche, a 1975 Volvo Station Wagon, a Volkswagon Rabbit and a Ford Pinto. The Porsche was a classic car and was kept in storage. The Volkswagon was used primarily by Mrs. Payne, while petitioner drove the Volvo and the Ford. Neither of petitioner's sons used the cars. Petitioner claimed that 90-percent of his driving was for business. This driving consisted of trips to various job sites. Although petitioner stipulated to receiving gross receipts from six different employers throughout the United States, he provided testimony regarding driving trips to only one employer, Volt Technical Services. Petitioner made four or five round trips in his Volvo to Burlingame, California, while working for Volt. The distance from petitioner's residence in Los Angeles to the work site in Burlingame is approximately 400521 miles. He would usually drive to the job site on Sunday night and return the following Friday morning. Petitioner also used his cars for local business trips. Of the $2,502 claimed for car and truck expenses, petitioner could provide receipts for only $1,850.09 in gas and oil purchases and $44 for a road service club. The discrepancy between the amount claimed and the amount substantiated was not explained.Petitioner did not keep any log book of his business driving. Although detailed proof was lacking, using our best judgment we allow petitioner a deduction of $200 for local business transportation. Cohan v. Commissioner,supra.Section 162(a)(2) allows the deduction of business traveling expenses incurred while away from home. Commissioner v. Flowers,326 U.S. 465">326 U.S. 465, 470 (1946); see also Peurifoy v. Commissioner,358 U.S. 59">358 U.S. 59, 60 (1958). However, deductions for business travel away from home are allowed only if they meet the strict substantiation requirements of section 274(d). With respect to the trips to Burlingame, although522 petitioner did not keep a log book, the proof that Burlingame was 400 miles away from his home satisfies the substantiation requirements of section 274(d). Smithv. Commissioner,80 T.C. 1165">80 T.C. 1165, 1172 (1983). Accordingly under Smith, petitioner is entitled to a deduction for 3200 miles traveled (i.e. 800 miles per round trip times 4 trips) based upon the allowable standard mileage rate in effect in 1980. See Rev. Proc. 80-7, 1 C.B. 590">1980-1 C.B. 590. Petitioner offered no proof regarding his claimed deduction for car repairs. We do not know what kind of repairs were performed, which car or cars were repaired and whether these repairs were somehow related to petitioner's business. Accordingly, petitioner has not met his burden of proof and respondent must be sustained on this item. Travel and Entertainment and Tips: On his 1980 engineering Schedule C, petitioner deducted $3,061 as travel and entertainment expenses. After concessions by respondent of $846 for airline tickets and $743.96 for lodging, $1,471.04 remains in issue. Petitioner testified that this amount was expended for various business meals and provided nine charge card receipts totaling523 $184.83 as his only substantiation. He also deducted $312 in tips. Petitioner kept no log book of his business meals or tip expenses. For any entertainment expense to be deductible, the taxpayer must substantiate such expense by adequate records (such as an account book or diary, along with documentary evidence such as receipts or paid bills) or by sufficient evidence corroborating his own statement. Sec. 274(d); secs. 1.274-5(a)(3) and (4) and (c)(2), Income Tax Regs. The requirements of section 274(d) supersede our Cohan approximation authority. Sec. 1.274-5(a), Income Tax Regs.The charge card receipts introduced by petitioner were of little probative value.None of them stated what the charge was for. Accordingly, we cannot say that these documents are enough to satisfy the strict substantiation requirements of section 274(d). Also petitioner presented no evidence with regard to the tips. Therefore, respondent's position must be sustained. Insurance: Of the $1,653 claimed for insurance, respondent has conceded that petitioner has substantiated524 the following dollar amounts: automobile insurance - $926, life insurance - $326, accident insurance - $30, and Automobile Club of Southern California dues - $30. The difference between the amount claimed on the return and the total of the substantiated items was unexplained by petitioner. The portion of automobile insurance attributable to petitioner's business use of his cars is deductible. Snyder v. Commissioner,T.C. Memo. 1975-221; Guenther v. Commissioner,T.C. Memo 1975-194">T.C. Memo. 1975-194. Petitioner testified that the automobile insurance policy in question covered the Volvo and the Volkswagon. Of these two cars only the Volvo was driven for business purposes. As mentioned above, petitioner was able to recall only the trips to Burlingame. Therefore, mindful that we must bear heavily against petitioner for any estimates that we make ( Cohan v. Commissioner,supra), we find that he incurred business related automobile insurance expenses in the amount of $200. Based on the record before us, we must sustain respondent's disallowance of525 the balance of the claimed insurance deductions. Sec. 1.262-1(b), Income Tax Regs.Schooling and Books: Petitioner's claimed deduction of $1,817 was comprised of expenses incurred for two separate and distinct educational programs. The first program of study led to petitioner obtaining a Doctor of Institutional Management degree from Pepperdine University. Petitioner completed his final course in 1979. He had taken out a school loan from Crocker Bank in the amount of $3,500 sometime prior to 1980 to pay for his Pepperdine education. In 1980, he made a payment of about $1,200 on the loan and deducted the same amount. In resolving this part of petitioner's schooling deduction we need not reach the issue of deductibility of his Doctoral expenses. Assuming, arguendo, that the Pepperdine courses in Institutional Management were properly deductible educational expenses, we would still have to disallow the deduction as being claimed in the wrong year. When a taxpayer borrows money to make an otherwise deductible payment, the deduction is not postponed until526 the year in which the taxpayer actually pays off the loan. Granan v. Commissioner,55 T.C. 753">55 T.C. 753, 755 (1971), and cases cited therein. We must sustain respondent's position since petitioner improperly deducted his loan payments in 1980. The balance of petitioner's claimed schooling deduction was made up of $350 tuition for a California bar examination review course, $178 for books and approximately $300 registration fee for the bar examination. Petitioner had graduated from law school in Texas some 20 years earlier. After petitioner took the review course he received a letter from the California Bar informing him that he was ineligible to sit for the exam, and refunding $182 of his registration fee. No reason was given for this rejection. Section 1.162-5(b)(3), Income Tax Regs., disallows the deduction of expenses "for education which is part of a program of study being pursued by [an individual] which will lead to qualifying [the individual] in a new trade or business." Petitioner's bar review course, books and registration fee led to his527 attempted qualification to practice law and are nondeductible under the above cited regulation. Sharon v. Commissioner,66 T.C. 515">66 T.C. 515 (1976), affd. per curiam, 591 F.2d 1273">591 F.2d 1273 (9th Cir. 1978). It is immaterial that petitioner was not allowed to sit for the exam. Cf. Glenn v. Commissioner,62 T.C. 270">62 T.C. 270, 278 (1974). Respondent's position is sustained. Interest: In addition to the amounts conceded by respondent, peititioner testified that he paid interest in 1980 on a $1500, 7-percent loan taken out in 1974. This loan helped petitioner defray his schooling expenses while attending the University of Southern California from 1974 to 1977. Petitioner provided no testimony or proof to show the amount of interest paid on this loan in 1980. Furthermore, we cannot approximate the interest paid under the Cohan rule since we have nothing in the record indicating whether interest was charged evenly throughout the life of the loan or whether any payments were in fact made in 1980. Petitioner has not met his burden of proof on this additional issue, and respondent's disallowance of the amounts not conceded must be sustained. Rent (office528 at home) and Utilities: Petitioner deducted $750 as an office at home expense on his engineering Schedule C. Section 280A generally disallows a deduction for the business use of a dwelling unit that is used by the taxpayer as a residence. If, however, an allocable portion of the dwelling unit is used exclusively on a regular basis as the principal place of the taxpayer's business, then a deduction may be allowed. Sec. 280A(c)(1)(A). Petitioner testified that he used his basement exclusively as an office. His basement was furnished with a desk, filing cabinets, work tables, and drawing boards.Only petitioner was allowed to use the basement. Petitioner offered credible testimony on this issue. We find that petitioner is entitled to an office at home deduction in the amount of $750 since the office was exclusively used as the principal place of petitioner's engineering business Petitioner also deducted $146 in utilities expense attributable to his basement office. The amount claimed represents approximately 24-percent of petitioner's following 1980 utilities expenses: $309.86 in529 water and power charges, gas bills of $160.09 and cable television expenses of $135. The utilities expenses attributable to petitioner's office are properly allowable. However, petitioner has not proven that cable television is an ordinary and necessary engineering expense. Accordingly, we find that petitioner may properly claim $114 in utilities on his engineering Schedule C. Messenger and Passport: Based on the record before the Court, we believe that $26 in messenger expenses and $15 passport fee represented ordinary and necessary business expenses and are allowable under section 162(a). Remaining Deductions: With respect to the following items, petitioner did not persuade the Court that they represent anything but nondeductible personal expenses: Laundry and Cleaning - $85, Legal and Professional - $944, Post Office Box - $28, Gifts - $846, and Membership fees - $35. Sec. 262. Respondent's position must be sustained as to these claimed deductions. TAX SERVICE ACTIVITY Turning to petitioner's tax service activity, the underlying issue to be decided is whether such activities constituted a trade or business. Petitioner's tax service activities were in diminishing530 volume as each year went by. In 1978 he received a total of $510 from nine clients; in 1979 he received a total of $305 from six clients; in 1980 he received a total of $260 from three people, two of whom were friends and the remaining person was a client he had served for many years. Petitioner claimed the following expenses from this activity in 1980: Depreciation$ 75Legal and Professional Services65Office Supplies15Postage12Rent on Business Property248Telephone18Travel and Entertainment61Utilities48Total Deductions$542The phrase "trade or business" is used in many sections of the Internal Revenue Code, and it does not always have the same meaning. But "[u]nder any definition, a business means a course of activities engaged in for profit." 4A Mertens, Law of Federal Income Taxation, Sec. 25.10, at 34 (1985 rev.); IndustrialResearchProducts, Inc. v. Commissioner,40 T.C. 578">40 T.C. 578, 590 (1963). Petitioner has the burden in these circumstances of proving that he had an actual and honest objective of making a profit531 from his tax service activities. Dreicer v. Commissioner,78 T.C. 642">78 T.C. 642, 646 (1982), affd. without opinion 702 F2d 1205 (D.C. Cir. 1983). The record leaves the Court with the clear impression that for a number of years petitioner had been letting his tax service activity dwindle down, by attrition, to near extinction.At least, by 1980, petitioner no longer had an actual and honest profit objective for his tax services. The record shows no effort by the petitioner to obtain new clients or to replace former clients. By 1980 petitioner simply was not conducting this activity in a businesslike manner calculated to earn a profit. Petitioner failed to satisfy the Court that there was any actual use of his basement office space for his alleged tax service business. Accordingly, his claimed, but unproven, office at home expenses does not militate against our conclusion that the basement office was used exclusively for his engineering business. Since we have found that the tax services did not constitute a trade or business in 1980, all claimed expenses in excess of the gross income of $260 must be disallowed. Section 183 (b). ADDITIONAL ISSUES Although*532 petitioner stated in his petition that: (1) he was not liable for the self-employment tax determined by respondent in the notice of deficiency, and (2) he was eligible to carry back to 1980 a net operating loss generated in 1983, he offered no proof on either issue at trial. Nor did petitioner offer any proof regarding the addition to tax imposed under section 6653(a). Accordingly, petitioner is deemed to have conceded these issues, or at least he has not carried his burden of proof on these issues, and respondent's position must be sustained. To reflect the foregoing, Decision will be entered under Rule 155.Footnotes1. Section references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated. 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/4621625/	Mullin Building Corporation, Petitioner, v. Commissioner of Internal Revenue, RespondentMullin Bldg. Corp. v. CommissionerDocket No. 9813United States Tax Court9 T.C. 350; 1947 U.S. Tax Ct. LEXIS 106; September 16, 1947, Promulgated 106 Decision will be entered for the respondent. Held, that certain debenture preferred stock represents proprietary right of the holders thereof and not the right of creditors and that the payment of so-called interest on such debenture stock was the distribution of a dividend on preferred stock. Albert W. James, Esq., for the petitioner.E. L. Corbin, Esq., for the respondent. Hill, Judge. Turner, J., dissents. HILL 350 Respondent determined deficiencies in petitioner's declared value excess profits tax and excess profits tax for the year ended April 30, 1944, in the respective amounts of $ 450.51 and $ 17,126.90. The question is whether certain so-called debenture preferred stock issued by petitioner was stock or bonds, that is to say, whether it represented proprietary or creditor interests. Petitioner's principal office was in Wilmington, Delaware, and its returns were filed with the collector of internal revenue for the district of Delaware.FINDINGS OF FACT.Petitioner was organized August 12, 1938, under the laws of Delaware, with authorized and issued capital stock as follows: 100 shares of common stock and 2,900 shares of debenture preferred 107 stock, all of the par value of $ 100 per share. Petitioner paid $ 14,500 to the holders of the debenture preferred stock in the taxable year, which was designated and deducted for tax purposes as interest. Respondent disallowed this deduction on the ground that the debenture preferred stock represented proprietary rather than creditor interest and that therefore the payments were dividends and not interest.The facts explaining the reason for and the circumstances leading up to the organization of petitioner follow:James T. Mullin & Sons, Inc., hereinafter referred to as the sales company, was organized in 1925 and was engaged in the retail clothing business. It was authorized to issue 6,000 shares of stock, of which 4,500 shares were outstanding in 1938. The outstanding stock was owned, directly or beneficially, in equal shares by James Paul Mullin, Ruth Mullin Freeman, John A. Mullin, and Mac Sumner Mullin, who are brothers and sister. The sales company owned land and a brick store building thereon located in Wilmington, in which the retail clothing business was conducted. The real property was encumbered by a mortgage for $ 105,000, originally executed in the amount of $ 108 150,000.351 James Paul Mullin, who was the active head of the sales company, wanted to remove the real property from the hazards of the retail clothing business and to establish a steady and safe income for his family, based on such real estate. Also, the credit standing of the sales company was adversely affected by the appearance on its books of the mortgage on the real estate for $ 105,000. For these reasons James wanted to form a separate company to hold and operate the real estate distinct from the sales company. Petitioner was formed to accomplish this purpose.Petitioner's capital stock, all of which was issued, consisted of 100 shares of common stock with a par value of $ 100 each and 2,900 shares of debenture preferred stock, also with a par value of $ 100 each. All of petitioner's stock was issued to the four individual stockholders of the sales company equally. The sales company, in consideration therefor, transferred the real property to petitioner. No money changed hands. The sales company reorganized by canceling its own outstanding stock and issuing in lieu thereof 100 shares of common and 1,400 shares of debenture preferred stock equally to the original109 stockholders. Petitioner rented the building to the sales company for an annual rental of 8 per cent of net sales with a minimum of $ 30,000 to be paid quarterly in advance. There were also other tenants in the building, who contributed substantial additional rentals received by petitioner. Petitioner executed a bond and mortgage for $ 105,000 to replace the mortgage on which the sales company had been liable. Petitioner's only asset was and is the real estate (land and building) conveyed to it by the sales company. Petitioner's only business has at all times been the holding of this real estate and the leasing of it for rentals. The character of petitioner's debenture preferred stock is described in its articles of incorporation as follows:Fourth: The total number of shares of stock which this corporation is authorized to issue is Three Thousand (3000) shares, of which one hundred (100) shares, of the par value of One Hundred Dollars ($ 100) each, amounting to Ten Thousand Dollars ($ 10,000), are common stock, and Twenty Nine Hundred (2900) shares, of the par value of One Hundred Dollars ($ 100) each, amounting to Two Hundred Ninety Thousand Dollars ($ 290,000), are Debenture110 Preferred Stock.The said Debenture Preferred Stock shall entitle the holders thereof to receive interest on the par value of the said stock, at the rate of five per centum (5%) per annum which shall be paid semi-annually on the 1st days of January and July in each year, and all interest which shall have accrued on the said Debenture Preferred Stock shall be paid before any dividends shall be set aside or paid on the common stock; and the holders of said Debenture Preferred Stock shall not participate in or receive any earnings, profits or dividends.The holders of the said Debenture Preferred Stock shall be entitled to receive from the assets of the Company, the par value of their stock besides all unpaid accrued interest thereon, upon the liquidation or dissolution of the Company, and before any amount shall be paid to the holders of Common Stock; and the remaining 352 assets shall then be distributed among the holders of the Common Stock exclusively in proportion to their holdings.The failure of the Company to pay the interest on any of its outstanding Debenture Preferred Stock for a period of two years after the said interest shall have become due, or its failure to pay111 to the holders thereof the par value of their Debenture Preferred Stock plus all unpaid interest thereon upon the liquidation or dissolution of the Company shall entitle the holders of the said Debenture Preferred Stock to immediate rights of action to recover the said interest on and/or the said par value of their respective holdings of the said Debenture Preferred Stock.The holders of preferred stock shall not by reason of their holdings thereof be entitled to vote, the voting power being vested in the holders of common stock exclusively.The certificate of the debenture preferred stock recites on its face as follows:NumberSharesIncorporated Under the Laws of the State of DelawareMullin Building CorporationCapital Stock 3,000 SharesDebenture Preferred Stock 2,900 Shares -- Par Value $ 100Common Stock 100 Shares -- Par Value $ 100This Certifies That is the owner of full paid and nonassessable shares of the Debenture Preferred Stock of Mullin Building Corporation, transferable only on the books of the Company by the holder hereof in person or by duly authorized attorney upon surrender of this certificate properly endorsed. This certificate and the112 shares represented hereby are issued and shall be subject to all of the provisions of the Certificate of Incorporation, also subject to all of the By-laws of this Corporation, to all of which reference is hereby made with the same effect as if herein set forth in full, and to all of which the holder by the acceptance hereof assents.For a description of the Common and the Debenture Preferred Stock which this Corporation is authorized to issue, and of the respective rights of the holders thereof, reference is hereby made to said Certificate of Incorporation and to the summary of the provisions thereof set forth on the back of this Certificate.In Witness Whereof, Mullin Building Corporation has caused this Certificate to be duly executed.Mullin Building CorporationBy PresidentDatedTreasurerThe recitals on the back of the certificate are as follows:A SUMMARY OF THE RIGHTS AND PREFERENCES AND THE QUALIFICATIONS AND LIMITATIONS OF SUCH PREFERENCES APPEAR BELOW:1. The holders of the Debenture Preferred Stock are entitled to interest on the par value thereof at 5% per annum, payable semi-annually on January 1 and 353 July 1 of each year; and all unpaid accrued113 interest thereon shall be paid before any dividends shall be set aside or paid on the Common Stock. The holders of the Debenture Preferred Stock shall not participate in or receive any earnings, profits or dividends.2. The holders of the Debenture Preferred Stock shall be entitled to receive the full par value of their stock, together with all accrued unpaid interest thereon, upon the liquidation or dissolution of the Company, and before any account shall be paid to the holders of the Common Stock. The remaining assets shall then be distributed among the holders of the Common Stock in proportion to their holdings.3. Upon the failure of the Company to pay the interest on any of its outstanding Debenture Preferred Stock for 2 years, or to pay the par value thereof upon liquidation or dissolution of the Company, the holder of said stock shall have a right of action against the Company to recover the same.4. The voting power is vested solely in the holders of the Common Stock.Petitioner's stock and the sales company's stock were never sold or transferred outside the Mullin family. Petitioner's debenture preferred stock was carried on its books as capital stock and the stock in 114 both corporations was continuously held either directly or beneficially by the original holders thereof or their heirs, per stirpes, in the original proportions. The same persons, as stockholders, directors, and officers, controlled the operations of both corporations. In 1940 and 1941 an additional mortgage was placed on the real property by petitioner in the amount of $ 50,000, making the total mortgage thereon $ 155,000. This entire mortgage was paid off prior to 1944. By its articles of incorporation petitioner is to have perpetual existence. It was intended that, during the existence of petitioner, the 5 per cent per annum payment on the debenture preferred stock should be paid out of earnings. It was so paid.OPINION.The present case presents the question of whether a given security constitutes an indebtedness or a stock interest. The considerations on which the courts rely in determining whether a particular security represents a stock or a debt have been often stated and are now familiar. The result of these considerations in a given case is determined upon the facts and circumstances of the particular case. We have carefully weighed and considered the facts and115 circumstances relating to the securities here in question and have concluded that they must be considered for tax purposes as representing stock rather than an indebtedness.An indebtedness characteristically has a fixed maturity date, at which time a sum certain becomes due and payable. There is no fixed date of maturity of the principal of the debenture preferred stock here. The provision in the certificate thereof that upon liquidation this stock shall have priority in payment over the common stock adds nothing to 354 the usual provision in that regard as between preferred and common stock. In our opinion, that provision lends no support to the contention that the stock in question represents an obligation of debt rather than merely a preferred stock obligation. The original rights of a preferred stockholder entitle him, upon liquidation of the corporation, to recover the par value of the stock plus accrued unpaid dividends prior to distribution of liquidating or other dividends to holders of common stock. Such priority is not enlarged or fortified by a specific contractual provision giving the right to sue for its enforcement. This priority is protected by appropriate116 legal remedy without a contractual provision therefor. Upon liquidation, the right to receive payment of the par value of the debenture preferred stock in preference to the common stock rights arises or matures, but such maturity is not dependent upon the specific provision of the contract purporting to give the right to sue therefor. The event of liquidation fixing maturity of the debenture preferred stock here, with rights of priority only over the common stock, is not the kind of activating contingency requisite to characterize such stock as incipiently an obligation of debt.The articles of incorporation provide that, if interest on the debentures is not paid for a two-year period, or par value plus accrued interest is not paid on liquidation, the debenture holders shall be entitled "to immediate rights of action to recover the said interest on and/or the said par value of their respective holdings * * ."The recital on the back of the certificate purporting to summarize this provision in the corporate charter is as follows:3. Upon the failure of the Company to pay the interest on any of its outstanding Debenture Preferred Stock for 2 years, or to pay the par value thereof117 upon liquidation or dissolution of the Company, the holder of said stock shall have a right of action against the Company to recover the same.The above quotation from the back of the certificate indicates the interpretation of the charter provisions by petitioner and the certificate holder to be that only upon dissolution of petitioner will the debenture holder be entitled to receive payment of the principal of the debenture. It is, therefore, our opinion that this provision means and was intended to mean that a debenture holder can recover only interest when interest is in default for two years and can recover interest and par value only on failure to pay at liquidation.This interpretation is supported, we think, by consideration of the whole structural set-up of the two family corporations and by one of the avowed purposes thereof, namely, to assure a steady and safe income to the stockholders. The source of such assured income is rentals from the building, paid in the main by the sales company. The latter must pay rental to petitioner in the amount of $ 30,000 a year or 8 per cent of its net sales, whichever is the larger. A substantial 355 amount of additional rentals118 for space in its building was also received by petitioner through other tenants.If the debenture stockholders are entitled to enforce payment of the par value of their debenture stock upon default in the interest payment on such stock and should do so, petitioner's only income-producing asset and, in fact, its only asset, the land with the building thereon, would either have to be liquidated or encumbered to raise the $ 290,000 plus accrued interest required for such payment. If the income-producing asset should be liquidated, the flow of the "steady and safe" income therefrom would cease; or, if the income-producing asset should be mortgaged to secure funds for such payment, petitioner would pay out a large part of its earnings in interest and for retirement of principal to its mortgage creditor instead of to its debenture and common stockholders. Such a course would be too irrational from a business viewpoint to merit even momentary contemplation. Also, it would defeat the avowed purpose of securing a steady and safe income to the debenture holders. Such a course would furnish an apt illustration of killing or irreparably debilitating the goose that lays the golden eggs. If119 the debenture holders should take such course to recover their debenture stock investment, it would not only be of no financial benefit to them, but would entail a financial loss and detriment to themselves as holders of the common stock. Such a course is not within the realm of sane business practice and we are convinced that it was not intended.Our observations just preceding have equal application in support of our finding of fact that it was intended that the 5 per cent per annum payment on the debenture stock should be paid out of earnings. The fact that it was so paid is categorically established by the evidence. But since, in our opinion, it was the intention of petitioner and the debenture holders that the default could only be made good out of earnings, the suit would be unavailing unless there should be earnings out of which to pay. Hence, the result of such suit would be only to force the distribution of sufficient earnings to cover the default or else the issuance of a mandate to petitioner to pay the defaulted amounts to the extent earnings should be available therefor.What is it, under petitioner's contention, that matures the obligation for collection? Is it 120 the default, or does such maturity arise only if or when suit is brought? Regardless of what is the correct answer to this question, the debenture stockholders, who are also the holders of the common stock and are the directors and officers in control of petitioner, as well as the holders of all of the stock of the sales company and, as its directors and officers, are in control of the latter, are the persons who may determine when or if the right to bring suit shall be exercised. However, it does not stand to reason 356 that under the circumstances of this case the debenture holders will ever bring such suit or that it was at any time intended that they might do so.In the event of liquidation the par value of the debenture stock becomes payable out of the corporate assets, with priority over the common stock. No suit is necessary to mature the corporate obligation to pay. This is true in respect either of preferred stock or debt. If the debenture stock be deemed an evidence of debt instead of preferred stock, certainly a suit should not be necessary to constitute it a basis for creditor's claim payable out of the corporate assets. So, the provision purportedly giving 121 the right of action to a debenture holder in the event of liquidation is an idle gesture, regardless of whether the debenture be deemed to constitute a proprietary or a creditor right.The provision for right to bring suit, rather than granting a right, in reality constitutes, if anything, a limitation of a right. Any creditor can bring suit on a debt or for the performance of a legal obligation immediately upon default thereof unless it is specifically provided otherwise by contract, but the debenture holders here could only do so after a two-year default in interest or on liquidation. Thus, the provision for bringing suit which is relied on as fixing a maturity date of an obligation in reality has no effect in doing so, but, on the contrary, limits rights which the debenture holders would have otherwise had as holders of preferred stock. Furthermore, since there is no lien that can be foreclosed, and as hereinafter indicated the general creditors might well have priority over the debenture holders, and since there is no restriction on petitioner placing encumbrances on its assets, this limited right to sue is of questionable value in any event. The most that can be said of the122 debenture holders' claims to the assets is that they were prior to the common stockholders, but since, in the close family situation involved here the debenture holders and the common stockholders were the same people, even this preference is more apparent than real.Petitioner points to the provision that the debenture stock "shall not participate in or receive any earnings, profits or dividends." This, petitioner contends, strongly indicates that the debentures represented an indebtedness rather than a proprietary interest. This provision to us is merely a matter of nomenclature. It merely says that the debenture holders' receipts will be called interest and will not be called dividends or considered as a receipt of earnings as such. Actually, the only income-producing asset petitioner had was its building. It would therefore seem that the so-called interest would of necessity have to be paid from rental of the building, or, in other words, from 357 earnings. Under these circumstances, to provide in effect that the payments to the debenture holders will not be called dividends or considered as receipts of earnings is little more than labeling and is not persuasive as 123 to the fundamental nature of the securities in question. The provision in question does not prohibit or in any way limit the payment out of earnings. Hence, the provision that the debenture holder shall not participate in or recover any earnings, profits, or dividends means merely that the 5 per cent payment on the debentures, even though paid out of earnings, shall not be called a distribution of dividend.Whether or not the debenture holder is entitled to recover principal only on liquidation, the amount of recovery is subject to the hazards of the corporate business, since the debenture stock is unsecured and is not superior, but is possibly subordinate, to general creditors' claims. Since the debenture preferred stock was carried on its books and was held out to the public by petitioner as representing capital, it appears that general creditors would have substantial basis for claiming priority of their claims over those of the debenture holders. Certainly, there can be no question as to the priority of the secured creditor's claim over that of the debenture holder. In this respect, i. e., the debentures' lack of priority or security, the instant case differs essentially from124 , affirming . In the Richmond case, the principal of the guaranteed stock was not demandable by the stockholder in the absence of default in the payment of the guaranteed dividends. The Circuit Court said:* * * There is nothing in the fact that the debt evidenced by the preferred stock is not payable at a fixed time which throws upon the holders thereof any of the risks with respect to the corporate enterprise which are characteristic of the position of the stockholder.However, the essential fact in that case which distinguishes it from the instant case was that the guaranteed stock was secured and had priority not only over general creditors, but also over other secured creditors. The Circuit Court in the Richmond case stressed this, saying:In the case at bar, not only does the guaranteed stock rank prior to the interest of general creditors, but also prior to the interest of other secured creditors. The so-called guaranteed dividends are debts to be paid when due, whether there are net earnings out of which they may be paid or not; and, 125 if there be default in paying them as guaranteed, the lien on the assets can be foreclosed and the principal as well as the guaranteed dividends paid from the proceeds, in advance of all other creditors. * * Thus the principal of this secured stock not only is not risked upon the enterprise along with the investment of other stockholders, but it is given a preferential lien upon the assets over the claims of all other creditors, secured as well as unsecured.358 Furthermore, the intention of the parties indicates that the debenture stock was stock rather than a debt. It was called stock. It was carried on petitioner's books as capital and so represented to the business world. Had it not been so represented, petitioner would have appeared as a company with a ratio of debt to capital of 29 to 1. Also, the transaction lacks the elements of a loan. New capital was not wanted or obtained by the issuance of the debentures. The absence of a true borrowing element we recognize is not always determinative, see ; reversed on another point, , but such126 absence under certain circumstances is considered as indicating the creation of a stock interest rather than a debt. In , we said:* * * In the first place the new debenture preferred shares were issued in exchange, share for share, for old preferred shares and no new capital was paid into or lent to the company. The new shares thus evidenced an investment in the company rather than a loan to the company.Petitioner claims that the purpose of the transaction was to satisfy James Mullin's desire to establish a steady income for his family and improve the sales company's credit position. The creation of petitioner accomplished these purposes just as fully by treating the debenture stock as an investment creating a proprietary interest as by treating it as an evidence of debt. It must be obvious that as a practical matter it was intended that the so-called interest should be paid only out of earnings, just as dividends would be paid on the debenture stock if it should be treated merely as preferred stock. It was not necessary to create a 29 to 1 debt to capital ratio in petitioner's financial structure to accomplish*127 these ends. The sales company formerly owned the building and therefore had had no rental deduction. After the creation of petitioner the sales company rented the building and got a deduction therefor. To petitioner this rental was income, but, by virtue of its relatively large claimed debt to its debenture holders, a large portion of this rental income was offset by deduction for interest payments. This accomplishment is a matter of potent and pertinent consideration here and militates against the reality of the claimed debt creation.We have concluded and hold that the debenture stock here involved is in fact stock and does not represent a debt. Accordingly, the payment thereon as interest was distribution of a dividend and the deduction therefor is disallowable.Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621628/	SULTANA OIL CORPORATION, A DELAWARE CORPORATION, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Sultana Oil Corp. v. CommissionerDocket Nos. 90078, 90079.United States Board of Tax Appeals40 B.T.A. 1196; 1939 BTA LEXIS 744; December 20, 1939, Promulgated 744 1. The fact that a taxpayer elects, under the provisions of article 23(m)(16) of Regulations 86, 1934 Act, to deduct expenditures for wages, fuel, repairs, supplies, etc., incident to and necessary for the drilling of wells and preparation of wells for the production of oil or gas rather than to capitalize them and is allowed such deduction in determining his net income does not forfeit his right to a deduction for percentage depletion under the provisions of section 114(b)(3), Revenue Act of 1934. 2. For the purpose of limitation on percentage depletion to 50 percent of net income from oil property, such net income must be reduced by development expenditures deducted in computing taxable net income. Helvering v. Wilshire Oil Co.,308 U.S. 90">308 U.S. 90. Eugene P. Locke, Esq., for the petitioner. William A. Schmitt, Esq., for the respondent. BLACK1197 OPINION. BLACK: Docket No. 90078 involves a deficiency of $2,045.88 in income tax determined by the Commissioner against the petitioner for the year 1934. Part of the deficiency is not contested and has been paid. The remainder is contested by appropriate assignments of error. 745 Docket No. 90079 involves a deficiency in income tax of $6,851.59 determined against the petitioner as transferee of Sultana Oil Corporation of Louisiana, a dissolved corporation. Part of this deficiency the petitioner does not contest and has paid. The remainder is contested by appropriate assignments of error. The proceedings have been consolidated and have been submitted upon a stipulation of facts. We adopt the stipulation of facts as our findings of fact and will state only such parts of the facts as seem necessary to an understanding of the issues which are submitted to us for decision. The petitioner (in both cases, No. 90078 and No. 90079) is a Delaware corporation. It began to transact business on December 1, 1934, and transacted business during the month of December 1934 and during the year 1935 in the State of Louisiana, having its principal office at Shreveport. The Sultana Oil Corporation, a Louisiana corporation, engaged in business in that state prior to December ,1, 1934, and as of November 30, 1934, transferred its assets to petitioner and was dissolved. Docket No. 90078 involves the income tax liability of petitioner for the short tax period beginning746 December 1, 1934 and ending December 31, 1934. Docket No. 90079 involves the income tax liability of petitioner as transferee of the assets of the said Louisiana corporation for the tax periods ended July 31, 1934, and July 31, 1935 (the latter period, however, actually ending on dissolution of the Louisiana corporation on November 30, 1934). The petitioner admits liability under the applicable revenue acts as transferee of the assets of the Louisiana corporation for all amounts which shall be finally determined to be due and owing within the said two tax periods ended July 31, 1934, and July 31, 1935, respectively. We shall first take up and decide the issues involved in Docket No. 90078, income tax liability of the Sultana Oil Corporation of Delaware for the period beginning December 1, 1934, and ending December 31, 1934. In order that we may have a clear understanding of the issues 1198 to be decided in that docket the parties have stipulated the following facts: During the month of December, 1934, and the year 1935, petitioner was engaged in the business of operating and developing oil lands, the drilling of wells and the production of oil generally, as was its747 predecessor corporation, Sultana Oil Corporation of Louisiana. For the period ended December 31, 1934, the petitioner expended for what is commonly known as intangible drilling and development costs (wages, fuel, supplies, etc.) the sum of $9,438.46. The petitioner elected prior to making its return for the tax period in question, in accordance with Treasury Department regulations, to treat such intangible drilling and development costs as expense deductible within the year in lieu of capitalizing the same. In computing petitioner's net income for the period ended December 31, 1934, the above mentioned sum of $9,438.46, representing intangible drilling and development costs was deducted from the gross income of the petitioner as an expense, and such deduction has been allowed by respondent in computing petitioner's income. During the period ended December 31, 1934, the gross income of the petitioner from oil wells was $31,623.85. The net income before deduction of said sum of $9,438.46 representing intangible drilling and development costs, was $24,317.57. 50% of said amount is $12,158.78. 27 1/2% of said gross income is $8,696.55. In computing petitioner's net income for748 the period ended December 31, 1934, the above mentioned sum of $8,696.55 was deducted from gross income as allowance for percentage depletion under Section 114(b)(3) of the Revenue Act of 1934. Respondent has disallowed such deduction. The difference between the respondent and petitioner in computation of net taxable income for the mentioned period is $8,696.55 and is attributable to the claim of respondent that if the said sum of $9,438.46 representing intangible drilling and development costs is to be deducted from income as expense, then no allowance is to be permitted for percentage depletion under said Section 114(b)(3). If said sum of $9,438.46 representing intangible drilling and development costs is deducted from gross income in arriving at the 50% of net income limitation on percentage depletion provided by said Section 114(b)(3), then 50% of net income is $7,439.55 and this figure, instead of the said figure of $8,696.55, would be the correct amount for percentage depletion allowance. The only issues involved in the proceeding for the said tax period are (1) whether the Commissioner erred in failing to allow percentage depletion under Section 114(b)(3), and (2) if he749 did, whether the said amount of $9,438.46 representing intangible drilling and development costs is deductible from gross income in arriving at the 50% of net income limitation on percentage depletion under said Section 114(b)(3). As to issue (1) above we hold that the Commissioner erred in failing to allow petitioner any percentage depletion at all. He seems to have acted upon the assumption in this instance that when once he had allowed petitioner a deduction for intangible drilling costs in determining petitioner's net income, then no percentage depletion was allowable at all. The respondent's action in this respect finds no support in the decided cases and, in so far as we can see, finds no support in his own regulations. Article 23(m) - 16 of Regulations 86 provides that all expenditures for wages, fuel, repairs, supplies, etc., incident to and necessary 1199 for the drilling of wells and the preparation of wells for the production of oil or gas, may at the option of the taxpayer, be deducted from gross income as an expense or charged to capital account. The facts in the instant case disclose that petitioner has elected to deduct these intangible development750 costs as an expense and not capitalize them. This it had the right to do under the above cited regulation. The taking of this deduction does not deprive petitioner of the right to percentage depletion. Article 23(m) - 4 of Regulations 86 provides for "computation of depletion based on a percentage of income in the case of oil and gas wells." This article cites article 23(m)-1(h) of Regulations 86, which requires that, in determining net income from the property for the purpose of applying the 50 percent limitation applicable to percentage depletion, gross income shall be reduced by, among other things "overhead and operating expenses, development costs properly charged to expense, * * * etc." Petitioner at the hearing contended that this latter provision of the regulation was invalid and that petitioner was entitled to have percentage depletion without the $9,438.46 expended for intangible drilling and development costs being deducted from gross income in arriving at the 50 percent of net income limitation on percentage depletion under section 114(b)(3). Petitioner relies upon 751 ; affd. (C.C.A., 9th Cir.), . Since the instant case was aubmitted the Supreme Court of the United States has reversed the Wilshire Oil Co. case and has held that for the purpose of limitation on percentage depletion to 50 percent of net income from oil property, such net income must be reduced by development expenditures deducted in computing taxable net income. See . Therefore we hold (1) that the Commissioner erred in failing to allow petitioner a deduction for percentage depletion under section 114(b)(3), and (2) that in accordance with the Supreme Court's decision in the Wilshire Oil Co. case, the $9,438.46, representing intangible drilling and development costs is deductible from gross income in arriving at the 50 percent of net income limitation on percentage depletion under section 114(b)(3). Sultana Oil Corporation of Louisiana, Fiscal Year Ended July 31, 1934.We shall next consider the tax liability of the Sultana Oil Corporation of Louisiana for the fiscal year ended July 31, 1934. In order that we may clearly decide752 the issues presented for this period, the parties have stipulated as follows: For the taxable period ended July 31, 1934, the Sultana Oil Corporation of Louisiana (transferor) expended for what is commonly known as intangible 1200 drilling and development costs the sum of $17,736.84. The taxpayer (Louisiana corporation, transferor) elected prior to making its return for the tax period in question, in accordance with Treasury Department regulations, to treat such intangible drilling and development costs as expense deductible within the year in lieu of capitalizing the same. In computing said corporation's net income for the period ended July 31, 1934, the above mentioned sum of $17,736.84 representing intangible drilling and development costs was deducted from gross income of the taxpayer as an expense. But said deduction has been disallowed by respondent in computing that taxpayer's net income. During the period ended July 31, 1934, the gross income of the taxpayer from oil wells was $72,924.25. The net income before deduction of said sum of $17,736.84 representing intangible drilling and development costs was $55,710.51. 50% of said amount is $27,855.25. 27 1/2%753 of said gross income is $20,054.16. In computing said corporation's net taxable income for the period ended July 31, 1934, the above mentioned sum of $20,054.16 was deducted as allowable depletion under Section 114(b)(3) of the Revenue Act of 1932, and said deduction has been allowed by respondent in computing the taxpayer's net income. The difference between respondent and petitioner in computation of net taxable income for the period ended July 31, 1934, is $17,736.84, representing intangible drilling and development costs, and is attributable to the claim of respondent that such intangible drilling and development costs are not duductible from income if allowance of said sum of $20,054.16 is permitted for depletion under said Section 114(b)(3). If the said sum of $17,736.84 representing intangible drilling and development costs is deducted from gross income in arriving at the 50% of net income limitation of percentage depletion provided by said Section 114(b)(3) then 50% of net income is $18,736.84 and this figure, instead of the said figure of $20,054.16, would be the correct amount for percentage depletion allowance. The only issues involved in the proceeding for the said754 tax period are (1) whether the Commissioner erred in failing to allow deduction of intangible drilling and development costs from gross income and (2) if he did, whether the said amount of $17,736.84 representing intangible drilling and development costs is deductible from gross income in arriving at the 50% of net income limitation on percentage depletion under said Section 114(b)(3). For reasons stated in our discussion of the tax liability of the Sultana Oil Corporation of Delaware, above, we hold (1) that the Commissioner erred in failing to allow deduction of intangible drilling and development costs of $17,736.84 from gross income; and (2) that the said amount of $17,736.84 representing intangible drilling and development costs is deductible from gross income in arriving at the 50 percent of net income limitation on percentage depletion under said section 114(b)(3). Sultana Oil Corporation of Louisiana, Fiscal Year Ended July 31, 1935.In order that we may have an understanding of the issues to be decided in determining the income tax liability of the Sultana Oil Corporation of Louisiana for the fiscal year ended July 31, 1935, the parties have stipulated as follows: 755 For the taxable period ended July 31, 1935, Sultana Oil Corporation of Louisiana (transferor) expended for what is commonly known as intangible drilling 1201 and development costs the sum of $26,083.42. The taxpayer (Louisiana corporation, transferor) elected prior to making its return for the tax period in question, in accordance with Treasury Department regulations, to treat such intangible drilling and development costs as expense deductible within the year in lieu of capitalizing same. In computing said corporation's net income for the period ended July 31, 1935, the above mentioned sum of $26,083.42 representing intangible drilling and development costs, was deducted from gross income of the taxpayer as an expense, and said deduction has been allowed by respondent in computing that taxpayer's net income. During the period ended July 31, 1935, the gross income of that taxpayer from oil wells was $49,542.90. The net income before deduction of said sum of $26,083.42 representing intangible drilling and development costs, was $39,314.58. 50% of said amount is $19,657.29. 27 1/2% of said gross income is $13,624.29. In computing said corporation's net income for the756 period ended July 31, 1935, the above mentioned sum of $13,624.29 was deducted from gross income as allowance for percentage depletion under Section 114(b)(3) of the Revenue Act of 1934. Respondent has disallowed such deduction. The difference between petitioner and respondent in computation of net taxable income for the above mentioned period is $13,624.29 and is attributable to the claim of respondent that no percentage depletion allowance under Section 114(b)(3) is to be permitted if deduction for intangible drilling and development costs is permitted. If said sum of $26,083.42 representing intangible drilling and development costs is deducted from gross income in arriving at the 50% of net income limitation on percentage depletion provided by said Section 114(b)(3) then 50% of net income is $6,615.58, and this figure, instead of the said figure of $13,624.29, would be the correct amount for percentage depletion allowance. The only issues involved in the proceeding for said tax period are (1) whether the Commissioner erred in failing to allow percentage depletion under Section 114(b)(3), and (2) if he did, whether the said amount of $26,083.42 representing intangible drilling*757 and development costs is deductible from gross income in arriving at the 50% of net income limitation on percentage depletion under said Section 114(b)(3). For the reasons stated in our discussion under the Sultana Oil Corporation of Delaware, above, we hold (1) that the Commissioner erred in failing to allow percentage depletion under section 114(b)(3); and (2) that the said sum of $26,083.42 representing intangible drilling and development costs is deductible from gross income in arriving at the 50 percent of net income limitation on percentage depletion under said section 114(b)(3). Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621629/	William W. Grant, Petitioner v. Commissioner of Internal Revenue, RespondentGrant v. CommissionerDocket No. 13985-79United States Tax Court84 T.C. 809; 1985 U.S. Tax Ct. LEXIS 84; 84 T.C. No. 54; May 6, 1985. May 6, 1985, Filed 84 Decision will be entered under Rule 155. During 1972, 1973, and 1974, petitioner performed uncompensated legal services for organizations eligible to receive deductible charitable contributions. Also, he represented a client in a divorce proceeding which lasted from 1971 through 1974 and was not compensated for most of the services he rendered in that proceeding. In April 1972, petitioner separated from his wife and vacated his house. His wife rented part of the house to a tenant beginning in September 1972. His wife vacated the house in January 1973. In July 1973, petitioner and his wife were divorced a mensa et thoro. In late 1974 the tenant vacated the house. Petitioner did not report any rental income from the house. In 1975 petitioner and his wife were divorced a vinculo matrimonii, and shortly thereafter the house was sold in a partition sale. Held:1. Petitioner is not entitled to deduct the value of his contributed services to various charitable organizations under sec. 170, I.R.C. 1954; sec. 1.170A-1(g), Income Tax Regs., which disallows such deduction is valid.2. The value of his uncompensated services in the divorce proceeding is not deductible under sec. 162, I.R.C. 1954.3. 85 No alimony deduction is allowed under sec. 215, I.R.C. 1954, for payments made in 1972 and in January 1973 since these payments were not made pursuant to a legal obligation incurred by petitioner under a written instrument incident to the divorce or pursuant to a written separation agreement.4. Petitioner did not hold the house for the production of income and so is not allowed to deduct the maintenance expenses he paid in 1974. Sec. 212(2), I.R.C. 1954.5. Liability determined for additions to tax under sec. 6653(a), I.R.C. 1954. William W. Grant, pro se.Robert A. Miller, for the respondent. Chabot, Judge. CHABOT810 Respondent determined deficiencies in Federal individual income taxes and additions to tax under section 6653(a)1 as follows:Additions to taxYear2 Deficiency sec. 6653(a)1972$ 3,660.22$ 183.0119733,085.21 154.26 19743,378.87 168.94 86 After concessions by both parties, the issues for decision 3 are as follows:(1) Whether the value of uncompensated legal services performed by petitioner for charitable, governmental, religious, and educational organizations is deductible under section 170;(2) Whether the value of services performed by petitioner in a divorce proceeding, in excess of the compensation received by petitioner, is deductible as a business expense under section 162;(3) Whether payments made by petitioner to his wife during 1972 and 1973 are deductible under section 215;(4) Whether expenses incurred by petitioner in connection with his former residence are deductible under section 212; and(5) Whether petitioner is liable for an addition to tax under section 6653(a) for each of the years in issue.FINDINGS OF FACTSome of the facts have been stipulated; the stipulations and the stipulated exhibits are incorporated herein by this reference.When the petition was filed in the instant case, petitioner resided in Oakland, Maryland. 87 For 1972 through 1974, petitioner was a cash basis taxpayer.811 Legal ServicesPetitioner is a Maryland attorney and during the years involved was engaged in private practice in Oakland.Petitioner served as attorney to the mayor and town council of Oakland (hereinafter sometimes referred to as the Oakland government), and received $ 5,342.01, $ 1,571.10, and $ 4,670.00 as compensation for legal services performed in 1972, 1973, and 1974, respectively. These amounts were reported as income on the appropriate years' tax returns. During these 3 years, petitioner also performed legal services for the Oakland government for which he was not compensated. Petitioner did not report the value of these uncompensated legal services as income for 1972, 1973, or 1974. On the Schedule C's of his tax returns for 1972, 1973, and 1974, petitioner deducted $ 3,042, $ 1,440, and $ 1,800, respectively, for "Municipal Work"; these amounts represent the value of the time he spent performing uncompensated legal services for the Oakland government. These uncompensated legal services were performed exclusively for public purposes. Respondent disallowed the deductions on account of the uncompensated legal 88 services.By appointment of the Governor of Maryland, during 1972 and 1973, petitioner served on the Board of Visitors of Frostburg State College. Furthermore, during 1973, by designation of the Secretary of Natural Resources of Maryland, petitioner served on the Advisory Committee of the Ohio River Basin Commission. During 1972 and 1973, petitioner performed services for various governmental, charitable, educational, and religious organizations for which he was not compensated. Petitioner did not include the value of these services as income for these years. On his tax returns for 1972 and 1973, petitioner deducted $ 1,126 and $ 3,478, respectively, as charitable contribution deductions; these amounts represent the value of the time he spent performing uncompensated legal services for these organizations. All of the organizations for which petitioner performed these uncompensated legal services were eligible to receive deductible charitable contributions under section 170. 89 These uncompensated legal services that were performed for governmental bodies were performed exclusively for public purposes. Respondent disallowed the deductions on account of the uncompensated legal services.812 In March 1971, petitioner agreed to serve as court-appointed counsel for a client of the Mental Health Section of the Garrett County Department of Health 4 in connection with a divorce proceeding instituted against the client under the then-new no-fault divorce law of Maryland. Petitioner's legal services in that divorce case involved more than 440 hours over about 3 years and included three trials in Prince George's County and several appeals. On his tax return for 1974, petitioner claimed a business bad debt deduction for $ 12,054.36 -- the amount by which (a) the sum of (1) the fair market value of his legal services ($ 13,332) and (2) his out-of-pocket expenses ($ 704.67) exceeded (b) the $ 1,982.31 he received for that divorce case. Respondent disallowed this bad debt deduction.Alimony PaymentsOn April 4, 1972, petitioner and his wife, Lucille, separated. After their separation, petitioner's divorce counsel advised Lucille's 90 divorce counsel in a letter dated May 30, 1972, that petitioner would provide Lucille with direct support payments. 5 In a letter to petitioner dated June 8, 1972, petitioner's divorce counsel states that he would like to establish with the judge in the divorce action the amount of cash support that petitioner would provide to Lucille. 6By a letter dated August 18, 1972, Lucille's counsel advised petitioner's counsel that Lucille was receiving $ 125 per week 7 and objected to the inadequacy of this amount. During 1972, petitioner made 27 weekly $ 125 support payments to Lucille, totaling $ 3,375. Petitioner paid Lucille another $ 125 on January 23, 1973. No support payments were made between January 23, 1973, and May 29, 1973, because Lucille went to California. She returned sometime in April 1973. The 91 court 813 then awarded her alimony pendente lite in the amount of $ 200 per month.During the period May 29, 1973, through July 28, 1973, petitioner made payments to Lucille totaling $ 700. 8 On July 16, 1973, petitioner and Lucille were divorced a mensa et thoro by order of the Circuit Court for Garrett County, Maryland.In July 1974, there was a hearing on the divorce a vinculo matrimonii. The final divorce decree was enrolled in 1975.No written separation agreement was entered into between petitioner and Lucille. The $ 3,375 that petitioner paid in 1972 and the $ 125 that petitioner paid on January 23, 1973, were not paid under a written separation instrument.Maintenance ExpensesOn April 4, 1972, petitioner vacated a house in Oakland, which was owned jointly by petitioner and Lucille. 92 This house had been theretofore used as a residence by both petitioner and Lucille. Lucille remained on the premises and in September 1972 she rented the lower part of the house to a tenant.The tenant paid the rent directly to Lucille, who kept the rent. The expenses incurred to maintain the premises were paid by Lucille or the tenant. Petitioner did not include in income any rental income from the house for any of the years in question. Petitioner was not aware of the rental details and did not have any idea of the amount of rent collected by Lucille. In January 1973, Lucille vacated the premises, and the tenant remained in possession of the house.In July 1974, there was a hearing on petitioner's and Lucille's final divorce decree. Sometime between July and December 1974, the tenant also vacated the premises. Since neither Lucille nor the tenant maintained the premises after the tenant departed, petitioner began paying the maintenance expenses for the house because he feared the insurance would be canceled and the utility services terminated. Petitioner intended to sell the house as soon as the divorce proceeding was concluded.814 On his 1974 tax return, petitioner deducted the 93 expenses shown in table 1, which he paid in connected with the upkeep and maintenance of the house.Table 1Insurance$ 134.00Cleaning239.10Repairs98.36Gas168.93Electricity190.68Water43.15Movers90.00964.22In 1975, shortly after the final divorce decree was enrolled, the house was sold at a partition proceeding by the Circuit Court for Garrett County. The sale resulted in a capital gain which was reported on petitioner's 1975 tax return.Petitioner abandoned his personal use of the house before he paid the expenses listed in table 1. Petitioner did not hold the house for the production of income when he paid these expenses.Negligence, Etc.Petitioner, who prepared his own tax returns for the years in issue, was aware that section 1.170A-1(g), Income Tax Regs., prohibited a charitable contribution deduction for a contribution of services; he deliberately disregarded the regulation, because he believed that it was invalid.OPINIONI. Charitable ContributionsIn general, petitioner is entitled to deduct, for any year, any contribution or gift to or for the use of any of certain types of organizations, if payment of the contribution or gift is made within that year. Secs. 170(a)(1) and 170(c)94 (opening flush language). 9 The parties agree that petitioner's services were 815 performed for eligible donee organizations (and, in the case of governmental donees, that the services were performed for exclusively public purposes) and also agree as to the value of the services. 10Petitioner maintains that he is entitled to deduct under section 170 the value of his uncompensated legal 95 services to the Oakland government for 1972, 1973, and 1974 (originally deducted as business expenses) and the value of his uncompensated legal services in 1972 and 1973 to other organizations eligible to receive charitable contributions. He contends that section 1.170A-1(g), Income Tax Regs., prohibiting such deductions is invalid. Alternatively, petitioner argues that (1) his services coalesced in the various legal documents he delivered to the charitable organizations which constitute a deductible contribution of property under section 170, and (2) the value of petitioner's services are determinable on the record in the instant case and therefore general difficulties in valuation do not constitute a good reason for refusing to allow the specific deductions here in dispute.Respondent maintains that the regulation is valid. He contends that a longstanding regulation which applies to a subsequently reenacted statute is treated as having received congressional approval and has the effect of law. Respondent further argues that even if petitioner's services are treated as having coalesced in a physical product, petitioner still is not entitled to a charitable contribution deduction, 96 because of the effect of section 170(e)(1)(A).We agree with respondent.816 A. Regulation -- ApplicationSection 1.170A-1(g), Income Tax Regs., 1197 prohibits a charitable contribution deduction for a contribution of services. See Cupler v. Commissioner, 64 T.C. 946">64 T.C. 946, 954 (1975). The disputed deductions are for the value of petitioner's uncompensated legal services.12We conclude that, under section 1.170A-1(g), Income Tax Regs., petitioner is not entitled to the disputed deductions.Petitioner contends that "the value of his services would have coalesced also with the petitioner's output of deeds, opinion letters, reports, legislative drafts, pleadings, resolutions, and ordinances, etc., delivered to the various charitable recipients." Petitioner points to conceptual difficulties in drawing a line separating property from services. To this we make three responses.Firstly, we acknowledge that such conceptual difficulties exist. See Holmes v. Commissioner, 57 T.C. 430">57 T.C. 430, 437 (1971). However we do not believe it is difficult to determine that what petitioner produced is on the services side of the property-services line. 13 We do not believe that the deeds, opinion letters, etc., prepared by petitioner fall on the same side of the line as the original music manuscripts dealt with in Jarre v. Commissioner, 64 T.C. 183">64 T.C. 183 (1975); 98 the cataract machine and heart-lung machine dealt with in Cupler v. Commissioner, supra; the original cartoons and manuscripts dealt with in Mauldin v. Commissioner, 60 T.C. 749">60 T.C. 749 (1973); or the movie films dealt with in Holmes v. Commissioner, supra -- a sampling of the cases petitioner cites in support of his argument. Of the cases cited by petitioner, Goss v. Commissioner, 59 T.C. 594">59 T.C. 594817 (1973), is the only one that approaches closely the property-services line. Goss made a gift of two specific essays to a qualified donee organization. The essays were based on the results of a survey that Goss conducted. We noted that Goss "maintained physical ownership over the property before it was donated" to the organization. 59 T.C. at 596. In contrast, the record in the instant case does not specify the particular documents transferred to the donee organizations, nor is there any evidence that petitioner ever maintained physical ownership over the documents he refers to. 14 We do not deny that there are many occasions when a lawyer's documents may have historic value 15 or perhaps a fair market value resulting from interest by collectors. However, nothing in the record in the instant case 99 would support a finding that any of the documents drafted by petitioner falls into either of the foregoing categories.Secondly, on his tax returns for each of the years in issue, petitioner described the "product" of his business activity as "Legal Services", 100 and not as documents. We have no reason to believe that petitioner's charitable legal work resulted in a different "product" from that of his business legal work. Also, the stipulations speak of petitioner performing uncompensated "services" or "legal services" for the donee organizations; the stipulations do not speak of contributing documents to the organizations.Thirdly, even if petitioner could properly be said to have contributed property, rather than services, then section 170(e)16 as modified by the Tax Reform Act of 1969, would 818 appear to eliminate any deduction by petitioner. (See note 14 supra.) We conclude that petitioner's uncompensated legal 101 services did not coalesce in property that was the subject of charitable contributions. We conclude that the charitable contributions in dispute were contributions of services, within the meaning of section 1.170A-1(g), Income Tax Regs.We hold for respondent on this issue.B. Regulation -- ValidityThe Supreme Court, in Commissioner v. Portland Cement Co. of Utah, 450 U.S. 156">450 U.S. 156, 169 (1981), provided the following instructions for testing the validity of a regulation:regulations command our respect, for Congress has delegated to the Secretary of the Treasury, not to this Court, the task "of administering the tax laws of the Nation." United States v. Cartwright, 411 U.S. 546">411 U.S. 546, 550 (1973); accord, United States v. Correll, 389 U.S. 299">389 U.S. 299, 307 (1967); see 26 U.S.C. § 7805(a). We therefore must defer to Treasury Regulations that "implement the congressional mandate in some reasonable manner." United States v. Correll, supra, at 307; accord, National Muffler Dealers Assn. v. United States, 440 U.S. 472">440 U.S. 472, 476-477 (1979). To put the same principle conversely, Treasury Regulations "must be sustained unless unreasonable and plainly inconsistent with the revenue statutes." Commissioner v. South Texas Lumber Co., 333 U.S. 496">333 U.S. 496, 501 (1948); 102 accord, Fulman v. United States, 434 U.S. 528">434 U.S. 528, 533 (1978); Bingler v. Johnson, 394 U.S. 741">394 U.S. 741, 749-751 (1969). * * In analyzing the regulation, it may be helpful to consider the following hypothetical. Physician A works without compensation for 1 day at a charitable hospital's clinic. These services are valued at $ 500. Physician B works for 1 day at his or her usual practice, and contributes the day's net fees (also $ 500) to the same hospital; the hospital uses that contribution to hire physician C to work for 1 day at its clinic. As an economic matter, A and B are even on the day's work. The hospital has had the benefits of a day's work from each of them (directly from A, indirectly from B). Yet, petitioner would have us declare that A is entitled to reduce his or her other taxable income by $ 500 (since A's services for the hospital do not generate any taxable income for A) while B is in effect permitted only to offset the $ 500 of net fees received. We may assume that the Congress has the constitutional power to make this distinction, favoring the services contributor over the cash contributor. However, we do not find anything in the 819 statute or the legislative history 103 to convince us that the Congress has in fact made this distinction. Respondent's regulation has the effect of giving essentially the same "bottom-line" tax treatment to situations which produce essentially the same "bottom-line" economic results and charitable benefits. Petitioner's approach would require us to invalidate a regulation in order to create vastly different tax results from essentially equivalent sets of facts.We conclude that respondent's regulation embodies a reasonable interpretation of the statute. Petitioner has not pointed us to any conflict between the statute or the legislative history, on the one hand, and the regulation on the other hand. The regulation meets the Supreme Court's test for validity. See Commissioner v. Portland Cement Co. of Utah, supra;Jewett v. Commissioner, 455 U.S. 305">455 U.S. 305, 318 (1982); Durbin Paper Stock Co. v. Commissioner, 80 T.C. 252">80 T.C. 252 (1983); Friedman Foundation, Inc. v. Commissioner, 71 T.C. 40">71 T.C. 40 (1978). Compare Commissioner v. Engle, 464 U.S. 206">464 U.S. 206, 224-225 (1984), with Bob Jones University v. United States, 461 U.S. 574">461 U.S. 574, 596-597 (1983), as to the deference due to proposed regulations, and the deference due to long-standing administrative 104 interpretations. 17 We hold for respondent on this issue.II. Business ExpensesPetitioner maintains that the value of his legal services rendered in the divorce proceeding for which he received no compensation is deductible as a business expense under section 162, since the resultant publicity helped his law practice and services were performed for this purpose. 18 He argues that performance of assigned pro bono publico work, 105 820 such as the divorce proceeding, is a requirement of his trade or business, and so he is entitled to deduct the fair market value of his services in performing this work. Also, he maintains that section 162(b) is the specific statutory authority for the claimed deduction. Respondent argues that section 162 provides no ground for allowing a deduction for the value of personal services rendered. We agree with respondent.Deductions are allowed under section 162(a)19 for the taxpayer's ordinary and necessary trade or business expenses. In the instant case, petitioner deducted $ 12,054.36 as the uncompensated value of his services rendered in the divorce proceeding. Since the expenditure of petitioner's labor does not constitute petitioner's payment 20 of a deductible business expense (e.g., Maniscalco v. Commissioner, 632 F.2d 6">632 F.2d 6 (6th Cir. 1980), affg. a Memorandum 106 Opinion of this Court; 21Rink v. Commissioner, 51 T.C. 746">51 T.C. 746, 753 (1969)), petitioner is not allowed a deduction under section 162(a).Petitioner's reliance on section 162(b)22 and on our opinion in Marquis v. Commissioner, 49 T.C. 695 (1968), is misplaced. Firstly, the deduction he claims for the value of his services in the divorce case is not allowable under section 162(a), without regard to section 162(b); section 162(b), by its very words, is a disallowance provision (as we put it in Marquis, 49 T.C. at 698-701, section 162(b) is a "limitation" on section 162(a)), and so it cannot operate to revive a deduction that fails the test of section 162(a). Secondly, the deductions claimed, and upheld, in Marquis were for the amounts of the "cash disbursements" (49 T.C. at 697) made by the taxpayer therein; 107 in contrast, petitioner seeks deductions herein for the value of his services. We hold for respondent on this issue. 23821 III. Alimony PaymentsPetitioner contends that he is entitled to deduct his payments to Lucille, made in 1972 and through January 108 23, 1973, as alimony because the amounts were paid pursuant to a written separation agreement. Alternatively, petitioner maintains that he made these payments pursuant to a legal obligation incurred by him under a written instrument incident to the divorce. Respondent maintains that since (1) none of the payments was made pursuant to a court order or decree of support and (2) no written separation agreement existed for the period in question, it follows that no alimony deduction is allowable.We agree with respondent.Section 215(a)24109 provides a deduction for amounts paid by a taxpayer to a former spouse if the former spouse is required to include these amounts in gross income under section 71. Under section 71(a), 25110 the former spouse's gross income includes 822 periodic payments received from the taxpayer (1) under a decree of divorce or separate maintenance, (2) under a written separation agreement, or (3) under a decree for support; in order for petitioner to succeed, he must show that the payments in dispute fall into one of these three categories. Section 71(a)(1) applies to payments "received after" a decree of divorce or of separate maintenance. Respondent's concession (see note 8 supra), leaves in dispute only those payments made by petitioner 111 to Lucille up to January 23, 1973. The Circuit Court's decree awarding alimony pendente lite was not made until after that date, according to petitioner's testimony. The Circuit Court's decree of divorce, a mensa et thoro was not made until July 16, 1973. It appears, then, that none of the payments here in dispute was made after a decree of divorce or separate maintenance. Accordingly, none of the payments here in dispute qualifies for inclusion in Lucille's income under section 71(a)(1). It follows that none of the payments here in dispute is deductible by petitioner under section 215(a).There is no evidence that any one of the payments here in dispute was made under a support decree. Accordingly, the amounts of these payments are not includable in Lucille's income under section 71(a)(3), and are not deductible by petitioner under section 215(a).In order to qualify under section 71(a)(2), the payments in dispute must be shown to have been made by petitioner to Lucille under a written separation agreement. The parties have stipulated that "No written separation agreement was entered into between the petitioner and his wife." Evidently, the parties do not regard their stipulation 112 as having foreclosed the question of whether three letters constitute, in the aggregate, a written separation agreement sufficient to satisfy this requirement of the statute.823 Petitioner offered into evidence three letters (see notes 5, 6, & 7 supra), which, he contends, when viewed in the aggregate constitute a written separation agreement. The three letters fail to satisfy the requirements of the statute, which (1) requires that there be "a written separation agreement" and (2) applies to "periodic payments * * * received after such agreement is executed which are made under such agreement".Firstly, the only writing executed on Lucille's behalf -- the August 18, 1972, letter (note 7 supra) -- is a complaint about the inadequacy of the rate of payment and not an agreement to the rate of payment. Thus, the record in the instant case does not include any writing (or set of writings) that constitutes an agreement between Lucille and petitioner. Estate of Hill v. Commissioner, 59 T.C. 846">59 T.C. 846, 856-857 (1973). An oral agreement is insufficient. See Gordon v. Commissioner, 70 T.C. 525">70 T.C. 525, 529 (1978), interpreting similar language in section 71(a)(1). In Prince v. Commissioner, 66 T.C. 1058">66 T.C. 1058 (1976), 113 attorneys for the husband and wife reached an agreement in the course of a divorce trial and recited that agreement into that divorce case's record as their joint stipulation. We concluded that the certified transcript of that stipulation constituted a written agreement. The record in the instant case falls far short of showing such a written agreement. The most that can be said about the three letters is that they are evidence of a course of action; petitioner determined that he ought to make payments of $ 125 per week to Lucille, and he made these payments for 28 weeks.Secondly, the course of weekly payments must have begun no later than June 1972. The August 18, 1972, letter refers to such payments already having been made. Payments made before the written agreement was executed are not eligible for treatment under section 71(a)(2). Even if a written agreement ultimately was executed, nothing in the record would permit us to reach a conclusion that any of petitioner's disputed payments to Lucille were made after any such agreement was executed. See Gordon v. Commissioner, 70 T.C. at 530.We conclude, and we have found, that petitioner's disputed payments to Lucille were not 114 paid under a written separation agreement.824 Petitioner relies on a statement in Lerner v. Commissioner, 195 F.2d 296">195 F.2d 296, 298 (2d Cir. 1952), revg. 15 T.C. 379">15 T.C. 379 (1950), in which the Court of Appeals for the Second Circuit interpreted the statutory phrase "written instrument incident to such divorce". The instrument in Lerner was an agreement between Lerner and his wife describing in great detail the rate of the payments, the purpose of the payments, and even the mechanical procedure of the payments. The dispute resolved by the Court of Appeals was whether the written instrument was incident to the divorce, not whether there was a written instrument.Petitioner also relies on our opinion in Cramer v. Commissioner, 36 T.C. 1136">36 T.C. 1136 (1961), citing Lerner with approval. In Cramer we found that there was a specific instrument that was negotiated, revised, and executed by Cramer and her husband. In Cramer, also, the question presented was whether the written instrument was incident to the divorce, not whether there was a written instrument.Both Cramer and Lerner are distinguishable from the instant case, as to the factual setting and also as to the legal issue that those opinions analyze.We hold 115 for respondent on this issue.IV. Maintenance ExpensesPetitioner contends that he is entitled to deduct his maintenance expenses for the house under section 212 because he held the house for the production of income. He maintains that the jointly owned house was converted by his wife to rental property when she vacated the premises in January 1973 and the property remained rented to a tenant. Therefore, petitioner argues, although the tenant vacated the premises sometime after June 1974, petitioner never converted the property back to a personal residence and he assumed the maintenance of property held for the production of income.Respondent agrees that, if we were to conclude that petitioner held the house for the production of income, then petitioner would be entitled to a deduction for the maintenance expenses. However, respondent argues, since petitioner neither received any income from the rental property nor entered into any of the business arrangements, the house had never been converted to rental property for petitioner's tax purposes. Also, 825 respondent contends that petitioner did not maintain the house for postconversion appreciation purposes and, therefore, petitioner is 116 not entitled to deduct the maintenance expenses of the property.We agree with respondent.Under section 212(2),there shall be allowed as a deduction all the ordinary and necessary expenses paid or incurred during the taxable year -- * * * (2) for the management, conservation, or maintenance of property held for the production of income; * Whether an individual holds property for the production of income is a question of fact, and depends on the purpose or intention of the individual, as gleaned from all of the facts and circumstances of the particular case. Several factors are to be considered in determining this intention. Where the property is the individual's residence, these factors include (1) the length of time the house was occupied by the individual as his residence before placing it on the market for sale; (2) whether the individual permanently abandoned all further personal use of the house; (3) the character of the property (recreational or otherwise); (4) offers to rent; and (5) offers to sell. In addition, if the individual offers his house only for sale, then in order to be treated as holding the property for the production of income he must intend to realize gain 117 representing postconversion appreciation in the fair market value of the property. Meredith v. Commissioner, 65 T.C. 34">65 T.C. 34, 41-42 (1975), and cases cited therein.The burden of proof is on petitioner (see, e.g., Welch v. Helvering, 290 U.S. 111">290 U.S. 111, 115 (1933); Meredith v. Commissioner, 65 T.C. at 41; Rule 142(a), Tax Court Rules of Practice and Procedure) to show that he held the house for the production of income.When petitioner vacated the premises, in April 1972, the house was left for Lucille's use, at least for the time being. (For circumstances under which petitioner might have been allowed alimony deductions on account of his expenditures for Lucille's benefit, see J.E. Maule, Taxation of Residence Transactions 437-441 (1985).) Although the evidence is sparse, it 826 seems clear that Lucille was to bear the effect of any expenses and was to be entitled to receive any income to be derived from the house. Petitioner did not include in income any rental income from the house for any of the years in question. There is no basis in the record to attribute to petitioner any of Lucille's activities in renting out the house. 26As in Meredith118 (65 T.C. at 40-41), we conclude that petitioner abandoned his personal use of the house before he paid the expenses for which he seeks a deduction. However, during the time petitioner paid these expenses, he held the house only for sale as soon as the divorce proceeding was concluded. In fact, the house was sold in 1975, shortly after the final divorce decree was enrolled. We have no evidence that petitioner held the house for appreciation purposes after he began to assume the burden of maintenance expenses. Thus, as in Meredith, petitioner never converted the property to a section 212(2) purpose. We conclude that petitioner did not hold the house for the production of income when the expenses were paid.We hold for respondent on this issue.V. Section 6653(a) -- Negligence, Etc.An addition to tax under section 6653(a)27119 is imposed if any part of any underpayment of tax is due to negligence or intentional disregard of rules or regulations. Petitioner has the burden of proving error in respondent's determinations that this addition to tax should be imposed against him. Bixby v. Commissioner, 58 T.C. 757">58 T.C. 757, 791-792 (1972). Although the instant case presents many issues, the only one giving rise to respondent's determination of the addition to tax under section 6653(a) is the charitable contributions issue (issue I supra).827 In claiming deductions for the fair market value of his services, petitioner intentionally disregarded section 1.170A-1(g), Income Tax Regs., because he believed the regulation to be invalid. 120 We have concluded that his belief was incorrect. We have pointed out (note 14 supra) that a number of the opinions on which he relies -- several of which opinions were issued before petitioner filed some or all of the tax returns for the years in issue -- indicate that section 170(e), as enacted by the Tax Reform Act of 1969, would have eliminated any deduction in petitioner's case even if the regulation was invalid. We conclude that petitioner had no reasonable basis for claiming these deductions in the teeth of both the regulation and the statute. 28 We hold for respondent on this issue.To take account of respondent's concessions,Decision will be entered under Rule 155. Footnotes1. Unless indicated otherwise, all section and chapter references are to sections and chapters of the Internal Revenue Code of 1954 as in effect for the years in issue.↩2. Of these amounts, self-employment taxes under chapter 2 are $ 573.19 for 1972, $ 535.50 for 1973, and $ 532.03 for 1974; the remaining amounts are chapter 1 income taxes.↩3. The medical expense adjustment as to 1974, and the self-employment taxes as to 1972, 1973, and 1974, are derivative and depend on settled issues and our resolution of issues in dispute.↩4. Oakland is the county seat of Garrett County.↩5. The letter states that "However, naturally, Mr. Grant will continue to provide Mrs. Grant with direct support monies for herself and the child."↩6. The letter states that "After the hearing, I would like to be in a position to get something established with him [the judge in the divorce proceeding] insofar as what amount of support you would be providing in cash form to your wife."↩7. The letter states that "As you know, Mrs. Grant has been receiving weekly, a support check in the amount of $ 125.00. Her experience to date indicates that this is inadequate for her needs and that of Rebecca Linn. Essentially, this is true because Mr. Grant's budget overlooks some major areas of expense and underestimates others."↩8. Respondent concedes that these payments are deductible as alimony in 1973.↩9. SEC. 170. CHARITABLE, ETC., CONTRIBUTIONS AND GIFTS.(a) Allowance of Deduction. -- (1) General rule. -- There shall be allowed as a deduction any charitable contribution (as defined in subsection (c)) payment of which is made within the taxable year. A charitable contribution shall be allowable as a deduction only if verified under regulations prescribed by the Secretary or his delegate. * * (c) Charitable Contribution Defined. -- For purposes of this section, the term "charitable contribution" means a contribution or gift to or for the use of --[The subsequent amendment of this provision by sec. 1906(b)(13)[sic](A) of the Tax Reform Act of 1976, Pub. L. 94-455, 90 Stat. 1520, 1834, does not affect the instant case.]↩10. ↩Oakland governmentOther donees1972$ 3,042$ 1,12619731,440 3,478 19741,800 11. Sec. 1.170A-1(g), Income Tax Regs., provides as follows:(g) Contributions of services. No deduction is allowable under section 170 for a contribution of services. However, unreimbursed expenditures made incident to the rendition of services to an organization contributions to which are deductible may constitute a deductible contribution. For example, the cost of a uniform without general utility which is required to be worn in performing donated services is deductible. Similarly, out-of-pocket transportation expenses necessarily incurred in performing donated services are deductible. Reasonable expenditures for meals and lodging necessarily incurred while away from home in the course of performing donated services also are deductible. For the purposes of this paragraph, the phrase "while away from home" has the same meaning as that phrase is used for purposes of section 162↩ and the regulations thereunder.12. Petitioner claimed other charitable contribution deductions, evidently for cash or checks; these deductions have not been challenged by respondent.↩13. As to our obligations regarding line-drawing, see, e.g., Harrison v. Schaffner, 312 U.S. 579">312 U.S. 579, 583-584↩ (1941).14. We note that, in deciding Goss v. Commissioner, 59 T.C. 594">59 T.C. 594 (1973), in part for the taxpayers therein, the Court opined that amendments to secs. 170(e) and 1221 by the Tax Reform Act of 1969 probably would require a different result as to contributions made after July 25, 1969. 59 T.C. at 596 n. 2. A similar caution appears in other cases petitioner relies on. See Holmes v. Commissioner, 57 T.C. 430">57 T.C. 430, 438-439 (1971); Mauldin v. Commissioner, 64 T.C. 749">64 T.C. 749, 758 n. 3 (1973); Jarre v. Commissioner, 65 T.C. 183">65 T.C. 183, 184↩ n. 2 (1975). In the instant case, the contributions are claimed for 1972, 1973, and 1974.15. E.g., property (such as that prepared by a lawyer occupying public office) of the sort that gave rise to the provisions of secs. 201(g)(1)(B) and 514 of the Tax Reform Act of 1969, Pub. L. 91-172, 83 Stat. 487, 564, 643.↩16. Sec. 170(e) provides, in pertinent part, as follows:SEC. 170 CHARITABLE, ETC., CONTRIBUTIONS AND GIFTS.(e) Certain Contributions of Ordinary Income and Capital Gain Property. -- (1) General rule. -- The amount of any charitable contribution of property otherwise taken into account under this section shall be reduced by * * (A) the amount of gain which would not have been long-term capital gain if the property contributed had been sold by the taxpayer at its fair market value (determined at the time of such contribution) * * ↩17. In O.D. 712, 3 C.B. 188 (1920), respondent ruled that "The value of services rendered to charitable institutions may not be allowed as a deduction under * * [sec. 214(a)11 of the Revenue Act of 1918]." After the enactment of the Internal Revenue Code of 1954, this position was reflected in sec. 1.170-2(a)(2), Income Tax Regs., as follows: "No deduction is allowable for contribution of services." This regulation was adopted Mar. 13, 1958, by T.D. 6285, 1 C.B. 127">1958-1 C.B. 127, 134. Sec. 170 was substantially revised by sec. 201(a) of the Tax Reform Act of 1969 (Pub. L. 91-172, 83 Stat. 487, 549), without any indication that the Congress disapproved of the regulation. The present regulation (note 11 supra) was adopted Oct. 3, 1972, by T.D. 7207, 2 C.B. 106">1972-2 C.B. 106↩, 118.18. On his 1974 tax return, petitioner deducted the value of his uncompensated services as a business bad debt. Evidently he has abandoned this contention, consistent with long-established law that a bad debt deduction is not to exceed the taxpayer's basis in the debt. E.g., Swenson v. Commissioner, 43 T.C. 897">43 T.C. 897, 899↩ (1965).19. Sec. 162(a) provides, in relevant part, as follows:SEC. 162. TRADE OR BUSINESS EXPENSES.(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 trade or business, * * ↩20. The parties have stipulated, and we have found, that petitioner was a cash basis taxpayer.↩21. T.C. Memo. 1978-274↩.22. SEC. 162. TRADE OR BUSINESS EXPENSES.(b) Charitable Contributions and Gifts Excepted. -- No deduction shall be allowed under subsection (a) for any contribution or gift which would be allowable as a deduction under section 170↩ were it not for the percentage limitations, the dollar limitations or the requirements as to the time of payment, set forth in such section.23. On his 1974 tax return, petitioner computed the deduction dealt with in this issue, as follows:444.4 hrs X 30.00/hr=$ 13,332.00Court costs advanced:704.6714,036.67Paid1,982.3112,054.36In the notice of deficiency, respondent disallowed $ 12,054.36. In effect, petitioner has been permitted to deduct the $ 1,277.64 amount by which the payment to petitioner exceeded his costs. Respondent does not explain why this $ 1,277.64 should be treated differently from the $ 12,054.36 which he disallows. Under the circumstances, we leave the parties where we find them as to this $ 1,277.64.↩24. SEC. 215. ALIMONY, ETC., PAYMENTS.(a) General Rule. -- In the case of a husband described in section 71, there shall be allowed as a deduction amounts includible under section 71 in the gross income of his wife, payment of which is made within the husband's taxable year. * *[The subsequent amendment of this provision by section 422(b) of the Deficit Reduction Act of 1984, Pub. L. 98-369, 98 Stat. 494, 797, does not affect the instant case.]↩25. SEC. 71. ALIMONY AND SEPARATE MAINTENANCE PAYMENTS.(a) General Rule. -- (1) Decree of divorce or separate maintenance. -- If a wife is divorced or legally separated from her husband under a decree of divorce or of separate maintenance, the wife's gross income includes periodic payments (whether or not made at regular intervals) received after such decree in discharge of (or attributable to property transferred, in trust or otherwise, in discharge of) a legal obligation which, because of the marital or family relationship, is imposed on or incurred by the husband under the decree or under a written instrument incident to such divorce or separation.(2) Written separation agreement. -- If a wife is separated from her husband and there is a written separation agreement executed after the date of the enactment of this title, the wife's gross income includes periodic payments (whether or not made at regular intervals) received after such agreement is executed which are made under such agreement and because of the marital or family relationship (or which are attributable to property transferred, in trust or otherwise, under such agreement and because of such relationship). This paragraph shall not apply if the husband and wife make a single return jointly.(3) Decree for support. -- If a wife is separated from her husband, the wife's gross income includes periodic payments (whether or not made at regular intervals) received by her after the date of the enactment of this title from her husband under a decree entered after March 1, 1954, requiring the husband to make the payments for her support or maintenance. This paragraph shall not apply if the husband and wife make a single return jointly.↩[The subsequent amendment of this provision by section 422(a) of the Deficit Reduction Act of 1984, Pub. L. 98-369, 98 Stat. 494, 795, does not affect the instant case.]26. Cf. Lebeau v. Commissioner, T.C. Memo. 1980-201↩.27. 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 underpayment.[The subsequent amendments of this provision (by sec. 101(f)(8) of the Crude Oil Windfall Profit Tax Act of 1980, Pub. L. 96-223, 94 Stat. 229, 253, by sec. 722(b)(1) of the Economic Recovery Tax Act of 1981, Pub. L. 97-34, 95 Stat. 172, 342, and by sec. 107(a)(3) of the Technical Corrections Act of 1982, Pub. L. 97-448, 96 Stat. 2365, 2391) do not affect the instant case.]↩28. We leave to another day the applicability of sec. 6653(a) where the taxpayer has a reasonable basis for his position, in light of Druker v. Commissioner, 697 F.2d 46">697 F.2d 46, 52-56 (2d Cir. 1982), revg. in part 77 T.C. 867">77 T.C. 867, 874-876↩ (1981).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621630/	HENRY J. LANGER AND PATRICIA LANGER, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent; I CARE, INC., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentLanger v. CommissionerDocket Nos. 23310-87, 6687-88United States Tax CourtT.C. Memo 1990-268; 1990 Tax Ct. Memo LEXIS 287; 59 T.C.M. (CCH) 740; T.C.M. (RIA) 90268; May 30, 1990, Filed 287 Decisions will be entered under Rule 155. Thomas E. Brever, for the petitioners. Albert B. Kerkhove, for the respondent. CLAPP, Judge. CLAPP1009 MEMORANDUM FINDINGS OF FACT AND OPINION Respondent determined the following deficiencies in and additions to petitioners' Federal income taxes: Henry J. and Patricia K. Langer -- Docket No. 23310-87Additions to tax under sectionYearDeficiency6653(a)(1)6653(a)(2)66611983$ 7,984$ 399$ 1,613I Care, Inc. -- Docket No. 6687-88Additions to tax under sectionYearDeficiency6621(d)6651(a)6653(a)(1)6653(a)(2)665966611984$ 42,419applicable$ 2,121$ 2,121$ 6,332$ 5,328 After mutual concessions, the issues relating to the corporate petitioner are (1) whether it overstated a rent deduction; (2) whether it is allowed deductions related to the purchase of a van; (3) whether it is allowed a deduction for fuel used in the van; (4) whether it is allowed deductions for travel and entertainment; (5) whether it is liable for an addition to tax for failure to file a timely return; (6) whether it is liable for an addition to tax for negligence; (7) whether it is liable for an addition to 288 tax for a substantial underpayment; and (8) whether it is liable for the increased rate of interest under section 6621(c). The issues relating to the individual petitioners are (1) whether they are allowed an investment tax credit and deductions for certain partnership expenses; (2) whether they are allowed deductions for certain travel expenses; (3) whether they are allowed a home office deduction for the use of half of their residence in a piano teaching business; (4) whether they are allowed a deduction for noncash charitable contributions; (5) and whether they are liable for an addition to tax for negligence. Petitioners bear the burden of proof on all issues. Rule 142(a). Unless otherwise noted, all section references are to the Internal Revenue Code for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure. We incorporate by reference the stipulation of facts and attached exhibits. All petitioners resided in or were located in Minnesota when they filed their petitions. Our findings of fact will be combined with our opinion. A. The corporationI Care was formed as a partnership in 1982 by petitioner Patricia Langer (Mrs. Langer), 289 Donna Campbell (Campbell), and Anne Marie Pierce (Pierce). All three are sisters. I Care designs and distributes stationery, greeting cards, and related items. On January 1, 1984, the partnership incorporated as petitioner I Care, Inc. (the corporation), a calendar year accrual taxpayer whose shareholders were Mrs. Langer, Campbell, and Pierce. Campbell owned 51 percent of the corporation's stock, Mrs. Langer owned 39 percent, and Pierce owned 10 percent. In 1984, the corporation had gross receipts of over $ 430,000. Campbell is the corporation's president, artist, designer, and supervisor of production and shipping. Mrs. Langer is the corporation's vice president and marketing director. Neither Campbell nor Mrs. Langer received any payment designated as salary during 1982, 1983, or 1984. Petitioner Henry J. Langer (Mr. Langer) is an Internal Revenue Service (IRS) revenue agent. During the years in issue, he assisted with grand jury matters and the Special Enforcement Program. Mr. Langer has never been a partner, shareholder, or employee of I Care. However, he has been informally involved in the business and has maintained its books and records. He prepared the corporation's 290 1984 income tax return. 1. Fair rental values of residencesIn 1984, the corporation used approximately 40 percent of the Campbell residence for corporate activities such as assembling and storing cards. In addition, the corporation used a portion of the Langers' residences (the Langers moved during the year) for corporate activities. In late 1983, Campbell told Mr. Langer that she thought that the business should start paying the Langers for the space used in their residence. She asked Mr. Langer what the business should pay, and he suggested a range from $ 2,000 to $ 4,000 per month. In 1984, the corporation paid $ 30,000 to both Mrs. Langer and Campbell, with Campbell reporting the payment as rent for the corporation's use of her residence and the Langers reporting the payment as rent for the corporation's use of their 1010 residence and computer. Respondent disallowed $ 47,325 of the corporation's $ 60,000 rent deduction, allowing only $ 4,203 for the Campbell residence, $ 806 for the old Langer residence, $ 1,330 for the new Langer residence, and $ 6,336 for the Langer computer. Respondent presented an expert report that arrived at similar rental values. We believe that $ 60,000 291 was an excessive rental for the corporation's use of the computer and two residences, especially since the Campbell residence was sold in 1985 for only $ 77,000. We conclude, however, that any amount not deductible as rent is deductible as compensation to Campbell and Mrs. Langer for past and present services. The corporation's earnings were due to the efforts of its employees, so it is entirely appropriate for the corporation to make substantial payments to its employees. See Dahlem Foundation, Inc. v. Commissioner, 54 T.C. 1566">54 T.C. 1566, 1578-1580 (1970). Accordingly, the corporation may deduct the entire $ 60,000 payment. 2. Van purchaseIn 1984, the corporation took various deductions relating to the purchase of a 1984 Plymouth van. These deductions consisted of a $ 2,373 depreciation deduction, a $ 5,000 deduction under section 179, and a $ 2,102 interest deduction. All documents relating to the van were in Campbell's name. These documents included the contract, the Minnesota certificate of title, the credit application, the credit life insurance, and the vehicle service contract. When the van was damaged in an accident, Campbell sent the financing bank a note asking it to endorse 292 and return the insurance check to her because the check was "for repairing my van." The only written evidence that the van was owned by the corporation was a corporate balance sheet prepared by Mr. Langer for the period ending September 30, 1984 which listed the van as a corporate asset. However, when Mr. Langer prepared the balance sheet he did not know that the van was titled in Campbell's name. There is no evidence that the corporation paid for the van or that Campbell ever held herself out as an agent of the corporation regarding the van. The Langers and Campbell testified that the van was purchased for the corporation, that it was used extensively in the corporate business, that any personal use was incidental, and that the titling in Campbell's name was a mere oversight. Mrs. Langer testified that she understood the van to be owned by the corporation, and that employees who drove the van referred to it as the company car. Campbell testified that she essentially thinks of herself and the corporation as the same thing, and seldom distinguishes between the two. Respondent asserts that the corporation is not entitled to any of the deductions relating to the van because the van 293 was not owned by the corporation. The corporation has not carried its burden of proof on this issue, and accordingly the corporation is not entitled to the deductions. 3. Van fuelDuring 1984, the corporation also took a $ 785 deduction for fuel used in the van. The corporation presented no substantiation for this figure other than a schedule of miles driven. It also did not present any evidence that the fuel was paid for by the corporation rather than by Campbell. Accordingly, this deduction is disallowed. 4. Travel and trade showsIn 1984, Campbell and three other family members took a 1-week family vacation to Disney World. On its 1984 return, the corporation deducted $ 520 for expenses related to this trip. The deduction consisted of $ 245 for airfare, $ 175 for a hotel, and $ 100 for miscellaneous expenses. Section 274(d) provides that traveling expenses such as these may not be deducted unless the taxpayer substantiates them by adequate records or by sufficient evidence corroborating his own statement. Sec. 274(d). The only evidence regarding the Disney World expenses is a note from Campbell to Mr. Langer reading "Henry -- My portion of trip to Florida -- plane fare 294 245; hotel 175; expenses 100," and testimony that Campbell conducted business on parts of 2 days. This evidence does not satisfy the requirements of section 274. See sec. 1.274-5(b) and (c), Income Tax Regs. Accordingly, the corporation is not allowed the $ 520 deduction. In 1984, Campbell and other corporate employees attended a trade show in New York. At the show, the corporation introduced new cards for Christmas and attempted to acquire new accounts. While in New York, Campbell purchased tickets to various Broadway shows for herself, Mrs. Langer, and an employee. No tickets were given to customers or potential customers. The corporation deducted the $ 720 cost of these tickets. Receipts for all these expenditures were introduced into evidence. We first conclude that the $ 240 expense allocable to the employee is deductible under section 162 and is not subject to section 274(a) because it was a recreational expense for an employee within the meaning of section 274(e)(5). See American Business Service Corp. v. Commissioner, 93 T.C. 449">93 T.C. 449 (1989). Section 274(e)(5) does not apply to either Campbell or Mrs. Langer, however, because each owns at least 10 percent of the corporation's 295 stock. Accordingly, the remaining $ 480 is deductible only if the requirements of section 274(a)(1)(A) are satisfied. One requirement 1011 of that section is that the entertainment must be associated with the active conduct of the corporation's trade or business. This requirement will be satisfied if the corporation establishes a clear business purpose in making the expenditure. Sec. 1.274-2(d)(2). We believe that Campbell accurately described the expenditures when she testified that the entertainment "was like our treat. This was a treat to us and those of us who worked in the booth to relax at night." The entertainment did not have a clear business purpose, and accordingly we disallow the $ 480 deduction. 5. Timely returnRespondent determined that petitioner is liable under section 6651(a) for an addition to tax for late filing of its 1984 corporate income tax return, which was due on March 15, 1985. The corporation's return is dated March 15, 1985, was mailed in an envelope postmarked on March 18, 1985, and was filed on March 20, 1985. Section 6651(a) provides for an addition to tax in case of a failure to file a return on the prescribed date "unless it is shown that such failure 296 is due to reasonable cause and not due to willful neglect * ." Additions to tax under section 6651(a) are presumed correct and generally are upheld, unless the taxpayer presents evidence controverting their applicability. Foy v. Commissioner, 84 T.C. 50">84 T.C. 50, 75 (1985). Mr. Langer testified that he placed the return in a curbside mailbox between 4:30 and 5 p.m. on Friday, March 15, 1985. Mail at this box was scheduled to be collected on weekdays at 4:25 p.m., 5 p.m., and 6:30 p.m. As evidence of the timely mailing, Mr. Langer testified that he recalled that he prepared and mailed the return on a day off from work, and that his appointment book indicates he did not work on March 15. Mrs. Langer testified that Mr. Langer mailed the return immediately after she signed it on March 15. Mrs. Langer noted that Mr. Langer mailed a registration form for a music exam for her piano students at the same time that he mailed the return. The registration form required a March 15 postmark, and Mrs. Langer had a special interest in seeing that it was mailed on time so her students could take the exam. The registration form, like the tax return, was not postmarked by the March 15 deadline, so Mrs. 297 Langer's students were unable to take the exam as they had planned. Respondent called as a witness a postal supervisor who was in charge of cancelling mail. He testified that the corporation's tax return would have been postmarked on March 15 if Mr. Langer had mailed it on the afternoon of that date. He also testified that the return would have been postmarked on March 18 if it had been mailed after 3 p.m. on Sunday, March 17, and that the return normally would be in transit for 2 days. We are confident that Mrs. Langer accurately remembers the circumstances under which the music exam registration was mailed because doubtless she was not pleased when she learned that her students could not take the exam. Since the tax return also had a March 15 deadline, we believe it was mailed at the same time. Accordingly, we conclude that the failure of the return to be filed on time was "due to reasonable cause and not due to willful neglect" and that the corporate petitioner is not liable for the addition to tax for late filing. Ferguson v. Commissioner, 14 T.C. 846">14 T.C. 846, 850 (1950); Swope v. Commissioner, T.C. Memo 1989-414">T.C. Memo. 1989-414. 6. NegligenceNegligence under section 6653(a) is the lack of due 298 care or failure to act as a reasonable person would act under the same circumstances where there is a legal duty to act. Neely v. Commissioner, 85 T.C. 934">85 T.C. 934, 947 (1985). At trial it was apparent that Mrs. Langer and Campbell were unsophisticated and had little, if any, business experience. A reasonable person under such circumstances likely would entrust preparation of the corporate tax return to someone, such as Mr. Langer, who could be expected to correctly report the corporation's income. Accordingly, the corporation is not liable for the addition to tax for negligence. See Kennedy v. Commissioner, T.C. Memo. 1987-430; Golden Nugget, Inc. v. Commissioner, T.C. Memo. 1969-149. 7. Substantial understatementSection 6661 provides for an addition to tax in the case of a substantial understatement of income tax. A substantial understatement exists if the understatement of income tax exceeds the greater of 10 percent of the tax required to be shown on the return, or $ 10,000. Sec. 6661(b)(1). When making the Rule 155 computations, the parties will have to determine whether the corporation has a substantial understatement of income tax. For this purpose, the parties will take into 299 account not only our disallowance of deductions relating to the van, the Disney World trip, and the Broadway shows, but also the corporation's concessions. If the corporation does have a substantial understatement, it may escape liability under one of the exceptions of section 6661(b)(2)(B). However, the first exception does not apply because there neither is nor was substantial authority for the corporation's disallowed deductions. Sec. 6661(b)(2)(B)(i). Nor does the second exception apply because the corporation disclosed 1012 no relevant facts in the return or in a statement attached to the return. Sec. 6661(b)(2)(B)(ii). Accordingly, the corporation does not escape liability under the exceptions of section 6661(b)2)(B). 8. Section 6621(c)Section 6621(c) imposes an increased rate of interest on an underpayment in excess of $ 1,000 which is attributable to tax-motivated transactions. Tax-motivated transactions include "any use of an accounting method specified in regulations prescribed by the Secretary as a use which may result in a substantial distortion of income for any period * ." Sec. 6621(c)(3)(A)(iv). Such an accounting method includes any deduction disallowed for 300 any period under section 267(a). Sec. 301.6621-2T, A-3(6), Temp. Proced. & Admin. Regs., 49 Fed. Reg. 59394 (Dec. 28, 1984). The corporation concedes that section 267 disallows a $ 36,000 deduction for salaries to shareholders which were accrued in 1984 but not paid until 1985. Accordingly, section 6621(c) applies to the underpayment attributable to this item. Respondent also argues that the excess rental payments on the residences were a sham or fraudulent transaction under section 6621(c)(3)(A)(v). However, we have characterized those payments as compensation, and the rentals of the residences were neither shams nor fraudulent. B. The Langers1. Partnership expenses and investment tax creditOn their 1983 return, the Langers deducted $ 6,004.29 as partnership expenses paid by a partner. In the notice of deficiency, respondent determined that only $ 3,296 of this amount is deductible, with $ 2,708 disallowed under sections 274 and 162. In their opening brief, the Langers assert that respondent incorrectly disallowed $ 2,284 of $ 2,710 of total claimed expenses incurred by Mr. Langer on partnership business. The $ 2,710 figure apparently refers to the same item as the $ 2,708 301 figure of respondent, with the difference due to rounding errors. We cannot find the $ 2,284 figure in the notice of deficiency. In any event, the Langers' argument has no merit. Section 162 allows a deduction for ordinary and necessary expenses incurred in carrying on a trade or business. Mr. Langer was neither a partner nor an employee of the partnership during 1983, so section 162 does not permit the deduction of his expenses relating to the partnership. Accordingly, the $ 2,708 deduction is disallowed. Respondent asserts in his opening brief that the remaining $ 3,296 should be disallowed on the ground this amount was a partnership expense paid by a partner. Respondent had not previously asserted the disallowance of this amount, so we allow the $ 3,296 deduction. The Langers also took a $ 1,046.56 investment tax credit. Neither the return nor the notice of deficiency indicates the property to which this credit pertained. The briefs also are unclear, though it appears that the credit was taken with respect to a van used by Mrs. Langer in the partnership business. It goes without saying that petitioners have failed to carry their burden of proof on this issue. 2. Travel expense302 On the Langers' 1983 return a $ 1,671.46 deduction was claimed for Mr. Langer's travel expenses. This deduction was calculated as follows: Air fares, etc.$ 385.50Meal and lodging expenses897.11Auto expensesGasoline$ 586.69 Other678.25 Total$ 1,264.94 Business Usage71%Allocable expense898.11 Depreciation1,816.59 Total auto expenses2,714.70Total expenses3,997.31Less: Reimbursement2,325.85Net Deduction Claimed$ 1,671.46Mr. Langer testified that he used the 71-percent figure for business usage because he had used the same figure the year before, and "it appeared to me based on the actual expenses that I had probably driven the same amount of miles and used the same percentage." Mr. Langer later reconstructed his auto expenses and concluded that 69 percent of his mileage was business mileage. He based this calculation upon 5,348 miles as an IRS employee, 2,400 miles in the partnership business, and average annual mileage of 11,160. The mileage as an IRS employee is based upon travel vouchers he submitted to the IRS. There is no evidence regarding the source of the 2,400-mile figure. As noted above, Mr. Langer was neither a partner nor an employee of the partnership during 1983, so 303 section 162 does not permit the deduction of his expenses relating to the partnership. Accordingly, the business usage percentage is reduced from 71 percent to 48 percent, and the allocable automobile expense from $ 898.11 to $ 607.17. This reduces the deduction from $ 1,671.46 to $ 1,380.52. We cannot determine from the Langers' return the method Mr. Langer used to calculate his depreciation. However, if he used the 71-percent rather than the 48-percent figure, his allowable depreciation is only $ 1,228.18. This further reduces the deduction from $ 1,380.52 to $ 792.11. 1013 In addition, Mr. Langer must substantiate his traveling expenses. Sec. 274(d). An employee with deductible business expenses in excess of the amount reimbursed must submit a statement as part of his tax return showing all of the information required by section 1.274-5(c), Income Tax Regs.Sec. 1.274-5(e)(2)(iii), Income Tax Regs. Such a statement was not attached to the Langers' return and was not introduced into evidence. In fact, the only evidence regarding the claimed expenses are several travel vouchers, with accompanying receipts, that Mr. Langer presented to the IRS for reimbursement. Many receipts 304 are missing from these vouchers, including receipts for airfares in the amount of $ 385.50 and most of the gasoline expenses in the amount of $ 586.69. Mr. Langer's failure to satisfy the requirements of section 274 requires the disallowance of the deduction for the remaining $ 792.11 of his expenses. 3. Home office deductionMrs. Langer is a long-time piano teacher who teaches approximately 75 students in a portion of the Langers' residence. The Langers on their 1983 return took a $ 5,794.62 home office deduction that was based upon the assumption that approximately 49 percent of the Langers' residence was used for Mrs. Langer's piano teaching business. Mr. Langer arrived at this percentage by taking the total estimated hours of lessons (1,952-1/2) and dividing by 4,000. Respondent determined that only 13 percent of the Langer's residence was exclusively used in the piano teaching business and disallowed $ 4,288 of the deduction. Two rooms in the Langer residence had pianos. One room was the music studio and the other was the living room. Students would come in and warm up at one piano while Mrs. Langer was teaching another student in the other room. There also was a lounge 305 and a game room used by students, and several rooms (including the dining room) where Mrs. Langer would teach music theory. With the exception of the studio, the Langer family would use the other rooms when Mrs. Langer was not holding lessons. Under section 280A(c)(1), the Langers are entitled to a home office deduction only to the extent that the deduction is -- allocable to a portion of the dwelling unit which is exclusively used on a regular basis -- (A) [as] the principal place of business for any trade or business of the taxpayer, (B) as a place of business which is used by patients, clients, or customers in meeting or dealing with the taxpayer in the normal course of his trade or business * * * . The only portion of the Langers' dwelling unit that was exclusively used by Mrs. Langer for piano lessons was the studio. Mrs. Langer used other rooms for lessons, but these rooms also were used by the Langers as living space. Respondent has determined that 13 percent of the Langer residence was exclusively used for piano lessons. The Langers have not presented any evidence to rebut this figure, so $ 4,288 of their deduction is disallowed. 4. Charitable contributionsThe Langers 306 claimed noncash charitable contributions in the amount of $ 2,884. These contributions consisted mostly of old clothes. Mrs. Langer testified that she set the value of the donations according to what the merchandise would cost at a garage sale. She says she computed the value at about a tenth of their value when new. We note that this rather implausibly means that the items would have had an original value of over $ 28,000. Respondent would disallow the entire amount of the noncash charitable contributions. However, it is clear that the Langers made substantial donations, and we hold that the noncash charitable contributions had a value of $ 1,000. 5. NegligenceFinally, respondent determined the section 6653(a) addition to tax for negligence. Negligence under section 6653(a) is the lack of due care or failure to act as a reasonable person would act under the same circumstances where there is a legal duty to act. Neely v. Commissioner, 85 T.C. 934">85 T.C. 934, 947 (1985). Reasonable persons under the Langers' circumstances would either have made an effort to determine how to correctly report their income or would have hired someone to do so. We note, for example, that despite Mr. Langer's 307 background at the IRS he apparently did not bother to look at section 280A to determine the correct manner in which to calculate the home office deduction. His method of using hours spent in the home office has no basis in the law. We also note that Mr. Langer carelessly reported not only the Langers' deductions but also the corporation's. This suggests a pattern of carelessness. Thus, we are not faced with an isolated mistake by someone who made a reasonable attempt to understand the tax law. The Langers are liable for the addition to tax for negligence. Decisions will be entered under Rule 155. Footnotes. 50 percent of the interest due on the deficiency. * Now section 6621(c)↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621633/	SWISS OIL CORPORATION, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Swiss Oil Corp. v. CommissionerDocket Nos. 60177, 61002, 63088, 70998.United States Board of Tax Appeals32 B.T.A. 777; 1935 BTA LEXIS 891; June 14, 1935, Promulgated 891 1. The taxpayer had a contract with the stockholders of a corporation whereby the taxpayer had a right to purchase all of the stock of the corporation, subject to the right of the stockholders to withdraw some of the assets of the corporation. The taxpayer made an initial payment under this contract. The stock was then placed in escrow until the corporation, under the management of the vendor stockholders, had earned and paid as a dividend to the taxpayer a stated amount, which the latter paid over to the vendors as a second payment. The stock was then delivered to the taxpayer, which thereupon caused the corporation to execute to the vendors a mortgage on its properties for the balance of the purchase price. Shortly thereafter the taxpayer liquidated the corporation and acquired all of its assets, except those reserved, and assumed all of its liabilities, including the obligation under the mortgage. Held, that for tax purposes there were two separate transactions - a purchase of stock and a liquidation of the corporation - and the separate transactions may not be treated as constituting but steps in a single transaction whereby the taxpayer purchased the assets of the corporation. 892 Prairie Oil & Gas Co. v. Motter, 66 Fed.(2d) 309, distinguished. 2. Where property is acquired for stock the cost of the property is the fair market value of the stock, and while in some cases, e.g., where a corporation having no assets and no liabilities issues all of its outstanding stock for property, the value of the property is sometimes taken as evidence of the value of the stock paid for it, such rule can not reasonably be applied in cases where a corporation having assets and liabilities and outstanding stock acquires property by issuing additional stock. 3. Although the cost of a contract to purchase property may form part of the cost of the property purchased under the contract, the cost of obtaining cash can not be added to the cost of property purchased with the cash in a separate transaction. 4. In exchange for cash in the amount of $1,750,000 with which to make the initial payment under the contract referred to above (par. 1) the petitioner issued $2,000,000 face value of bonds and $2,000,000 par value of its stock to bankers, and, for the purpose of determining the cost of the stock purchased as stated above (par. 1), it contended that893 it also acquired from the bankers the contract to purchase said stock. The evidence does not warrant a finding that the contract was or was not transferred by the bankers to the petitioner, but, assuming that it was, the evidence shows that the petitioner paid the bankers nothing for the contract, and hence the transaction with the bankers can in no way affect the cost of the stock purchased by the petitioner. 5. The fact that the Commissioner in a prior year denied the petitioner's claim of a deduction for amortization of discount on the bonds issued to the bankers, on the ground that the petitioner's stock and the alleged discount should be capitalized as part of the cost of the stock purchased by the petitioner, does not estop him to deny that the stock and bonds issued to the bankers were a part of the cost of the stock purchased. 6. The taxpayer realized a gain in the liquidation of the corporation whose stock it purchased, measured by the difference between the fair market value of the assets received in the liquidation and the cost of the stock, and it is entitled to depletion deductions based on the stipulated value of the depletable properties on the date they were894 received in the liquidation. John E. McClure, Esq., and R. N. Miller, Esq., for the petitioner. H. A. Cox, Esq., for the respondent. MURDOCK 778 The following table shows the deficiencies determined by the Commissioner and the docket number under which each deficiency is contested: Docket No.YearDeficiency601771926$18,827.8561002192777,136.36Do192859,018.1863088192917,148.9770998193026,333.31779 Several of the issues raised by the pleadings have been settled by stipulation and need no discussion herein. Two questions are presented for decision by the Board. The petitioner assigns as error the action of the Commissioner in failing to allow, for the years 1926 to 1930, inclusive, prior deductions for depletion on oil and gas leases which it had acquired in 1926 from Union Gas & Oil Co. The respondent claims an increased deficiency for 1926 on the ground that he erred in failing to include in the petitioner's income for 1926 a gain of $2,906,043.32 which the petitioner realized in that year from the liquidation of the Union Gas & Oil Co.FINDINGS OF FACT. The petitioner895 was organized in 1918 under the laws of Kentucky. It was engaged in the business of producing, refining, and selling petroleum and its products. Thomas A. Combs, a director and the president of the petitioner, was authorized in January 1924 to negotiate on behalf of the petitioner for the purchase of the properties or the capital stock of the Union Gas & Oil Co. (hereinafter referred to as Union). Union was organized in 1917 under the laws of Indiana. Its authorized capital stock consisted of 10,000 $25 par value shares. Combs and his agent, Thraves, in their own names, but acting as agents for the petitioner, entered into a written contract with the owners of the stock of Union. This contract was dated July 29, 1924. The stockholders of Union by this contract gave to Combs and Thraves an option to purchase the entire capital stock of Union within 90 days. The sellers were to deposit the stock in escrow if and when the option was exercised and the purchasers were to pay at that time $1,500,000 in cash. The sellers were to continue to operate Union until they had received net proceeds from the conduct of its business amounting to $1,000,000, with 6 percent interest thereon. 896 As soon as the sellers had received that sum, the escrow agent was to deliver the stock to Combs and Thraves, or their assigns, at which time the purchasers' title to the stock was to become absolute and the purchasers, at the same time, were to cause Union to execute and deliver to a trustee for the sellers its promissory notes amounting to $2,500,000, secured by a first mortgage on its properties. The petitioner was also to pay, out of the earnings of Union, interest on $2,500,000 from the date of the cash payment of $1,500,000 until the date of execution of the mortgage notes. Combs and Thraves assigned their interest in the option to the petitioner within a few days after July 29, 1924. The petitioner made numerous unsuccessful efforts to raise the funds necessary 780 to enable it to exercise the option and purchase the stock. During this time Combs obtained several extensions of the opinion. The last extension was to January 12, 1925. In connection with these extensions he paid $75,000 to the stockholders of Union and it was agreed that this amount should be credited upon the purchase price of the stock in the event that the option was exercised. The petitioner897 reimbursed Combs for these payments. After obtaining the last extension Combs again assigned all of his interest in the option and the extensions thereof to the petitioner. Combs gave written notice to the sellers on January 12, 1925, that he was electing to purchase the stock. He agreed to complete the initial payment of $1,500,000 on February 2, 1925. The petitioner paid the sellers the remainder of the initial payment ($1,500,000 less $75,000) on February 2, 1925. The owners of Union stock deposited it on the same day with the Union Trust Co. of Indianapolis and authorized that bank to deliver the stock to the petitioner (a) when and as soon as the sellers had received $1,000,000, plus certain interest, from the operation of the business of Union, and (b) upon delivery to the bank of the promissory notes and mortgage of Union for $2,500,000 provided for in the agreement of July 29, 1924. The sellers of the Union stock remained in control of that company until on or about January 2, 1926. Earnings of Union during the year 1925 amounting to $1,000,000, plus interest on that amount and interest on $2,500,000, were received by the sellers of Union stock. The earnings were898 declared as dividends to the petitioner and then paid over to the sellers. The petitioner, the Ashland Refining Co., and Union filed a consolidated return for the year 1925, which included income and deductions of Union for the period February 2, 1925, to December 31, 1925. The sellers received a payment on December 30, 1925, which completed the amounts which they were to receive out of earnings of Union. The stockholders, in the option agreement of July 26, 1924, assumed certain liabilities and reserved to themselves certain assets of Union, consisting of cash, securities, notes and accounts receivable, furniture, and material and supplies. While the stock was in escrow some of these assets were distributed to those stockholders in kind, but others were left with Union and the stockholders received cash in lieu thereof. On January 2, 1926, some of the assets reserved to the old stockholders, or cash, or both, were transferred to trustees to pay the liabilities assumed and to transfer any balance to the old stockholders. The bank delivered the Union stock to the petitioner on January 2, 1926. On that same day Union executed and delivered its notes for $2,500,000 to the bank899 781 and executed a mortgage on its properties as security for the notes. Thereafter Union liquidated by transferring all of its assets, subject to its liabilities, to the petitioner at some time in January 1926. Among the liabilities of Union assumed by the petitioner was the liability for the mortgage and notes given to the sellers. Thereafter after the petitioner paid the mortgage notes in full and the mortgage was satisfied on October 16, 1928. The cost of the Union stock to the petitioner was not more than $5,000,000. The stipulated fair market value of the net assets (total assets received less liabilities assumed) which the petitioner received upon the liquidation of Union was $7,906,043.32 at the time they were received. The deductions which the Commissioner allowed for the years 1926 to 1930, inclusive, on account of depletion of the properties which the petitioner received from the liquidation of Union at the beginning of 1926, were not based upon the fair market value of the properties at the time they were received by the petitioner, but were computed upon smaller bases which had been used in prior years in computing the deductions allowed to Union. The900 parties have stipulated that the depletable properties received by the petitioner in liquidation of Union had an aggregate fair market value at the time received of $7,486,178.18, and they have further agreed upon the amount of the deductions to which the petitioner will be entitled in case it is entitled to deductions for depletion based upon the value stipulated. The petitioner's basis for depletion of the above mentioned properties for the years 1926 to 1930, inclusive, is $7,486,178.18. The money with which the petitioner paid the balance of the initial payment ($1,425,000) to the sellers from whom it purchased the Union stock was obtained from Pynchon & Co., a firm trading in securities. J. L. Martin, one of the partners of Pynchon & Co., was one of the directors of the petitioner. He was present at a meeting of the board of directors of the petitioner held on January 10, 1925. Combs reported at the meeting that the option was about to expire and that he had been unable to secure the necessary financing. Martin said that Pynchon & Co. might furnish the petitioner with $1,750,000 in cash in return for $2,000,000 in notes and $2,000,000 in stock of the petitioner. The901 general counsel of the petitioner said that in his opinion the issuance of $2,000,000 par value of its notes and $2,000,000 par value of its stock by the petitioner for $1,750,000 in cash would be in violation of the laws of Kentucky because the corporation would be receiving less than par value for its securities. He suggested that in order to make the transaction legal the option should be exercised on behalf of Pynchon & Co., and Pynchon & Co. 782 should then transfer the contract to purchase the Union stock, together with $1,750,000 in cash, to the petitioner, in return for $2,000,000 par value of the petitioner's notes and $2,000,000 par value of the petitioner's stock. Martin said that he would try to get his copartners in Pynchon & Co. to furnish the necessary funds to enable the petitioner to purchase the Union stock. The directors adopted a resolution authorizing Combs, "in view of the inability of the company to exercise the option and comply with its terms", to "make the best arrangement and disposition of the option possible in his discretion, having in view the desirability of securing to the company, if possible, the right to hereafter purchase the property902 upon some practicable terms." Martin notified Combs the next day by telegram that Pynchon & Co. would "handle the deal as planned." Combs then exercised the option. Combs and Martin thereafter conferred as to the terms of the agreement to be made between Pynchon & Co. and the petitioner. Combs reported to the directors of the petitioner at a meeting on January 26, 1925, that he had exercised the option and had assigned the contract for the purchase of the Union stock at the direction of Pynchon & Co. to George M. Lindsey, as trustee for Pynchon & Co., in order to enable Pynchon & Co. to make an offer to the petitioner. He further reported that Pynchon & Co. offered to provide the petitioner with $1,750,000 in cash and to transfer to the petitioner the contract for the purchase of the Union stock, in consideration of the issuance and delivery to Pynchon & Co. by the petitioner of $2,000,000 par value of the petitioner's notes and $2,194,000 par value of the petitioner's capital stock. The $1,750,000 was to be used as follows: $75,000 was to reimburse the petitioner for the amount already advanced to the sellers; $1,425,000 was to be used to pay the remainder of the initial cash903 payment required on the contract; $140,000 was to be set aside to guarantee the interest on the notes for the first year; and the balance was to be available to the petitioner for general corporate purposes. The petitioner, on the same day, January 26, 1925, entered into a contract with Pynchon & Co. by the terms of which Pynchon & Co. agreed to procure for the petitioner an assignment of the contract of July 29, 1924, for the purchase of the stock of Union, and to pay the petitioner $1,750,000 in cash, in consideration for which the petitioner agreed to issue to Pynchon & Co. $2,000,000 par value of its 7 percent three-year gold notes dated January 15, 1925, secured by a trust indenture and $2,194,000 par value of its common stock. The petitioner also agreed to provide a cash deposit of $140,000 for the payment of interest on the notes for the first year and to indemnify Pynchon & Co. against any liability upon any obligation to make the future payments for 783 the Union stock. Pynchon & Co. agreed to hold $194,000 par value of the stock issued to it for the benefit of the petitioner. This stock was issued and held for the petitioner for the purpose of avoiding violation904 of a law limiting the amount of money borrowed to a certain percentage of the amount of capital stock outstanding. The petitioner, on January 31, 1925, executed and delivered the notes and issued the stock in accordance with the agreement of January 26, 1925. It received from Pynchon & Co. a check for $1,425,000, which it delivered to the sellers of the Union stock on February 2, 1925. The remainder of the $1,750,000, with certain adjustments for interest, was deposited in a bank to the credit of the petitioner by Pynchon & Co. on February 3, 1925. The total amount of the three-year gold notes issued to Pynchon & Co. was outstanding on December 31, 1925, and there were outstanding $1,910,000 of the notes on December 31, 1926, and $1,425,500 on July 31, 1927. Combs, contrary to the report he made to the board of directors of the petitioner, had not assigned the contract for the purchase of the Union stock to George M. Lindsey, or any other person, as trustee for Pynchon & Co. At some time after January 26, 1925, Combs executed a writing dated January 26, 1925, stating that he thereby assigned all of his right, title and interest in the option to George M. Lindsey, trustee. 905 Thereafter Lindsey accepted the assignment and on the same day executed a writing stating that he assigned his interest to the petitioner. Lindsey was an employee of Pynchon & Co. The authorized capital stock of the petitioner at all times material hereto during the year 1925 consisted of 1,000,000 shares of $5 par value common stock, of which $2,806,000 par value was issued and outstanding prior to the issuance of any stock to Pynchon & Co. The total fair market value of the $2,000,000 par value of its notes and $2,000,000 par value of its stock which the petitioner delivered to Pynchon & Co., pursuant to the contract of January 26, 1925, was $1,750,000 at the time the notes and stock were delivered. The Commissioner, in determining the deficiency for 1926, did not include in the income of the petitioner any amount representing a profit from the liquidation of Union. OPINION. MURDOCK: The affirmative issue raised by the Commissioner will be discussed first. The parties have vigorously contested this point in able and extensive briefs. Section 201(c) of the Revenue Act of 1926 provides that "amounts distributed in complete liquidation of a corporation shall be treated906 as in full payment in exchange for 784 the stock" and "the gain or loss to the distributee resulting from such exchange shall be determined under section 202, but shall be recognized only to the extent provided in section 203." None of the exceptions contained in section 203 applies. The general rule of section 203(a) is that the entire amount of the gain determined under section 202 shall be recognized. That gain is the excess of the amount realized from the exchange of the stock over the cost of the stock. The amount realized is the fair market value of the property received. Sec. 202(a) and (c). Thus, if the petitioner bought the Union stock and paid no more than $5,000,000 for it, it realized a taxable gain of $2,906,043.32 in 1926 from the liquidation of Union. The Commissioner has the burden of proving that the petitioner realized a gain in 1926 from the liquidation of Union which should be included in the petitioner's income for 1926. The petitioner became the sole stockholder of Union and received in liquidation of Union the assets of that corporation subject to its liabilities. The parties have stipulated that the value of the net amount of property received907 in the distribution was $7,906,043.32. The Commissioner contends that the excess of this amount over the cost of the Union stock to the petitioner was taxable gain for 1926. He concedes that the cost of the stock was $5,000,000, 1 but claims that it was no more than that amount. He therefore subtracts the cost of $5,000,000 from the amount realized, $7,906,043.32, to show a gain of $2,906,043.32. He has fully sustained the burden of proof on this issue. The petitioner has advanced a number of arguments in opposition to the tax. First it contends that the purchase of the stock and the liquidation of Union must be disregarded for tax purposes because they were but parts of a single transaction which had for its purpose the acquisition of the assets of Union. It argues that its intention to acquire the properties of Union is shown by the following facts, among others: It needed new properties908 to make its business profitable; the old stockholders of Union were allowed to take out a substantial amount of the assets of Union which were not desired by the petitioner; and the petitioner dissolved Union and took over its assets at the earliest possible date under the contract to purchase. It relies very strongly upon the case of . The collector was there contending that the properties were acquired in connection with a reorganization and Prairie was not entitled to a stepped-up basis for depletion of cost to it, but had to take the same basis as applied to Olean. See also 785 . Here neither party is contending that there was a reorganization and it is clear that there was none. Cf. . The contract in the Prairie case was between Prairie, as buyer, and Olean and its stockholders, as sellers. The purchase price was paid to agents of the selling corporation and its stockholders. The contract there recited that its purpose was to transfer the leases owned by Olean for cash. 909 Delivery of the physical properties was to be made as of a date five days before the contract was signed. Alternative methods of effecting the transfer of the physical properties were provided for - one by the transfer of the properties themselves, the other by a transfer of the corporate stock within 25 days. For reasons not disclosed by the record, the sellers transferred the stock of Olean. That corporation then made a formal transfer of its properties to Prairie, and on the same day dissolved. The question in that case was not the amount of gain or loss upon the liquidation of Olean, but was whether Prairie was entitled to depletion deductions based upon the amount it had paid out. The court held that it was entitled to such depletion deductions. In deciding that there was no reorganization to deprive Prairie of this basis, the court said that the acquisition of the properties by Prairie should be treated as an entire transaction, citing . There are substantial reasons in the present case why the separate transactions should not be disregarded for tax purpose and why the whole chain of events should not be regarded as a single910 transaction entered into for the purpose of acquiring certain properties of Union. Cf. , et seq.; . Although courts have a tendency at times to "look through form to substance", they nevertheless have laid down the rule that tax liability must be determined by considering what the taxpayer did, not what it intended to do, or what it might have done. ; ; ; . Combs was originally authorized to negotiate for the purchase of either the assets or the stock of Union, but the contract which he actually entered into was with the stockholders of Union and provided for the purchase of the stock. The Union corporation, the owner of the assets, was not a party to and had nothing to do with the negotiations. It neither sold nor received anything. Cf. 911 ; ; . The parties to this proceeding are agreed that the petitioner became the owner of the stock of Union on February 2, 1925. Dissolution of Union was not contemplated at that time. It was to continue for some indefinite 786 time, at least until the amounts called for under the contract were paid from its earnings. Thereafter it was to mortgage its properties and deliver its notes to its old stockholders. It actually continued to hold and operate its properties for almost a year after February 2, 1925, and at the end of that time mortgaged its properties. In the meantime, the petitioner, as sole stockholder, received all dividends and benefits from the earnings of the corporation. If the petitioner was not the owner of the stock during that period, then it was not entitled to the dividends amounting to more than a million dollars which were declared during that period and transferred to the sellers of the Union stock and, consequently, that million dollars could not be a part of the cost of the stock912 to the petitioner. Union was a separate taxpayer during all of 1925 and joined with the petitioner in a consolidated return for a part of that year because the petitioner was the owner of all of its stock. After the petitioner had paid for the stock in full, it dissolved Union and for the first time took over the properties. The facts in the present case serve to distinguish it from the Prairie and Warner cases cited by the petitioner on this point. It is more like . The petitioner purchased the stock of Union and acquired the assets in the dissolution of Union. Those facts can not be disregarded for tax purposes. The distribution in liquidation was a taxable transaction. Cf. ; ; affd., ; . The petitioner's next argument is that the cost of the Union stock was equal to the amount received in liquidation of Union and, therefore, it had no profit from these transactions, even if its purchase of the stock and the liquidation of Union may not913 be disregarded for tax purposes. The parties have stipulated that the value of the Union stock on February 2, 1925, was $7,906,043.32. The petitioner states that it acquired assets worth $9,656,043.32 (Union stock and $1,750,000 in cash) and paid therefor $5,000,000 under the contract and $4,000,000 par value of its notes and stock to Pynchon & Co. 2 It therefore argues that "$2,000,000 par value of the Swiss Oil Stock must be regarded as having been issued for $2,906,043.32 value of Union Gas & Oil Company stock" and the total cost of the Union stock to it was $7,906,043.32. There are several different reasons why this argument is unsound. It is based, in part at least, upon the false premise that the cost of property obtained by the issuance of stock is the value of the property obtained, rather than the value of the stock paid for it. Where a corporation acquires property by issuing its stock for the property, the cost of the property is the fair market value of the stock. The 787 important thing is to determine the value of the stock paid for the914 property. ; affd., . Where a corporation having no assets and no liabilities issues all of its stock for property and there is no better way of determining the value of the stock, that value is sometimes determined by assuming that the total value of the stock is the equivalent of the total value of the property back of it. ; ; (part V); ; ; ; ; ; ; ; . Cf. ; 915 ; . Under such circumstances the value of the property purchased is taken as evidence of the value of the stock paid for it. But where a corporation, having assets, liabilities, and outstanding stock, issues some new stock in exchange for some property, the situation is very different and there is much less reason to apply the above rule. The sellers of the Union stock received only $5,000,000 for their stock. If the cost of the stock to the petitioner exceeded that amount, the additional cost must result from the payments to Pynchon & Co. The petitioner is contending that it acquired the contract for purchase of the Union stock from Pynchon & Co., together with $1,750,000 in cash, for which it paid Pynchon & Co. $4,906,043.32, represented by $2,000,000 par value of its notes and $2,000,000 par value of its common stock. Ordinarily the cost of property purchased with cash is the amount of cash paid for it. Although the cost of a contract to purchase may form a part of the cost of the property purchased under that916 contract, still the cost of obtaining cash can not be added to the cost of property purchased with the cash in a separate transaction. Therefore, it becomes important to determine, first, whether or not the petitioner obtained the contract to purchase the Union stock from Pynchon & Co., and, if it did, second, to determine how much it paid Pynchon & Co. for that contract. The Commissioner is contending that the petitioner did not acquire the contract to purchase the Union stock from Pynchon & Co. under the agreement of January 26, 1925, because the contract of July 29, 1924, had never been assigned to Pynchon & Co. but still belonged to the petitioner on January 26, 1925. There is evidence tending to support this contention of the Commissioner, yet the 788 record as a whole does not justify a definite finding of fact that the contract was not transferred from Pynchon & Co. to the petitioner. On the other hand, it does not justify a finding that it was so transferred. The consequences, if any, of this uncertainty must be suffered by the Commissioner, who has the burden of proof on this issue. However, the point is immaterial for the record shows that even if the contract917 was transferred by Pynchon & Co. to the petitioner, the petitioner paid nothing for it. The fact that the petitioner paid nothing for the contract to purchase the Union stock is demonstrated by a "before and after" comparison. Prior to the transaction with Pynchon & Co. the petitioner was the owner of an option to purchase the Union stock, it needed cash with which to purchase the Union stock, and it had the inherent power to issue its notes and stock. Pynchon & Co., at that time, had $1,750,000 but had no desire to acquire the option for itself. After the transaction, the petitioner had a right to purchase the Union stock under the contract of July 29, 1924, just as it had prior to that transaction. It had obtained $1,750,000 in cash and had parted with $2,000,000 par value of its notes and $2,000,000 par value of its stock. Pynchon & Co. had parted with $1,750,000 in cash, and had obtained $2,000,000 par value of the petitioner's notes and $2,000,000 par value of the petitioner's stock. The fact that the petitioner paid nothing for the contract is also demonstrated by consideration of the motives and acts of the parties. 918 After Martin had stated that his company might be willing to furnish $1,750,000 in cash in exchange for $2,000,000 par value of the petitioner's notes and $2,000,000 par value of the petitioner's common stock, the general counsel of the petitioner suggested for the first time the plan of having the option exercised on behalf of Pynchon & Co. and then having the latter transfer the contract to purchase the stock to the petitioner, together with the cash. His thought was that in this way it might appear that the petitioner had received something of value over and above the $1,750,000 in cash for its notes and stock and there would be no violation of the laws of Kentucky. The Circuit Court of Appeals for the Sixth Circuit was of the opinion that the transfer over and back was an unnecessary gesture which added nothing to the validity of the stock issuance. . 3 It certainly had no effect upon the real consideration passing 789 between the parties. The petitioner had a valuable option on which it had paid $75,000. Pynchon & Co. never paid the petitioner anything for the option and was not to acquire any919 valuable rights under the contract of July 29, 1924. The parties at all times intended that only the petitioner should benefit from the contract and only the petitioner should purchase the Union stock. Cf. . If the contract of July 29, 1924, ever passed to Pynchon & Co., it passed without consideration and subject to an obligation to return it immediately with $1,750,000 in cash so that the petitioner could complete the initial payment. If the contract to purchase passed back to the petitioner, it likewise passed without consideration and in accordance with a prearranged plan. Those transfers were not intended to have and did not have any effect upon the amount of cash or consideration which Pynchon & Co. was to furnish the petitioner nor upon the amount of securities which the petitioner was to issue to Pynchon & Co. Thus in no true sense was a transfer of the contract to purchase the Union stock a part of the consideration moving from Pynchon & Co. to the petitioner for the issuance by the petitioner of its notes and stock and no part of the consideration paid by the petitioner was paid for a transfer of the contract to purchase920 the Union stock. The fact that the petitioner paid nothing for the contract is also shown in another way. Assume that the contract passed to the petitioner from Pynchon & Co. in the same transaction in which the petitioner obtained $1,750,000 in cash from Pynchon & Co. The cost of the property thus obtained was paid in the petitioner's notes and stock, and was measured by the fair market value of those securities. Clearly $1,750,000 in cash should cost $1,750,000. Any additional cost attributable to the cost of the contract would have to be based upon an excess of the fair market value of the securities over921 $1,750,000. The petitioner, reasoning in this way, contends that the notes were worth par, the stock was worth $2,906,043.32, and the excess of their total value over the amount of cash obtained represents cost of the contract. The evidence in the case shows, however, that the total fair market value of the $2,000,000 par value of notes and $2,000,000 par value of stock issued to Pynchon & Co. was not more than $1,750,000 at the time of issuance. The finding of fact that the fair market value of the notes and stock issued to Pynchon & Co. was $1,750,000 at the time of issuance is fatal to the petitioner's contention that the cost of the Union stock was more than $5,000,000. The $2,000,000 par value of common stock not only was not worth $2,906,043.32, but in fact was worth only a small percentage of its par value at that time. The principal value of the securities issued to Pynchon & Co. was in the bonds. Yet they were not worth par 790 even when an equal amount of the par value of the stock accompanied them as a bonus. If the petitioner had obtained the $1,750,000 in cash by selling its securities to the public at fair market value, nothing would have been added thereby922 to the cost of the Union stock. Consequently it is not surprising that the effect of the sale of these securities to a banker was no different. Thus on no theory that has been suggested could the transaction which the petitioner had with Pynchon & Co. have had any effect upon the cost of the Union stock to the petitioner. Another argument advanced by the petitioner is that the Commissioner is now estopped to deny that the stock and bonds issued to Pynchon & Co. were a part of the cost of acquiring the stock of Union. Its reason is that the Commissioner did not allow the petitioner a deduction for amortization of the discount on the notes for the year 1925, but stated at that time that the stock and the alleged discount should be capitalized as a part of the cost of the Union stock. An estoppel must be pleaded and proven by the party relying upon it. It is based upon the misrepresentation or concealment of some material fact. The effect of an estoppel is that the fact is conclusively presumed to be as the innocent party believed it to be. 923 . The facts in this case do not establish any estoppel. The petitioner had full knowledge of the facts of its own case in 1925. If it failed to have its tax liability for 1925 correctly determined, that is not a sufficient reason for having the 1925 error corrected by an erroneous determination of its tax liability for some later year or years. Cf. ; ; affd., ; certiorari denied, ; . The petitioner also argues that there is no proof that a profit of $2,906,043.32 from the liquidation of Union has not been included in its income in the determination of the deficiency, and, further, that the prayer in the amended answer does not assert a claim for an increased deficiency as contemplated by the statute. These two arguments are mentioned merely for the purpose of indicating that they have not been overlooked. They are refuted by the facts in the case. The only suggestion of a reason why the petitioner would924 not be entitled to have its deductions for depletion computed upon the stipulated value of the properties at the time it received them in the liquidation of Union, comes from its own contention that in reality it bought the assets of Union. If it did buy them, it paid no more than $5,000,000 for them and would not be entitled to depletion deductions based upon any larger figure. However, the contention that it purchased the assets of Union has been rejected, and since it has been taxed with a profit represented by the excess of the value of the properties 791 over the cost of the stock, it is entitled to depletion deductions for the years 1926 to 1930, inclusive, computed upon the basis of the stipulated value of the depletable properties on the date they were received by it in the liquidation of Union. The Commissioner concedes the correctness of this holding, provided he is sustained upon the issue which he raised. Decision will be entered under Rule 50.Footnotes1. The $2,500,000 of notes which Union issued was no part of the cost of the Union stock to the petitioner, but this fact is immaterial here since the Commissioner concedes that the cost was $5,000,000 and since the petitioner assumed payment of the notes and eventually paid them. ↩2. The "cost", according to the petitioner's figures, was $250,000 more than the value of the assets received. ↩3. In that case the court affirmed the decision of the lower court dismissing a bill in equity by one of the old stockholders of the petitioner for cancellation of the notes and stock issued to Pynchon & Co. The court held that the transaction with Pynchon & Co. was for the best interests of the petitioner and its stockholders because the petitioner was thereby permitted to buy the valuable Union stock at a bargain price and the stockholders were benefitted rather than wronged. The question there before the court was a very different one from the question here. ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621635/	APPEAL OF ACME, PALMERS & DEMOOY FOUNDRY CO.Acme, Palmers & Demooy Foundry Co. v. CommissionerDocket No. 4211.United States Board of Tax Appeals3 B.T.A. 1126; 1926 BTA LEXIS 2492; March 31, 1926, Decided Submitted December 7, 1925. 2492 1. The denial by the Commissioner of a claimed loss of good will through the sale by a successor corporation of certain of its tangible assets approved. 2. Profit upon the sale of capital assets determined upon the evidence. 3. The Commissioner's determination of the invested capital of the taxpayer, which was a successor through a reorganization of two corporations, under the provisions of section 331 of the Revenue Act of 1918, approved. E. J. Brunenkant, Esq., for the taxpayer. John D. Foley, Esq., for the Commissioner. LITTLETON1126 Before JAMES, LITTLETON, SMITH, and TRUSSELL. This appeal is from the determination of a deficiency in income and profits tax for the calendar year 1920 in the amount of $28,974.59, arising from the inclusion in income of alleged profits from the sale of capital assets, instead of an allowance of a loss thereon, as claimed by the taxpayer; also, the exclusion from invested capital of $99,132.64, alleged value of good will. FINDINGS OF FACT. The taxpayer is an Ohio corporation, with a capital stock of $400,000, organized in 1919 to take over the business and property of The Palmers & DeMooy2493 Foundry Co. and the Acme Foundry Co. Its place of business is at Cleveland. The Palmers & DeMooy Foundry Co. was founded in the year 1886 and was operated as a partnership until the year 1890, when it was incorporated with a capital stock of $100,000. The amount of $72,600 was set up on the books as representing the value of tangible assets, and $27,400 as representing the value of good will acquired from the partnership. The Acme Foundry Co. was incorporated in the year 1900. On July 1, 1919, its outstanding capital stock was $150,000. On July 1, 1919, the stock of The Palmers & DeMooy Foundry Co. of the par value of $100,000, together with $5,000 in cash, was transferred to the taxpayer for its capital stock of the par value of $155,000. On the same day the entire capital stock of the par value of $150,000 of the Acme Foundry Co. and $5,000 in cash were transferred to the taxpayer for the remainder of its capital stock of the par value of $245,000. Immediately thereafter the assets of The Palmers & DeMooy Foundry Co. and the Acme Foundry Co. were 1127 transferred to the taxpayer, and it later sold the assets so acquired from the Palmers & DeMooy Foundry Co. 2494 under the circumstances hereinafter set forth. In its balance sheet as of July 1, 1920, the taxpayer included good will in the amount of $67,071.69. This item does not represent an evaluation of the good will of either The Palmers & DeMooy Foundry Co. or the Acme Foundry Co. but was merely a balancing entry, representing the excess of the par value of the capital stock issued over the book value of the tangible assets acquired from the two companies. The plant of The Palmers & DeMooy Foundry Co. was located in a section of Cleveland known as the "flats," possessing advantageous rail terminal facilities and being also in close proximity to the principal hotels and labor markets on the "Square." Shortly after July 1, 1919, a certificate of convenience and necessity was granted by the Interstate Commerce Commission to the Van Sweringen interests for the construction of a Union Station at the "Square." The Palmers & DeMooy Foundry Co.'s plant was located on the proposed Union Station site, and negotiations were at once begun by the Van Sweringens to acquire The Palmers & DeMooy site, either by direct purchase or by condemnation proceedings, with the result that a contract of sale2495 was consummated whereby the plant of The Palmers & DeMooy Foundry Co., including the land, leaseholds, buildings, machinery, and equipment, were sold to M.J. and O. P. Van Sweringen as of January 1, 1920, for $91,600. The management of The Palmers & DeMooy Foundry Co. had always followed a very conservative policy with respect to the valuation of its assets, and for many years had charged the cost of replacements of buildings, equipment, and machinery to expense. For instance, at one time, an annex to a building was constructed at a cost of $4,000, which was charged to expense. Likewise, replacements to tumbling room, machinery, and equipment, costing about $34,000, were charged to expense. The net depreciated cost, as shown by the taxpayer's books, of the assets sold to the Van Sweringens, exclusive of leaseholds, as of January 1, 1920, the date of sale, was $60,741.33. The leasehold interests included in the assets sold covered several parcels of real estate with unexpired terms of from one to eight years. The value of these leaseholds was $6,009.88 on July 1, 1919, and $5,678.06 on January 1, 1920. In computing the profit upon the sale to the Van Sweringens the Commissioner2496 determined that the depreciated cost of the assets sold was $42,008.12, denied the taxpayer's claim that it suffered a loss, through the sale of the tangible assets of The Palmers & DeMooy Foundry Co., of the good will thereof of the value of $86,400.04, and 1128 that the amount of the profit was $49,519.88. Apparently no value was ascribed to the leaseholds. He also reduced invested capital claimed by the taxpayer for the year 1920 in the amount of $99,132.64, as a result of applying the provisions of section 331 of the Revenue Act of 1918. OPINION. LITTLETON: The first question concerns the amount of profit or loss upon the sale in the year 1920 of the tangible assets acquired from The Palmers & DeMooy Foundry Co. The Commissioner contends that the taxpayer realized a profit of $49,519.88 from the sale, and the taxpayer claims that it sustained a loss of $60,241.35, in that, as a result of the sale, it lost the good will it had acquired from The Palmers & DeMooy Foundry Co., for which it claimed a value of $86,400.04. We are satisfied from the evidence that the depreciated cost at the date of sale of the tangible assets sold was $66,419.39, and that a profit2497 of $25,180.61 resulted, exclusive of the value, if any, of the good will acquired from The Palmers & DeMooy Foundry Co., instead of a profit of $49,519.88, as determined by the Commissioner. We do not, however, agree with the taxpayer's contention that, as a result of the sale of the tangible assets, it lost whatever good will it had acquired from the Foundry Co. We do not believe, and it is not established by the evidence, that the good will of The Palmers & DeMooy Foundry Co. attached solely to its tangible assets and the location of its plant. We are satisfied that the good will, or at least a great part thereof, was bound up with and attached to the name of "The Palmer & DeMooy Foundry Company" which the taxpayer incorporated in its own corporate name, and which it still retained after the sale of the assets. Even if we were to conclude, which we do not, that at least a part of the good will of the Foundry Co. was attached to its tangible assets and the location of its plant, there are no facts before us from which we could determine the value of that part. In our opinion, the evidence does not establish that through the sale in question the taxpayer suffered a loss or diminution2498 in value of whatever good will it had acquired from the Foundry Co. We therefore find that the taxpayer realized a profit of $25,180.61 on the sale. With reference to the second question, the taxpayer alleged that the Commissioner reduced its invested capital for the year 1920 by the amount of $99,132.64 "on the basis of balance sheet adjustments of tangible assets and good will," which allegation was admitted by the Commissioner in his answer. Further than is disclosed by the allegation and the admission, the record does not show the nature of the adjustments. The taxpayer also alleged, in connection with 1129 this item, that in exchange for its capital stock it acquired tangible assets, that is, the capital stock of the two predecessor corporations and not their assets, which allegation, when read in connection with the other allegation just quoted, would indicate that the adjustment related to the exclusion from the taxpayer's invested capital of good will set up on its books as having been taken over from two other corporations. The Commissioner explained that, in computing the invested capital, he applied the provisions of section 331 of the Revenue Act of 19182499 in determining the value of the tangible and intangible assets acquired from the predecessor corporations for stock. The amount at which the tangible and intangible assets of the two predecessor corporations could be included in the invested capital of the taxpayer for 1920 is governed by section 331 of the Revenue Act of 1918, which provides that - In the case of the reorganization, consolidation, or change of ownership of a trade or business, or change of ownership of property, after March 3, 1917, if an interest or control in such trade or business or property of 50 per centum or more remains in the same persons, or any of them, then no asset transferred or received from the previous owner shall, for the purpose of determining invested capital, be allowed a greater value than would have been allowed under this title in computing the invested capital of such previous owner if such asset had not been so transferred and received: * * * The evidence does not warrant any modification of the Commissioner's determination of invested capital under the above-quoted section. Order of redetermination will be entered on 10 days' notice, under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621638/	Robert E. Sommers v. Commissioner.Sommers v. CommissionerDocket No. 18626.United States Tax Court1950 Tax Ct. Memo LEXIS 227; 9 T.C.M. (CCH) 328; T.C.M. (RIA) 50102; April 7, 1950Simon J. Hauser, Esq., 420 Lexington Ave., New York, N. Y., for the petitioner. John J. Madden, Esq., for the respondent. DISNEYMemorandum Findings of Fact and Opinion DISNEY, Judge: This proceeding involves a deficiency in income tax in the amount of $5,817.58 for the year 1944. The issue is whether respondent erred in taxing to petitioner all of his distributive share of the earnings of the partnership of which he was a member, without any adjustment for the amount thereof to which, it is alleged, his wife was entitled. Alternative questions are whether the amount paid to the wife is deductible as an expense under Section 23 (a) (1) or (2) of the Internal Revenue Code, and whether the allowance of a deduction228 for interest on a loan which the respondent determined the wife had made to petitioner for investment in the partnership was proper. Petitioner's return was filed with the collector for the third district of New York. Findings of Fact Petitioner, a resident of New York, with many years of experience in the manufacture of handbags, in 1932 went through bankruptcy and was not gainfully employed. In August of that year, conditional upon the employment of petitioner by the corporation, petitioner's wife, at his request, purchased with her own funds, at a cost of $2,333.33, 33 1/3 shares, or one-third of the capital stock of Deauville Bags, Inc., a New York corporation engaged since 1931 in the manufacture of handbags, and which at that time was in financial difficulties. Twenty-five shares of the stock were purchased from Jacob Fein, who agreed to donate the price thereof, amount $1,750, to the corporation. During the same month the stockholders agreed that petitioner would be elected president and a director at a specified salary, the employment to terminate at the close of 1933. Petitioner and his wife had an understanding at that time that any earnings received on the investment229 would be shared by them equally. A short time thereafter the record stockholders contributed pro rata $3,000 to the capital of the corporation. The stock certificates issued in the name of petitioner's wife were subject to agreements, generally for one year periods, and providing for expiration on December 31, executed by the stockholders and petitioner, or by them and Deauville Bags, Inc., in 1934, 1937, 1939, 1940, and 1941, which, with an agreement not entered on the certificates, provided, among other things, that the individuals would vote their stock so that petitioner would be a director and president and that Fein and one Williams would have certain specified offices. The agreement of December 31, 1934, was effective for one year, except that it gave petitioner an option to renew it from year to year by giving written notice not later than December 1, of each year, and provided that in the event of death of a stockholder, or in the event he or she desired to sell her stock, the other parties were to have an option to purchase the shares at a price equal to book value. Other agreements contained like sales provisions in the event any stockholder desired to sell or encumber230 his or her stock, the price therefor to be book value, excluding good will. The agreements of November 18, 1939, November 30, 1940, and December 1, 1941, (expiring December 31, 1942) provided that in the event of the death of petitioner, his wife was to sell her stock to the other stockholders at a price equal to book value, excluding good will. The agreements of December 19, 1939, November 30, 1940, and December 1, 1941, obligated petitioner's wife to sell to the other stockholders at the same price, the stock in her name in the event petitioner did not, at specified times, enter into a written contract of employment with Deauville Bags, Inc., for the years 1941, 1942, and 1943, respectively. On October 31, 1942, the officers and directors continued the previous agreement, which would expire in December 1942, until March 31, 1943. In December 1942 an agreement was made, to expire and terminate December 31, 1943; and on March 26, 1943, agreement was made to continue the agreement which would terminate March 31, 1943, until June 30, 1943. The petitioner was a director and president and general manager of the corporation. He designed bags, did most of the selling and some of the231 buying. The corporation operated at a loss until about 1936. In December 1940 it issued a 100 per cent stock dividend. By December 1941 petitioner had recovered from his financial difficulties and could have obtained a position elsewhere at a substantial salary. For these reasons he would have resigned his position with Deauville Bags, Inc., if he or his wife had ceased to be a stockholder of the corporation. Fein and Williams would not have agreed to a sale of the stock outstanding in the name of petitioner's wife if it would have resulted in the loss of petitioner's services to the corporation. In 1942 petitioner received about $9,000 from the corporation as compensation for services. The corporation did not pay a dividend in that year to petitioner's wife. On November 18, 1939, and until July 31, 1943, the corporation's stock was held in equal amounts by petitioner's wife, Jacob Fein, and Albert Williams. On July 31, 1943, the petitioner and the stockholders of the corporation executed an agreement by the terms of which the parties, after reciting that the corporation was to be dissolved and that they desired to form a partnership consisting of petitioner, Jacob Fein, and232 Albert Williams, agreed, among other things, to surrender their stock in exchange for the corporation's assets in accordance with their respective interests, and petitioner's wife assigned to petitioner the assets to be received by her in the dissolution of the corporation, and petitioner, Jacob Fein, and Albert Williams formed a partnership under the name of Deauville Bags, to continue the business then being conducted by the corporation, each to contribute to the partnership the net assets received by him from the corporation and to share profits and losses equally. The agreement was effective August 1, 1943, and terminated at the close of that year. Fein and Williams did not, for business reasons, including inexperience of petitioner's wife in the manufacture of handbags, desire to enter into a partnership venture with petitioner's wife. No money consideration was paid by petitioner to his wife for the property he contributed to the partnership for a one-third interest therein, and she did not demand any consideration. When consenting to the transfer to petitioner of the property she was entitled to receive under her stock in dissolution proceedings, petitioner's wife did not233 have an understanding with him on the loss of any part thereof or enter into an agreement with him on the sharing of profits from his interest in the partnership. Petitioner was general and sales manager and, as such, in charge of all of the activities of the partnership. He performed for the partnership the same kind of duties he had performed for the corporation. Petitioner gave to his wife in cash and bonds, aside from money for household expenses, 50 or more per cent of the money he received from his share of the business profits. Petitioner withdrew $9,474.86 from the partnership in 1943, and withdrew $19,890 in 1944. At the request of his wife, petitioner, during the last five months of 1943, purchased Government bonds in the amount of $4,700, payable to his wife and two sons, and $9,700 in 1944, in favor of the same payees, plus $2,000 additional in 1944 in his and her name. During 1945 he purchased bonds in the amount of $7,500, payable to his wife and sons. Commencing in June 1945, when withdrawal payments were large and petitioner did not wish to purchase Series E bonds, petitioner had checks of the total amount of $5,750 issued directly to his wife for one-half of his234 withdrawals. Petitioner's wife had a separate bank account after August 1, 1943. In 1941, 1943, and 1944, petitioner's wife accompanied him on a total of four trips to assist him in sales. The expenses of petitioner's wife on the trips were paid by the corporation and its successor. Petitioner's wife rendered no other service to the corporation or its successor. After 1932 petitioner had no income other than from the corporation and the partnership. Petitioner's wife did not file an income tax return for 1943 or for any year prior thereto. In his return for 1943 petitioner reported $2,700 salary from the corporation, $2,138 long-term capital gain realized from 66 2/3 shares of stock of Deauville Bags, Inc., acquired in 1932 and thereafter to 1940, and $11,234.16 as income from the partnership, that being the full amount of income credited to the petitioner on the books of the partnership. Petitioner and his wife filed separate returns for 1944. Petitioner's return reported $22,864.03 of income from the partnership, less one-half thereof for "Participation of Isabel F. Sommers as per contract." The amount deducted by the petitioner was included in the return of his wife as income235 from "Participation in Robert E. Sommers share of partnership profits, per contract." Petitioner's returns for 1943 and 1944, and for years prior thereto, were prepared by the same accountant. Petitioner signed his 1943 and 1944 returns. In his determination of the deficiency the respondent disallowed the deduction of $11,432.01 made by petitioners for his wife's share of his share of the net income of the partnership, and, after adjusting the partnership's earnings, included $23,691.28 thereof, or $12,259.27 in addition to the net amount of $11,432.02 reported by him, in petitioner's income upon the ground that the allocation made by petitioner was not bona fide for income tax purposes. He also held that petitioner's contributions to the partnership was derived from a loan from his wife in the amount of $12,611.10, that being the amount reported by petitioner in his 1943 return as the selling price of the stock of the corporation, and allowed him the amount of $756.67 as a deduction for interest thereon at the rate of 6 per cent per annum. Opinion No contention is being made by petitioner that his wife was a member of the partnership with Fein and Williams. Error by respondent236 in taxing him on all of his distributive share of the profits of the partnership is based upon refusal to recognize a partnership or joint venture between him and his wife, under which his earnings from the partnership were to be shared equally. Petitioner relies, in part, upon Rupple v. Kuhl, 177 Fed. (2d) 823, and similar cases. In that case, Rupple, the taxpayer, was refused a bank loan to acquire funds for contribution to a partnership without collateral from his wife to secure the loan. After discussing the problem with his wife, it was agreed that she was to finance the investment, that Rupple would contribute his services, and that profits and losses from the partnership venture would be shared equally between them. Later, the loan was obtained on a note, signed by both, secured by a pledge of individual property of the wife, and the proceeds were paid to the partnership for a one-third interest therein. The court held that a joint venture existed between Rupple and his wife with respect to his interest in the partnership, and, accordingly, taxed him on only one-half of the income from his partnership interest. Questions of the kind involved herein require careful237 consideration of all of the facts. Petitioner says that the partnership or joint venture between him and his wife was created by a verbal agreement reached in 1943 to the effect that in consideration of the transfer to him of assets distributable to her under her stock, she would be entitled to one-half of the income he derived from his partnership interest. Respondent argues that no agreement was entered into. Petitioner had the duty of proving such a relationship, and our first problem is to determine whether he met his burden. Petitioner testified on direct examination that when the formation of the partnership was being considered he and his wife discussed the matter and agreed that he should manage the interest to be acquired by him and divide the income with her equally. Testimony on cross-examination indicates that the agreement allegedly entered into in 1943 was nothing more than a continuation of the understanding had in 1932 respecting the stock. Petitioner's wife testified that if she had been asked the same questions propounded to petitioner that she would have given the same answers. Later, on direct examination, she testified that before the partnership was formed she238 and petitioner agreed upon the transfer of her interest in the corporation to him; that he would manage it for her; and that the earnings from the partnership would be divided between them on an equal basis. On cross-examination she testified that there was no occasion for a new agreement in July 1943 in view of the one reached in 1932, and that the 1932 agreement was the only one she ever had with petitioner on the subject, and that it was reduced to writing in 1945. Thereafter at the hearing, leading questions on redirect examination developed testimony from petitioner's wife that a specific agreement was reached in 1943 as to partnership earnings. Some of such testimony was given after petitioner's counsel had asked her if she wished to change her testimony. In addition to that confusing and conflicting testimony, petitioner reported, as taxable to him, all of his distributive share of the earnings of the partnership in 1943, and his wife filed no return for 1943, which action is directly opposed to an agreement at any time with respect to a joint venture or partnership covering petitioner's income from the firm. The partnership existed for five months of 1943. Had the petitioner239 and his wife then considered that she had income, in the amount of one-half of the $11,234.16 reported by him, it is difficult indeed to understand why she filed no return and he incurred greater tax rates by reporting the total amount. If they had a "specific" agreement for such division, as argued, the duty of each to return his share was equally specific, and would reasonably have been specifically in mind, especially since petitioner reported no income except salary from the corporation, capital gain from disposition of the corporation's stock and income from the partnership. Moreover, the wife testified that there was no agreement as to loss of the assets contributed to the partnership, and neither testified on the sharing of operating losses of the firm. Failure to so provide, though not conclusive, is some indication of lack of intent to form partnership. Stevens v. McKibbin, 68 Fed. 406; Cassidy v. Hall, 97 N.Y. 165">97 N.Y. 165. The return for 1943, as well as returns for prior years and for 1944, in which partnership earnings were divided equally, were prepared by the same accountant. Concerning the accountant's action in including all of the partnership's240 earnings in his 1943 return, petitioner testified that he did not know why the accountant prepared it that way; that the accountant knew of his agreement with his wife "all the time" and had known about it "for years" and "all through the years"; that he did not discuss the agreement with the accountant in connection with preparation of the 1943 or 1944 returns, since he was and had been aware of it; and that he did not know why the accountant included all of the income in the 1943 return and only one-half in 1944. We have considered and weighed all of this testimony and find it self-contradictory. We conclude therefrom that, in fact, no agreement was entered into in 1943 with respect to partnership income from Deauville Bags. Such an agreement did not even under petitioner's theory exist during the length of time petitioner testified the accountant had had knowledge of it. Moreover it is inconsistent with realities for petitioner to return all of the income with the alleged incomesharing agreement in existence, also for the accountant to change the method, for 1944, without specific instructions from petitioner. It would be illogical to conclude that petitioner was not aware of the241 manner in which the income was reported for 1943. Although the petitioner alleges and the answer admits, in effect, that the wife was the owner of one-third of the stock of the corporation, in his return for 1943 petitioner reported that he acquired the stock from 1932 to 1940 and included therein gain realized in 1943 on its disposition. Such report indicates that he regarded himself as the real owner of the stock at all times. If he had been such owner of the stock, there would be no logical basis for an agreement in 1943 such as contended for by petitioners; which is consistent with her statement that there was none. Assuming for discussion purposes, only, that an agreement was entered into in 1943, between petitioner and his wife, for division of his earnings from a partnership, as alleged by the petitioner, the proof fails to establish that such agreement between him and his wife created a joint venture or partnership between them in 1944, the year before us. The partnership formed in 1943 between the three men terminated by specific provision, at the close of 1943, and the proof does not indicate, but on the contrary negatives, any idea that the alleged husband-wife agreement242 covered more than, or continued beyond the life of that particular partnership between the men. Petitioner testified that he and his wife continued in 1945 an arrangement between them similar to 1944 and the part of 1943 when the partnership arrangement existed. That testimony, without more, is obviously not enough to establish in 1944 the kind of an agreement between him and his wife, as contended for by petitioner, for the arrangement in 1944 is unknown. The record is devoid of proof as to the agreement for conduct of Deauville Bags business for 1944, the taxable year. The partnership agreement, as above seen, specifically provided for its termination on December 31, 1943. This is consistent with the series of earlier agreements made by the same parties with the corporation providing specially for termination at December 31 of each year; also with the fact that the previous agreement had been continued to March 31, 1943, and then to June 30, 1943. These parties had been clearly and carefully limiting, as to time, the legal situations created by them, and we may not logically assume that they intended the partnership to last longer than 1943, in view of the specific provision for243 termination on December 31, 1943. Definite provision for that termination date negatives any intent that the partnership continue longer, in the absence of equally definite and written provision for continuance. What was the situation in 1944? Apparently the business continued, but upon what terms, after the termination of the partnership at the end of 1943, is not shown. The petitioner's theory is that the wife had an interest in petitioner's earnings from the partnership. In the absence of showing that there was a partnership between the three men in 1944, she is not shown to have any contractual interest in his earnings in 1944, the year before us, since the only contention is that she had a share in this part of profits in a partnership. The most that the record indicates as to 1944 is continuation of the business itself. We can not, without proof, infer a partnership between the three men with incidental right in the wife in petitioner's share, in 1944, or that the petitioner and wife intended a sharing of his earnings in 1944, at a time when no partnership is shown in existence. Though agreement of co-adventure or partnership need not be formal, it requires agreement express244 or implied and intent not demonstrated here. Accordingly, we are unable to conclude, from all of the evidence, that a bona fide partnership or joint venture existed, for income tax purposes, between petitioner and his wife in 1944 with respect to petitioner's interest in the partnership. The conclusion so reached requires consideration of the alternative issues raised by the petitioner. The petitioner contends under the first two alternative questions that $11,432.01, the amount of partnership income be allocated to his wife in his return, is deductible as an ordinary and necessary expense in a business or for the production of income within the meaning of section 23 (a) (1) (A) and (2) of the Code. His argument, like the contention he made under the primary issue, is based upon the existence of an agreement with his wife for an equal division of his share of the profits of the partnership. The nature of the alleged deduction is such that there could be no liability for an expense item of 50 per cent of the advances, without an agreement to pay. Cases relied upon by the petitioner such as Canfield v. Commissioner 168 Fed. (2d) 907, and Hartz v. Commissioner, 170 Fed. (2d) 313,245 involved payments made in accordance with partnership agreements. Here, as we have already pointed out, there is no proof of an agreement entered into in 1943 for a division of earnings from partnership profits as joint adventurers or partners, and no proof at all as to a 1944 partnership. No evidence was offered to prove an agreement to pay any specified amount for the mere use of funds of the wife for investment in the partnership, without any connection with an association as joint ventures or partners. We hold the amount claimed not to be deductible business expense. The facts respecting the interest question, the remaining alternative issue, bear upon the expense deductions. The Commissioner, in determining that no partnership between petitioner and wife existed for income tax purposes, construed petitioner's contribution to the partnership as a loan from his wife and allowed him a deduction of interest thereon at the rate of 6 per centum per annum. The petitioner insists that the investment was made by the wife in a joint venture and not in a loan to him, but that if a loan was made, the respondent had no right to reduce the interest thereon below one-half of petitioner's earnings246 from the partnership. The nature of the transaction between petitioner and his wife was a question of fact, subject to being determined by the respondent. His ruling here is presumed to rest upon a correct determination of the facts. Old Mission Portland Cement Co. v. Helvering, 293 U.S. 289">293 U.S. 289. We have found that there was no agreement between petitioner and his wife with respect to a division, as joint adventurers or partners. of the former's share of the profits of the business. The parties are in accord that the funds involved were those of the wife. In the absence of agreement, one has a right to reasonable compensation for the use of money. Miller v. Robertson, 266 U.S. 243">266 U.S. 243; Continental Nat'l Bank v. Ollney Nat'l Bank, 33 Fed. (2d) 437; 47 C.J.S. 22. The Commissioner allowed a deduction apparently on that theory. Even if his theory was wrong, the petitioner has the burden of proving the deficiency to be wrong and, if justified by the facts, should be upheld, though the reason for determining it be unsound. Edgar M. Carnrick, 21 B.T.A. 12">21 B.T.A. 12, 21; Estate of Sallie Houston Henry, 4 T.C. 423">4 T.C. 423, 437. We can not, under all247 the facts proven, say that the Commissioner erred. He did not alter a contract made, or make one for petitioner and his wife, but allowed a deduction. We find no error in the allowance of the deduction. Accordingly, we sustain the respondent's allowance under the alternative issues. Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621639/	ELIZABETH G. MARTINEZ, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, Respondent; JERRY G. MARTINEZ, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentMARTINEZ v. COMMISSIONERDocket Nos. 22479-88; 22480-88United States Tax CourtT.C. Memo 1989-649; 1989 Tax Ct. Memo LEXIS 650; 58 T.C.M. (CCH) 874; December 11, 1989Elizabeth G. Martinez, pro se. Jerry G. Martinez, pro se. Terri A. Merriam, for the respondent. FAYMEMORANDUM OPINION FAY, Judge: Respondent determined deficiencies in petitioners' Federal income tax as follows: Petitioner Elizabeth G. Martinez:Additions to Tax, SectionsYearDeficiency6651(a)(1) 16653(a)6653(a)(1)66546661(a)1978$ 9,795$ 2,449$ 490--$ 313--19798,4152,104421--351--198022,9175,7291,146--1,460--198111,2762,819--$ 564863--198210,5312,633--5271,025$ 2,633651 Petitioner Jerry G. Martinez:Additions to Tax, SectionsYearDeficiency6651(a)(1)6653(a)6653(a)(1)66546661(a)1978$ 11,229$ 2,807$ 561--$ 358--197910,2702,568514--428--198025,0156,2541,251--1,593--198114,0383,510--$ 7021,076--198213,5603,390--6781,321$ 3,390In each case respondent also determined an addition to tax under section 6653(a)(2) for taxable years 1981 and 1982 equal to 50 percent of the interest due on the deficiency. These cases are before us on respondent's Motion for Damages Under Section 6673. The record in these consolidated cases is replete with examples of petitioners' refusal to cooperate with respondent and their failure to comply with the rules and orders of this Court. At every turn of these proceedings petitioners have argued respondent bears the burden of proof because respondent purportedly determined petitioners' deficiencies in tax were due to fraud. Every time petitioners advanced that position this Court has determined, and advised petitioners, respondent never determined652 fraud against them. Without giving petitioners' assertions the dignity of lengthy discussion, some examples of when and how petitioners' frivolous arguments were raised and dismissed follow. Because petitioners refused to cooperate informally with respondent at the administrative level, respondent was forced to proceed with formal discovery. In docket No. 22479-88 respondent served on petitioner a request for production of documents and a request for admissions. In docket No. 22480-88 respondent served on petitioner a request for production of documents, a request for admissions, and interrogatories. Both petitioners failed to provide any of the documents requested, and denied requests for admission which could have been admitted. Petitioner Jerry G. Martinez's objections to the interrogatories served on him were unresponsive. In response to the vast majority of respondent's formal discovery attempts, petitioners objected, arguing they had no obligation to provide any of the information sought because respondent determined their deficiencies were attributable to fraud, and respondent, therefore, bore the burden of proof. Because of petitioners' lack of cooperation respondent653 sought enforcement by this Court of his formal discovery requests. Respondent filed motions to compel the production of documents and to review the sufficiency of petitioners' responses to respondent's requests for admissions and interrogatories. Respondent's motions were granted, and petitioners were ordered to produce to respondent the documents requested and to file amended responses to respondent's requests for admissions and interrogatories. Petitioners were instructed by the Court, with respect to each motion, respondent had not determined fraud against petitioners and the burden of proof was upon them. Petitioners were further instructed they must comply with the orders and rules of this Court or sanctions would be imposed. Petitioners ignored those warnings and did not provide the documents ordered to be produced. Petitioners also ignored this Court's orders and did not provide amended responses to respondent's requests for admissions and interrogatories. Despite this Court's repeated determination that respondent had not determined fraud against petitioners and they bore the burden of proof, petitioner Jerry G. Martinez filed a motion to place the burden of proof upon654 respondent, making the same frivolous argument concerning a purported determination by respondent that petitioners' deficiencies were attributable to fraud. That motion was denied. These cases were called from this Court's Trial Calendar in Seattle, Washington, on September 25, 1989. At that time respondent requested a pretrial conference be held in chambers among the parties and the Court. Respondent's request was granted, and the Court met with counsel for respondent and with petitioners. During the conference, the parties' failure to reach a stipulation of facts was discussed. Petitioners refused to stipulate to facts because they again asserted respondent bore the burden of proof. With patience, the Court went through each paragraph of respondent's proposed stipulation of facts with petitioners. As each item was discussed, petitioners could give no reason for not stipulating to the facts proposed by respondent. Repeatedly, petitioners argued respondent bore the burden of proof. Repeatedly, the Court instructed petitioners the burden of proof was upon them. Because no good cause could be given by petitioners for their refusal to stipulate, this Court ordered petitioners655 to abandon their frivolous argument concerning the burden of proof and to stipulate those facts which could reasonably be stipulated. The Court ordered petitioners to do so on or before 1:00 o'clock PM September 26, 1989, when these cases were to be recalled from the calendar. Despite this Court's patient review in chambers of the stipulations proposed by respondent, petitioners continued to refuse to stipulate as ordered. Petitioners instead stipulated to only three items in the proposed stipulation of facts. Petitioners refused to even stipulate they were married during the years in dispute despite their having represented to the Court they had been. When these cases were recalled, petitioners did not appear. Respondent moved to dismiss these cases for petitioners' failure to properly prosecute. Respondent also moved for damages under section 6673. This Court took respondent's motions under advisement and gave the parties time for the filing of briefs on the issue of damages under section 6673. Petitioners filed briefs in opposition to respondent's motion for damages. Petitioners' briefs advance the same tired and frivolous argument on the burden of proof issue. Section656 6673 provides: Whenever it appears to the Tax Court that proceedings before it have been instituted or maintained by the taxpayer primarily for delay, that the taxpayer's position in such proceeding is frivolous or groundless, or that the taxpayer unreasonably failed to pursue available administrative remedies, damages in an amount not in excess of $ 5,000 shall be awarded to the United States by the Tax Court in its decision. * * * In the case at bar, petitioners' continued assertion of arguments determined to be unfounded and frivolous was done primarily for delay. Further, petitioners' refusals to comply with this Court's rules concerning informal discovery and this Court's rules and orders concerning formal discovery were also primarily for purposes of delay. Such actions by petitioners demand the imposition of damages provided by section 6673. The amount of damages to be awarded the United States and against petitioners shall be the maximum amount under section 6673 for each docket number. Petitioners' actions throughout these cases, from the filing of their petitions to their arguing on brief the frivolous burden of proof issue previously decided, constitute a flagrant*657 and extraordinary abuse of process. Accordingly, we award damages to the United States and against petitioners in the amount of $ 5,000 in each docket pursuant to section 6673. Further, petitioners' flagrant flouting of this Court's rules and orders also compels the dismissal of these cases for petitioners' failure to properly prosecute. To reflect the foregoing, An appropriate order will be entered. Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended, and all Rule references are to the Tax Court Rules of Practice and Procedure, unless otherwise indicated.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621640/	Helen P. Gonsky v. Commissioner.Gonsky v. CommissionerDocket Nos. 11608-77, 2963-78, 10975-78.1United States Tax CourtT.C. Memo 1981-76; 1981 Tax Ct. Memo LEXIS 672; 41 T.C.M. (CCH) 940; T.C.M. (RIA) 81076; February 23, 1981. Joseph Weigel, 622 N. Water St., Milwaukee, Wis., for the petitioner. Wayne B. Henry, for the respondent. DAWSONMemorandum Findings of Fact and Opinion DAWSON, Judge: These cases were assigned to and heard by Special Trial Judge Marvin F. Peterson, pursuant to the provisions of Rule 180, Tax Court Rules of Practice and Procedure.2 The Court agrees with and adopts his opinion which is set forth below. Opinion of the Special Trial Judge PETERSON, Special Trial Judge: Respondent determined deficiences in and an addition to petitioner's Federal income tax as follows: Addition to TaxTaxableSection 6653(a)YearDeficiencyI.R.C. 1954 31973$ 1,976.1119742,004.8419752,759.85$ 137.991976114.46674 In his answer, respondent further increased compensation received from Lutheran Social petitioner's gross income by including compensation received from Lutheran Social Services during the year 1976 in the amount of $ 621.60, and disallowed an adjustment to income claimed in the amount of $ 15,300 and increased the asserted deficiency to a total of $ 4,118.39. After concessions, the issues for decision are (1) whether certain compensation earned by petitioner during each of the years which were assigned to a family trust are taxable to petitioner; and (2) whether petitioner is liable for an addition to tax for negligence under section 6653(a). Findings of Fact Some of the facts have been stipulated by the parties and are found accordingly. Petitioner resided in the State of Wisconsin when she filed her petitions herein. Petitioner filed a timely joint income tax return with her husband, Ralph W. Gousky, for each of the years 1973 through 1975, and filed a separate income tax return for the year 1976, with the Internal Revenue Service Center, Kansas City, Missouri. 675 During each of the years involved, petitioner was employed by Lutheran Social Services of Wisconsin and Upper Michigan in Racine, Wisconsin. Petitioner performed her duties as a social worker. Petitioner's employment was directly under the supervision and control of Lutheran Social Services. On December 2, 1972, petitioner executed a document entitled "Declaration of Trust of This Constitutional Trust." The document was executed by petitioner for the purpose of creating a trust known as the Helen P. Gonsky Family Estate (A Trust) (hereinafter Trust). The declared purpose of the Trust was: * * * to accept rights, title and interest in real and personal properties conveyed by THE GRANTOR CREATOR HEREOF. Included therein is the exclusive use of his or her lifetime services and ALL OF his or her EARNED REMUNERATION ACCURING THEREFROM, from any current source whatsoever, * * . The Trust document was signed by Ralph W. Gonsky and Beth E. Roscizewski, petitioner's daughter, as the Trustees. The Trust was to continue for a period of 25 years unless the trustees unanimously determined to terminate the Trust at an earlier date at which time the assets of the Trust would be distributed676 to the beneficiaries. Shortly after the creation of the Trust, petitioner was appointed a trustee. On December 6, 1972, petitioner was appointed the Executive Manager of the Trust and her husband was appointed Executive Secretary of the Trust for the life of the Trust. The Trust's Manager, Secretary and all other officers were to be paid as independent consultants and in such amount as determined by the majority of the trustees. On December 6, 1972, petitioner executed certain documents which conveyed certain real property, and personal property, and life insurance policies to the Trust. Also, on December 6, 1972, petitioner signed a document which conveyed to the Trust "* * * exclusive use of my lifetime services and all of the currently earned remuneration accruing therefrom." On December 4, 1972, petitioner and her husband signed a document purporting to be an employment agreement between themselves and the Trust in which the Trust retained their services as the executive manager and executive secretary, respectively. Article III of the Agreement, provides "the managers shall be entitled to remuneration for their services and shall from time to time submit statements for677 their consultant fees for an amount mutually agreed upon between the managers and the trustees, substantiated by the minutes of the Trust." Documents entitled "Units of Beneficial Interest" were issued. These documents provided, in part, that each certificate of benefical interest "conveys no interest of any kind in the Trust assets, management or control thereof." On December 2, 1972, the Trust initially issued 100 units to petitioner. On this same date, petitioner made various transfers which resulted in the following persons holding the beneficial units in the Trust: Helen P. Gonsky15Beth Roscizewski35Karen Franklin35Furid for CommunityService to Christ15During the years at issue, the Trust did not have an employment contract with Lutheran Social Services. However, Lutheran Social Services made payment to the Trust for the services performed by petitioner for a period of time pursuant to petitioner's request. Although Lutheran Social Services made payment directly to the Trust pursuant to petitioner's request, Lutheran Social Services refused petitioner's request to pay the gross salary without reduction for withholding or other employee678 taxes. Petitioner claimed the withholding tax as a credit on her income tax returns. During each of the years involved petitioner earned compensation for services performed for Lutheran Social Services as follows: YearAmount1973$ 12,629.58197412,674.08197514,108.89197615,921.60Petitioner did not report her compensation in 1973 and 1974 and claimed an off-setting deduction in 1975 and 1976, to reflect the assignment of income to the Trust. In addition, petitioner reported consulting fees from the Trust. Petitioner made all of the decisions concerning the Trust including the amount of the consulting fees. Further, she caused the Trust to pay many of her personal expenses during each of the years involved. The Trust filed Fiduciary Income Tax Returns (Form 1041) for the years 1973 through 1976 with the Internal Revenue Service Center at Kansas City, Missouri. In his notice of deficiency to petitioner respondent determined that all of the compensation received by the Trust from Lutheran Social Services during each of the years was earned by and taxable to petitioner. Also, for the year 1975, respondent asserted the addition to tax for negligence. 679 Opinion The basic issue in this case is whether the purported conveyance by petitioner of her property and lifetime services to the Trust was effective to shift the incidence of taxation on the compensation received each year from petitioner to the Trust. Petitioner contends that a valid trust was created and the assignment of her lifetime services and all the income accruing therefrom was sufficient to shift the incidence of taxation from herself to the Trust. Petitioner argues that the question involved herein is the right to contract under the United States Constitution and not whether there was as assignment of income from petitioner to the Trust. As a result of the assignment, petitioner argues that she performed service as an agent for the Trust in that her services were subcontracted to her employer. Petitioner argues the assignment was complete as evidenced by the fact that Lutheran Social Services made payment directly to the Trust for the services rendered. Respondent disagrees with petitioner's position and maintains that the Trust lacks economic reality, that the compensation received by the Trust was an anticipatory assignment of income ineffective to treat the680 compensation as that of the Trust, and that any income earned by the Trust is taxable to petitioner under the grantor trust provisions set forth in sections 671 through 677. We agree with respondent that the compensation received from Lutheran Social Services is taxable to petitioner. It is true that petitioner has a constitutional right to enter into contractual arrangements. But it is also true that a taxpayer may not enter into such arrangements that are designed simply to alter the Federal income tax consequences of income between various entities without regard to the true earner of such income. Lucas v. Earl , 281 U.S. 111">281 U.S. 111 (1930). As stated by the Supreme Court the "first principle of income taxation" is that income must be taxed to the one who earns it. Commissioner v. Culberison , 337 U.S. 733">337 U.S. 733, 739-740 (1949). Further, it is the person or entity that controls the earning of the income, and not the one who ultimately receives it, that must pay the income tax thereon. American Savings Bank v. Commissioner , 56 T.C. 828">56 T.C. 828, 838-839 (1971); Wesenberg v. Commissioner , 69 T.C. 1005">69 T.C. 1005 (1978). As we said in American Savings Bank v. Commissioner, supra at 839,681 the factual background must be carefully scrutinized to determine the person that earns the income. In the instant case petitioner executed documents which assigned her services to the Trust and all of her earned income. However, the record is clear that petitioner in her individual capacity continued her employment relationship with her employer. The Trust had no contract with the employer to perform services and, therefore, had no control over the income earned. Petitioner had complete control of her employment contract and the earning of her income. Petitioner's employment relationship with her employer was not affected in any way by the formation of the Trust. We recognize that Lutheran Social Services made payment for the services rendered directly to the Trust, but we also recognize that such payments were made solely on the basis of petitioner's request, and not on the basis of any contractual arrangement between the Trust and Lutheran Social Services. From the facts in this case it is evident that petitioner's conveyance to the Trust is a classic case of a taxpayer attempting to shift the incidence of taxation on her earned income to another entity. In applying the682 Supreme Court's rule that income is taxed to the one who earns it, the crucial point to consider is not the timing of the assignment, but the earning of the income. Therefore, the fact that the assignment predates the earning of the income is of no help to petitioner's cause in this case since petitioner continued to earn the income. Accordingly, we hold that all amounts of income reported by the Trust during the year from Lutheran Social Services were earned by the petitioner. The Trust involved herein is no more effective to shift the incidence of tax from petitioner to the Trust than a number of other factually similar cases where we also held such arrangements were not effective to shift the incidence of taxation from the taxpayer to the trust. See Vercio v. Commissioner , 73 T.C. 1246">73 T.C. 1246, 1254 (1980); Markosian v. Commissioner , 73 T.C. 1235">73 T.C. 1235 (1980); Wesenberg v. Commissioner , 69 T.C. 1005">69 T.C. 1005, 1011 (1978); Vnuk v. Commissioner , 621 F. 2d 1318 (8th Cir. 1980), affg. T.C. Memo 1979-164">T.C. Memo. 1979-164; Horvat v. Commissioner , T.C. Memo. 1977-104, affd. by unpublished order (7th Cir. June 7, 1978), cert. denied 440 U.S. 959">440 U.S. 959 (1979);683 Taylor v. Commissioner , T.C. Memo. 1980-313; and Gran v. Commissioner , T.C. Memo 1980-558">T.C. Memo. 1980-558. Further, petitioner's argument that the income is not taxable to her since she was acting as an agent or subcontractor of the Trust while performing services is without merit. In Vnuk v. Commissioner, supra at 1320, the Court of Appeals said: On appeal petitioners first argue that the Tax Court erred in concluding that the conveyance of life-time services to the Trust was ineffective to shift the incidence of taxation. Petitioners contend that where, as here, an individual performs services as an agent or "leased employee" of a trust, it is the trust, rather than the individual, that is taxed on the income accruing from the services. Cf. Rubin v. Commissioner , 429 F. 2d 650 (2d Cir. 1970); Fox v. Commissioner , 37 B.T.A. 271">37 B.T.A. 271 (1938); Laughton v. Commissioner , 40 B.T.A. 101">40 B.T.A. 101 (1938), rev'd on other grounds, 113 F. 2d 103 (9th Cir. 1940). This argument has no merit. And in footnote 5, page 1321, of the Vnuk opinion, the Eighth Circuit commented: Because of these factors, the present case is684 readily distinguishable from the so-called "employee lend-out" cases where the courts have held a corporation rather than the employee is taxable. In those cases the employee was legally obligated to provide services to the corporation and the corporation had the right to direct the employee's activities and to control the amount of income the employee received for those activities. See, e.g., Rubin v. Commissioner, supra; Fox v. Commissioner, supra; Laughton v. Commissioner, supra . In addition petitioner unconditionally assigned her services and income to the Trust under an arrangement which allowed the majority of the trustees to determine the amount of the consulting fee to be received from the Trust. Not only is such an indefinite and loose agreement unenforceable, but it is unrealistic and without economic substance to conclude that a taxpayer would agree to turn over all of his earned income for an unspecified payment under such circumstances unless he was in control of the trust or other entity. Where a trust has no valid purpose other than tax avoidance it loses its economic reality, which, in turn, mandates that we disregard any*685 attempt to shift income to a mere paper entity. See Markosian v. Commissioner, supra at 1245. Respondent asserted the addition to tax under section 6653(a) for the year 1975 on the ground that petitioner was negligent or intentionally disregarded the income tax rules and regulations in preparing her returns. Although petitioner failed to address this issue in her brief and failed to submit evidence at the trial of this case, we shall still consider the issue. Petitioner has the burden to overcome the presumption of correctness of respondent's determination. Welch v. Helvering , 290 U.S. 111">290 U.S. 111 (1933); Rule 142(a), Tax Court Rules of Practice and Procedure. A review of the record as a whole makes it clear that petitioner entered into the trust scheme solely for the purpose of tax avoidance and did not make reasonable inquiry as to the income tax validity of such action. Accordingly, the addition to tax under section 6653(a) was properly asserted for the year 1975. To reflect the conclusions reached herein. Decisions will be entered under Rule 155 . Footnotes1. These cases were consolidated for the purposes of trial, briefing and opinion.↩2. The Court granted a joint motion filed by the parties to waive the post-trial procedures set forth in Rule 182.↩3. 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/4621641/	National Bank of Commerce, Petitioner, v. Commissioner of Internal Revenue, RespondentNational Bank of Commerce v. CommissionerDocket No. 27771United States Tax Court16 T.C. 769; 1951 U.S. Tax Ct. LEXIS 226; April 13, 1951, Promulgated 226 Decision will be entered for the respondent. Petitioner, a national banking corporation, in its regular course of business issued interest bearing nonnegotiable certificates of deposit which were not subject to check and with maturity dates of either 6 or 12 months. In its regular course of business petitioner accepted savings deposits evidenced by passbooks which deposits were not subject to check and the withdrawal of which petitioner required 60 days notice. Held, petitioner's outstanding indebtedness evidenced by the certificates of deposit and savings passbooks is not includible in borrowed capital under section 719 (a) (1) of the Internal Revenue Code and section 35.719-1 of Regulations 112. Commissioner v. Ames Trust & Savings Bank, 185 F.2d 47">185 F. 2d 47, followed. Thomas J. Reilly, Esq., for the petitioner.D. Louis Bergeron, Esq., for the respondent. Black, Judge. Opper, J., dissenting. BLACK 769 The Commissioner has determined a deficiency in petitioner's excess profits tax liability for the calendar year 1945 in the amount of $ 91,077.77.The only part of the deficiency in contest results from respondent's adjustment of petitioner's borrowed invested capital for determining petitioner's excess profits credit for the calendar year 1945 and its unused excess profits credit carry-over for the calendar year 1943. This adjustment was explained in the deficiency notice as follows:It is held that amounts due your depositors, represented by so-called certificates of deposits and/or passbooks, do not represent borrowed capital. Such indebtedness is not of a type allowed under the provisions of section 719 (a) (1) of the Internal Revenue Code, and/or section 35.719-1 of Regulations 112.By appropriate assignment of error petitioner contests this adjustment.770 FINDINGS OF FACT.All of the facts have been stipulated and we adopt them as our findings of fact. They may be summarized as follows: 228 Petitioner is a United States national banking corporation with its place of business in San Antonio, Texas. Petitioner's income and declared value excess-profits tax return and its excess profits tax return for the calendar year 1945 were timely filed with the collector for the first district of Texas. Petitioner's excess profits credit for the calendar years involved is based upon invested capital.Petitioner in its regular course of business issued certificates of deposit the form of which was as follows:[EDITOR'S NOTE: TEXT WITHIN THESE SYMBOLS [O> <O] IS OVERSTRUCK IN THE SOURCE.]NOT NEGOTIABLENOT SUBJECT TO CHECKCERTIFICATE OF DEPOSIT 30-11Number A7813NATIONAL BANK OF COMMERCEof San AntonioSan Antonio, Texas, 19 $ This certifies that he Deposited in this bank DOLLARS Payable to in current funds Months after date with interest at the rate of per cent per annum on the return of this certificate properly endorsed. No interest after [O> one year from <O]/ maturity date. In keeping with the regulations of the Federal Reserve Board, this bank may require thirty days notice of the withdrawal of this deposit.229 Countersigned /Teller /Vice President and CashierAsst. CashierPetitioner had outstanding indebtedness evidenced by these certificates of deposits for the calendar years 1943 and 1945, in the daily average amounts of $ 72,498.36 and $ 199,263.34, respectively. Each of these outstanding certificates of deposit had a maturity date of either 6 or 12 months from the date of issue. It was petitioner's practice to repay the principal amount of these certificates only upon maturity, except where the holder made a showing of unusual circumstances and forfeited accrued interest for the preceeding 6 months. Petitioner paid interest on these certificates of deposit for the calendar years 1943 and 1945 in the respective amounts of $ 607.72 and $ 1,891.42.Petitioner in its regular course of business accepted savings deposits and each depositor was issued a passbook wherein it was provided inter alia:This book is accepted and all deposits are made subject to the By-Laws of the Bank as herein printed and made a part of this deposit contract.No payments can be made or money withdrawn without presentation of this book.771 The rules and regulations governing savings deposits230 and payments are printed in the passbook and the material provisions thereof are as follows:1. Each account and pass book will be known by its number, as well as by the name of the owner. Each depositor, in opening a savings account with this Bank agrees to be governed by the rules and regulations of the Savings Department of the National Bank of Commerce.2. Interest will be allowed on deposits, even dollars, at such rate or rates as may be determined by the Bank from time to time, the calculation beginning on the first day of the month succeeding the deposit, on all sums which have been in the bank three or more months. No interest will be paid between interest dates or on sums withdrawn between those dates. Interest will be allowed only when it amounts to 25 cents or more for any interest period.June 30th and December 31st shall be interest dates and interest will be credited to all Savings Accounts only on those lates. * 3. Deposits made in our Savings Department are not subject to check. * ** * * 5. Sixty days' notice in writing is required for any withdrawal of deposits in our Savings Department. * * 7. Sixty days after notice to withdraw a deposit is given231 to any depositor personally or by mail to the address on the books of the Bank, interest on said deposit shall cease.8. Acceptance of pass books shall be considered and held as an assent to these regulations.Petitioner had outstanding indebtedness evidenced by savings deposits for the calendar years 1943 and 1945, in the average daily amounts of $ 3,701,481.53 and $ 6,391,696.21, respectively. Petitioner paid interest on savings deposits for the calendar years 1943 and 1945 in the respective amounts of $ 56,149.71 and $ 61,754.51. Petitioner has paid to the collector for the first district of Texas $ 40,000 of the deficiency in excess profits tax determined for the calendar year, 1945.OPINION.The only issues we have to decide in this proceeding are whether petitioner is entitled under section 719 (a) (1) of the Internal Revenue Code, 1 to include in borrowed invested capital for 1943, and 1945, 50 per cent of (1) its daily average amount of certificates of deposits outstanding and (2) its daily average savings deposits evidenced by passbooks.232 The Court of Appeals for the Eighth Circuit has decided that a time certificate of deposit is not a "certificate of indebtedness" includible 772 in the borrowed invested capital of a banking corporation within the meaning of section 719 (a) (1), I. R. C.Commissioner v. Ames Trust & Savings Bank, 185 F. 2d 47, reversing our decision in 12 T. C. 770. In reversing this Court the Eighth Circuit approved that portion of section 35.719-1 of Regulations 112 relating to bank deposits, which is printed in the margin, 2 and held that this regulation referred to time deposits as well as demand deposits.233 Faced with the same question presented in the Ames case, we must now decide whether we will stand by our decision in that case and respectfully decline to follow the Eighth Circuit's decision or whether we will accept it as laying down the correct law and follow it in the instant case. See discussion in Estate of William E. Edmonds, 16 T.C. 110">16 T. C. 110. We have examined the opinion of the Eighth Circuit in the Ames case and we decide to follow it and no longer follow our own decision in the Ames Trust & Savings Bank, 12 T.C. 770">12 T. C. 770.Borrowed invested capital within the meaning of section 719 (a) (1) is capital invested in the business ( Player Realty Co., 9 T. C. 215), and it must be evidenced by a document answering the statutory description of "bond, note, bill of exchange, debenture, certificate of indebtedness, mortgage, or deed of trust." West Construction Co., 7 T. C. 974; Canister Co., 7 T. C. 967, affd., 164 F. 2d 579; Journal Publishing Co., 3 T. C. 518. In Ciro of Bond Street, Inc., 188">11 T. C. 188,234 we cited with approval that portion of Regulations 112, section 35.719-1 which states that:The term "certificate of indebtedness" includes only instruments having the general character of investment securities issued by a corporation as distinguishable from instruments evidencing debts arising in ordinary transactions between individuals. * * The Eighth Circuit pointed out in the Ames case that bank deposits do not have the character of investment securities and in 5 Zollmann, Bank and Banking § 3154, is found the following:The main purpose of a loan is investment. The main purpose of a deposit is safe-keeping. A deposit clearly is not a loan pure and simple. The depositor deals with the bank not merely on the basis that it is a borrower, but that it is a bank subject to the provisions of law relating to the custody and disposition of the money deposited and that the bank will faithfully observe such provisions. The loan in effect is on condition that the use conform to the safeguards provided 773 by law. The acceptance of such deposit implies that the bank and its directors agree to conform to the conditions named.In addition to this and the opinion of the 235 Eighth Circuit in the Ames case we have new evidence as to the Congressional intent of including certificates of deposit in the borrowed invested capital of a banking corporation.It is a principle of statutory construction that where the doubtful meaning of a former statute is rendered certain by subsequent legislation the recent legislation is strong evidence of what the legislature intended by the first statute. Wetmore v. Marko, 196 U.S. 68">196 U.S. 68; Johnson v. Southern Pacific Co., 196 U.S. 1">196 U.S. 1; Bailey v. Clark, 21 Wall. (88 U.S.) 284; State of Minnesota v. Keeley, 126 F. 866">126 F. 866; Sutherland, Statutory Construction (3d ed., 1943) section 5110.Since the date of the decision of the Eighth Circuit in Commissioner v. Ames Trust & Savings Bank, supra, Congress has enacted the "Excess Profits Tax Act of 1950" Public Law 909 -- 81st Congress, 2d Session, approved January 3, 1951.Section 439 of the Excess Profits Tax Act of 1950 provides in part as follows:SEC. 439 BORROWED CAPITAL.(a) Average Borrowed Capital. 236 -- For the purposes of this subchapter, the average borrowed capital for any taxable year shall be the aggregate of the daily borrowed capital for each day of such taxable year, divided by the number of days in such taxable year.(b) Daily Borrowed Capital. -- For the purposes of this subchapter, the daily borrowed capital for any day of any taxable year shall be determined as of the beginning of such day and shall be the sum of the following:(1) the amount of the outstanding indebtedness (not including interest) of the taxpayer, incurred in good faith for the purposes of the business, which is evidenced by a bond, note, bill of exchange, debenture, certificate of indebtedness, mortgage, deed of trust, bank loan agreement, or conditional sales contract. In the case of property of the taxpayer subject to a mortgage or other lien, the amount of indebtedness secured by such mortgage or lien shall be considered as an indebtedness of the taxpayer whether or not the taxpayer assumed or agreed to pay such indebtedness, plus* * * This section as finally enacted was prepared by the Senate Finance Committee and the following language contained in Senate Report 2679, 81st Congress, 2d237 session, December 18, 1950, explains this section as follows:(c) Definition of borrowed capital. -- Borrowed capital, under your committee's bill, is indebtedness (but not including interest) which is evidenced by a bond, note, bill of exchange, debenture, certificate of indebtedness, mortgage, deed of trust, bank loan agreement, or conditional sales contract. This is substantially the same definition as appears in the House bill. However, your committee's bill limits the amount to be considered as borrowed capital to outstanding indebtedness "incurred in good faith for the purposes of the business." 774 No such limitation was contained in the House bill although the report of the House committee indicated that it was intended to limit indebtedness treated as borrowed capital to indebtedness "employed in the trade or business." The definition of borrowed capital in both the House bill and your committee's bill is substantially the same as the definition appearing in the World War II statute except for the addition of conditional sales contracts and bank loan agreements. Conditional sales contracts are a form of borrowing which has been used extensively, and your committee238 believes that their omission from the definition of borrowed capital would work a hardship on taxpayers borrowing substantial amounts in this manner. The category of indebtedness evidenced by a bank loan agreement, added by your committee's bill, includes such indebtedness owing to a bank, and does not include the indebtedness of a bank to its depositors. [Emphasis added.]The only reason we can see for the explanation of the Senate Finance Committee that "The category of indebtedness evidenced by a bank loan agreement * * * does not include the indebtedness of a bank to its depositors," is that the indebtedness of a bank to its depositors is under no portion of section 439 to be included in borrowed capital. If the indebtedness of a bank to its depositors were includible in borrowed capital under the words "certificate of indebtedness" then it would be without meaning to exclude it under "a bank loan agreement" and we, therefore, conclude that the indebtedness of a bank to its depositors is not within the definition of borrowed invested capital evidenced by a certificate of indebtedness. We, therefore, hold that petitioner's outstanding certificates of deposit are not239 includible in its borrowed invested capital under section 719 (a) (1).The other issue in this proceeding involves the includibility of petitioner's daily average savings deposits evidenced by passbooks. In accordance with petitioner's rules regulating its savings deposits these deposits must be treated as time, rather than demand deposits. We can see, however, no substantial distinction between the character of petitioner's time certificates of deposit and its savings deposits. Like the certificates of deposit, these passbooks evidenced deposits in the banking business of petitioner and we believe that Congress did not intend that they should be included in borrowed invested capital under section 719 (a) (1).Decision will be entered for the respondent. OPPEROpper, J., dissenting: I respectfully express my disagreement with the result presently being reached, not only for the reasons stated in Ames Trust & Savings Bank, 12 T. C. 770, but also on the authority of Economy Savings & Loan Co., 543">5 T. C. 543, which is patently indistinguishable from the present proceeding but has not been overruled. Footnotes1. SEC. 719. BORROWED INVESTED CAPITAL.(a) Borrowed Capital. -- The borrowed capital for any day of any taxable year shall be determined as of the beginning of such day and shall be the sum of the following: (1) The amount of the outstanding indebtedness (not including interest, and not including indebtedness described in section 751 (b) relating to certain exchanges) of the taxpayer which is evidenced by a bond, note, bill of exchange, debenture, certificate of indebtedness, mortgage, or deed of trust * ↩2. SEC. 35.719-1 Borrowed Invested Capital. -- * ** * * (d) * ** * * The term "certificate of indebtedness" includes only instruments having the general character of investment securities issued by a corporation as distinguishable from instruments evidencing debts arising in ordinary transactions between individuals. Borrowed capital does not include indebtedness incurred by a bank arising out of the receipt of a deposit and evidenced, for example, by a certificate of deposit, a passbook, a cashier's check, or a certified check. * * *↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621642/	JAMES AND NOREEN AVANCENA, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentAvancena v. CommissionerDocket No. 28026-89.United States Tax CourtT.C. Memo 1992-337; 1992 Tax Ct. Memo LEXIS 366; 63 T.C.M. (CCH) 3133; June 15, 1992, Filed 366 An appropriate order and decision will be entered. Jane Moretz Edmisten, for petitioners. David L. Click, for respondent. CANTRELCANTRELMEMORANDUM OPINION CANTREL, Special Trial Judge: This case was assigned pursuant to the provisions of section 7443A(b)(3) and Rules 180, 181, and 182. 1This matter is before the Court on petitioners' Motion for Attorney's Fees and Litigation Costs (motion for costs) under section 7430 and Rule 231. By statutory notice of deficiency dated September 7, 1989, respondent determined a deficiency in petitioners' Federal income tax for the calendar year 1986 in the amount of $ 2,905. She further determined additions to tax for negligence under section 6653(a)(1)(A) in the amount of $ 145, and under section 6653(a)(1)(B) in the amount of 50 percent of the interest due on $ 367 2,905. At the calendar call for the case, the parties submitted a signed Stipulation of Settlement in which they agreed that there is no deficiency in income tax due from, nor overpayment due to, petitioners for 1986. Respondent concedes that petitioners have substantially prevailed on the contested issue. The issues for decision are: (1) Whether petitioners have demonstrated that they meet the net worth requirements of section 7430(c)(4)(A)(iii) and the Equal Access to Justice Act (EAJA), 28 U.S.C. section 2412(d)(2)(B) (1986) as set forth in Rule 231(b)(5); (2) whether petitioners exhausted all administrative remedies; (3) whether respondent's position relating to a deduction of mortgage interest on petitioners' 1986 tax return was not substantially justified; and (4) the amount of litigation costs to be awarded. In accordance with Rule 232, the parties have submitted affidavits and memoranda supporting their positions. We decide the motion for costs based on petitioners' motion, respondent's objection, petitioners' response to respondent's objection, and affidavits and exhibits provided by both parties. There are conflicts of facts presented by each party. Neither party368 requested a hearing, however, and we conclude that a hearing is not necessary for the proper consideration and disposition of this motion because the facts in dispute are not relevant to our conclusion. Rule 232(a)(3). The relevant facts as drawn from the record are set out below. BackgroundPetitioners were husband and wife residing in Potomac, Maryland, when they filed their petition in this case. On their 1986 Federal income tax return petitioners claimed a deduction on line 11a of Schedule A, Itemized Deductions, for home mortgage interest in the amount of $ 15,158. In addition, petitioners claimed a deduction on line 13 of Schedule A for other interest paid in the amount of $ 12,143. On a supporting schedule for Schedule A, petitioners detailed the other interest paid as follows: Lending InstitutionAmount paidDominion Bank$ 2,446Dominion Bank 258Dominion Fed1,684Home Unity3,998Sovran Bank25Sovran Bank31Riggs Bank835Riggs Bank102Riggs Bank2,616Riggs Bank148Total$ 12,143No supporting schedule was attached for the home mortgage interest deduction claimed on line 11a of Schedule A. By form letter CP-2000, dated February369 28, 1989, the Internal Revenue Service Center in Philadelphia, Pennsylvania (the Philadelphia Service Center or the Service Center), sent petitioners a Notice of Proposed Changes to Income, Payments, Credits, or Deductions (the Notice), which stated, among other things, the following: HOME MORTGAGE INTEREST THE AMOUNT OF HOME MORTGAGE INTEREST YOU CLAIMED AS AN ITEMIZED DEDUCTION WAS NOT SUBSTANTIATED BY YOUR LENDER OR IS LARGER THAN THE AMOUNT REPORTED BY YOUR LENDER. PLEASE PROVIDE VERIFICATION OF THE AMOUNT YOU CLAIMED ON SCHEDULE A, LINE 11A. AMOUNTS REPORTED TO IRS BUT NOT IDENTIFIED, FULLY REPORTED, OR CORRECTLY DEDUCTED ON YOUR INCOME TAX RETURN FOR 1986. DOMINION BANK * * * ISSUED 1098 TO [SSN] MORTGAGE INTEREST $ 1,684 ACCOUNT NUMBER * * * DOMINION FEDERAL SAVINGS * * * ISSUED 1098 TO [SSN] MORTGAGE INTEREST $ 7,545 ACCOUNT NUMBER * * * The Notice advised petitioners, among other things, as follows: PLEASE COMPARE YOUR RECORDS WITH THE INFORMATION SHOWN * * . BECAUSE OF THE CHANGES, THERE IS AN INCREASE IN YOUR TAX AND YOU HAVE A BALANCE DUE. IF YOU AGREE THAT THE CHANGES ARE CORRECT, SIGN THE CONSENT AT THE BOTTOM OF THIS PAGE, ENCLOSE YOUR PAYMENT370 IF POSSIBLE, AND RETURN IT IN THE ENCLOSED ENVELOPE. IF YOU BELIEVE THE PROPOSED CHANGES ARE NOT APPROPRIATE, OR THAT THE INFORMATION PROVIDED TO US WAS INCORRECT, IT IS IMPORTANT THAT WE RECEIVE YOUR SIGNED STATEMENT OF EXPLANATION AND SUPPORTING DOCUMENTATION AT THE ADDRESS SHOWN ABOVE, WITHIN 30 DAYS OF THE DATE OF THIS NOTICE (OR 60 DAYS IF IT IS ADDRESSED TO YOU OUTSIDE THE UNITED STATES). IF WE DO NOT RECEIVE YOUR RESPONSE WITHIN THIS PERIOD, WE WILL ASSUME THE PROPOSED CHANGES TO YOUR TAX RETURN ARE NECESSARY. YOU WILL THEN RECEIVE A NOTICE OF DEFICIENCY OF TAX (WHICH YOU MAY CONTEST IN COURT IF YOU BELIEVE YOU DO NOT OWE THE ADDITIONAL TAX), FOLLOWED BY A FINAL BILL FOR THE AMOUNT SHOWN ON PAGE 2. (SEE ENCLOSED PUBLICATION FOR YOUR APPEAL RIGHTS). On September 7, 1989, after receiving no response to the Notice, the Philadelphia Service Center issued a notice of deficiency (the statutory notice) to petitioners in which petitioners' taxable income for 1986 was increased by $ 5,929. This increase represents the difference between the amount of home mortgage interest deduction petitioners claimed on their 1986 tax return ($ 15,158) less the amount reported to respondent 371 on Forms 1098, Mortgage Interest Statement, as home mortgage interest paid by petitioners ($ 1,684 plus $ 7,545 equals $ 9,229). Petitioners' accountant, Everett M. Raffel (Mr. Raffel), responded to the statutory notice on September 12, 1989, by mailing to the Philadelphia Service Center a copy of a Form 1098 for 1986 issued to petitioner Noreen B. Avancena by Home Unity Mortgage Service, Inc. (Home Unity) reflecting payment of mortgage interest in the amount of $ 7,022.13. In his cover letter, Mr. Raffel stated, among other things, the following: Enclosed please find copy of your latest letter of 9 September 1989 [sic] reiterating a deficiency in individual tax payments for the year 1986 based upon an apparent non-appearance in your records of a mortgage payment by taxpayers. This office is again enclosing copies of the 1098 issued to taxpayers by Home Unity Mortgage and a copy of the annual loan statement by said mortgagor which verifies the properly claimed deduction by taxpayers, and thus there would be no deficiency in tax payments. There is no evidence in the record that the Philadelphia Service Center ever received a copy of the Form 1098 from Home Unity or Mr. Raffel372 before the Service Center issued the statutory notice to petitioners. Nor is there any evidence that Mr. Raffel or petitioners ever mailed a copy of that form to the Philadelphia Service Center before the Service Center issued the statutory notice to petitioners. On October 18, 1989, petitioner James Avancena (Mr. Avancena) called the Philadelphia Service Center about the statutory notice and talked to Ms. Harriet Kramer (Ms. Kramer). In brief, Mr. Avancena informed Ms. Kramer that his accountant twice before had forwarded verification for the 1986 home mortgage interest deduction. Ms. Kramer could not locate the administrative file for petitioners' 1986 return. She speculated that an examiner was reviewing the documentation and suggested that Mr. Avancena call back in 3 weeks. Mr. Avancena attempted to call the Philadelphia Service Center again on November 8 and 9, 1989, but the telephone lines were busy each time he called. Thereafter, on November 21, 1989, petitioners timely filed the petition in this case seeking a redetermination of tax and additions to tax for 1986. By letter dated November 27, 1989 (the November 27 letter), the Philadelphia Service Center informed petitioners373 that the information they submitted regarding the home mortgage interest deduction for 1986 had cleared up the discrepancy. As a result, on the basis of this information, the Service Center accepted petitioners' 1986 return as filed. The parties do not agree totally on the series of events which followed petitioners' receipt of the November 27 letter from the Philadelphia Service Center. It appears that petitioners' counsel attempted to contact respondent's counsel after petitioners received the November 27 letter but, for unexplained reasons, her telephone calls were not returned. Petitioners' counsel finally talked to respondent's counsel (then assigned to this case) on December 20, 1989. The details of their conversation are not in the record; however, apparently respondent's counsel promised to call petitioners' counsel later, presumably after locating the administrative file. Respondent then filed her answer to the petition on January 18, 1990. In the answer respondent denied that respondent's determination of tax in the statutory notice was in error and denied for lack of information the facts alleged in the petition as a basis for petitioners' case. Respondent's counsel374 prepared the answer without access to the administrative file. The record does not reveal the location of the administrative file when the answer was filed. Petitioners' counsel wrote to respondent's counsel on March 20, 1990, to inquire about the status of the case. In this letter petitioners' counsel states, among other things, the following: As you will recall, we discussed the above-referenced case some weeks ago and you indicated during our conversation that you would get back to me within a couple of days regarding the possibility of settlement after having obtained the documents provided by the taxpayers to the IRS previously. I indicated to you at the time that there really is no issue in this case; the taxpayers have the documentation required to substantiate their deductions and the IRS had previously ignored submission of the documentation. Respondent's reply of April 2, 1990, advised petitioners' counsel that the District Counsel's office still had not received the administrative file. Respondent's counsel then requested that petitioners furnish a copy of their 1986 return and the Form 1098 provided to them by their mortgage lender in order for her to begin to375 resolve the matter. There is no evidence in the record that petitioners or their counsel ever furnished this information to respondent's counsel. There is no evidence in the record that petitioners or their counsel advised District Counsel about petitioners' receipt of the November 27 letter from the Philadelphia Service Center. The record does not reveal when the District Counsel's office received the administrative file. On receipt of the administrative file and after its review by an appeals officer, respondent offered to enter into a decision document stating that petitioners owed no tax. Petitioners' counsel, however, refused to execute a decision document until she could prepare petitioners' motion for costs. Petitioners' counsel executed the decision document on December 8, 1990, which then was filed by the Court as a Stipulation of Settlement on December 10, 1990. At the same time petitioners filed their motion for costs. The record does not indicate how much time elapsed between District Counsel's receipt of the administrative file and respondent's offer to enter into a decision document, that is, in effect, to concede the case. Nor does the record reveal how much376 time elapsed between respondent's offer to concede the case and the filing of the stipulation of settlement. DiscussionSection 7430(a) authorizes, among other things, an award of reasonable litigation costs to the "prevailing party" in a tax case. To be considered a prevailing party, the party seeking the award must establish that the position of the United States in the proceeding was not substantially justified, the moving party has "substantially prevailed" with respect to either the amount in controversy or the most significant issue or set of issues presented, and he or she meets the net worth test as set forth in the EAJA, 28 U.S.C. section 2412(d). Sec. 7430(c)(4)(A). Furthermore, in order to be awarded litigation costs, the prevailing party must have exhausted the administrative remedies within the Internal Revenue Service available to the moving party. Sec. 7430(b)(1). Moreover, the prevailing party may not be awarded litigation costs for any portion of the court proceedings which the prevailing party has unreasonably protracted. Sec. 7430(b)(4). The moving party has the burden of proving all of these elements. Rule 232(e). Rule 231(b) explicitly sets forth377 the requirements for the contents of a motion for an award of reasonable litigation costs. In regards to the net worth requirements, Rule 231(b)(5) requires the motion to contain: "A statement that the moving party meets the net worth requirements, if applicable, of Section 2412(d)(2)(B) of title 28, United States Code (as in effect on October 22, 1986), which statement shall be supported by an affidavit executed by the moving party and not by counsel for the moving party". (Emphasis added.) A party is defined in 28 U.S.C. section 2412(d)(2)(B) (1988) as: "(i) an individual whose net worth did not exceed $ 2,000,000 at the time the civil action was filed". In Dixson Corp. v. Commissioner, 94 T.C. 708">94 T.C. 708 (1990), we denied litigation costs, among other reasons, because the taxpayers failed to provide any supporting information to establish their net worth or even to address the issue in their supplemental motion and reply brief even though the taxpayers were aware of the net worth requirements and had been put on notice that the Commissioner was objecting specifically to an award of litigation cost because of the taxpayers' failure to offer any proof as to their378 net worth. See also Doyle v. Commissioner, T.C. Memo 1988-449">T.C. Memo. 1988-449, where we denied the award of litigation costs solely on the fact that the taxpayer offered no proof as to net worth. Compare Hall v. Commissioner, T.C. Memo. 1989-187, where we withdrew our original opinion denying an award of litigation costs based on the taxpayers' failure to establish their net worth and permitted the taxpayers to supplement the record with the required net worth affidavits. In Hall, we found that the taxpayers' failure was due to their counsel's oversight. At that time Rule 231(b), Content of Motion, did not state that motions for litigation costs needed to specify that the moving party met the net worth requirement nor did the Rule detail the manner in which compliance with the net worth requirement should be proven. Rule 231(b), as amended through September 1, 1988. Consequently, in that particular instance, we agreed that it would be unduly harsh to dismiss the taxpayers' claim before having reached its merits. As a result, we allowed the taxpayers to establish that they met the net worth requirements set forth in the statute through "individual379 affidavits [of the taxpayers] asserting that their individual net worths * * [were] 'significantly less than' the $ 2,000,000 ceiling." Hall v. Commissioner, T.C. Memo 1989-187">T.C. Memo. 1989-187. Since Hall was decided, however, we added to the litigation and administrative costs motion content requirements, a paragraph which specifically provides that the motion must contain a statement that the moving party meets the net worth requirements. The Rule, as amended, further clarifies that the moving party, not counsel, must attest that the moving party meets those requirements. Rule 231(b)(5). The amendments to Rule 231 generally are effective with respect to proceedings commenced after November 10, 1988 (the effective date of amendments to section 7430 made by the Technical and Miscellaneous Revenue Act of 1988, Pub. L. 100-647, section 6239, 102 Stat. 3342, 3743-3747). Amendments to paragraph (5) of Rule 231, however, are effective with respect to claims for amounts paid after September 30, 1986 (the effective date of amendments to section 7430 made by the Tax Reform Act of 1986, Pub. L. 99-514, section 1551, 100 Stat. 2085, 2752). Other stylistic amendments to Rule380 231 are effective as of July 1, 1990, the general effective date of the latest amendments to our Rules of Practice and Procedure. 93 T.C. 821">93 T.C. 821, 1013-1016 (1989). The amended rules were made available to the public by Press Release dated June 5, 1990. Petitioners here filed their motion for costs on December 10, 1990, long after we published the amendments to Rule 231 which specify in detail the proof needed to establish that the moving party meets the net worth requirements. Therefore, when petitioners filed the subject motion, there was no reason why they or their counsel should not have known of the prescribed manner for proving that petitioners met the net worth requirements on the date the litigation commenced. See Stieha v. Commissioner, 89 T.C. 784">89 T.C. 784, 788 (1987). Petitioners' motion for costs contains no mention of the net worth requirements. In her objection to petitioners' motion for costs, respondent specifically objected to an award of litigation costs on the ground, among other reasons, that petitioners had failed to offer any proof of their net worth. Petitioners, thus, were put on notice that whether they met the net worth requirements381 was at issue. Petitioners, nonetheless, failed to provide the required supporting affidavits in their response to respondent's objection to the motion, relying instead on the mere representation of their counsel that petitioners have a net worth of less than $ 2,000,000. To this date, petitioners have not offered proof through the required supporting affidavits or otherwise that they met the net worth requirements at the time the litigation commenced. Nor have petitioners asked for a hearing to address specifically this issue, or the other issues respondent raised in her objection to the motion. This case, therefore, is distinguishable from Hall v. Commissioner, supra. Under the circumstances present here, we do not believe it unduly harsh not to afford petitioners, at this late date, the opportunity to submit the required supporting affidavits. Our Rule 231(b)(5) unequivocally details the proof needed to meet the net worth requirements. Petitioners have the burden of proof on this issue. Rule 232(e). They failed to provide that proof even after respondent specifically raised an objection to the award of litigation costs on the ground that petitioners382 had failed to offer any proof of their net worth. This Court has a profound interest is guaranteeing that its Rules are followed. Odend'hal v. Commissioner, 75 T.C. 400">75 T.C. 400, 404 (1980). Petitioners have failed to sustain their burden of proving that they met the statutory net worth requirements when the litigation commenced. As a result, they do not meet the definition of a prevailing party. Rules 232(b)(5), (e); Dixson Corp. v. Commissioner, 94 T.C. at 718-719; Polyco, Inc. v. Commissioner, 91 T.C. 963">91 T.C. 963, 966 (1988). Petitioners failed to prove that they are entitled to an award of litigation costs for another reason. Section 7430(b)(1) provides that a judgment for litigation costs shall not be awarded under section 7430(a) unless the Court determines that the prevailing party has exhausted the administrative remedies available within the Internal Revenue Service (IRS). In her objection to petitioners' motion for costs respondent contests the award of litigation costs on the ground, among other reasons, that petitioners failed to exhaust their administrative remedies. Respondent contends that petitioners apparently made383 no response to the Notice from the Philadelphia Service Center inquiring about the amount of home mortgage interest deducted on their 1986 return and that they did not provide a copy of the Form 1098 from Home Unity to the Philadelphia Service Center until after the statutory notice was issued. Therefore, respondent argues, petitioners did not exhaust the administrative remedies available to them within the IRS. Petitioners assert in their response to respondent's objection, on the other hand, that they did respond to the Notice. In Mr. Avancena's file memorandum regarding his October 18, 1989, conversation with Ms. Kramer, he notes that his accountant (presumably Mr. Raffel) responded by certified mail to the Service Center's Notice twice before. Neither Mr. Avancena nor Mr. Raffel, however, now can locate copies of this correspondence. Nor, apparently, did Mr. Raffel forward a copy of this correspondence to the Service Center in his letter of September 12, 1989. Moreover, to this time petitioners have not offered any affidavit from Mr. Raffel attesting to his efforts to communicate with the Philadelphia Service Center even though in their response to respondent's objection384 they indicated they would provide such an affidavit as a supplemental exhibit within a week of the filing of their response. Petitioners have the burden of proving that they exhausted the administrative remedies available to them within the IRS. Rule 232(e). In the Notice from the Philadelphia Service Center, petitioners were invited to send to the Service Center a "signed statement of explanation and supporting documentation" within 30 days if they disagreed with the Notice. They have supplied no proof to the Court that this explanation and documentation were mailed within those 30 days or anytime before the issuance of the statutory notice. Petitioners, thus, have not proven that the issuance of the statutory notice did not result from their failure to supply timely the requested information to the Service Center. See sec. 301.7430-1(f)(2), Proced. & Admin. Regs. Petitioners, therefore, have not met their burden of proving that they exhausted the administrative remedies available to them within the IRS. In light of our holding that petitioners did not meet their burden of proof as to the net worth requirement and exhaustion of administrative remedies requirement, we need385 not address the additional issues of whether respondent's position was substantially justified or the reasonableness of the litigation costs sought. Accordingly, we hold that petitioners are not entitled to an award of litigation costs. An appropriate order and decision will be entered. Footnotes1. Unless otherwise indicated all section references are to the Internal Revenue Code in effect for the matter under consideration, and 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/4621644/	RALPH KITCHEN, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Kitchen v. CommissionerDocket No. 12655.United States Board of Tax Appeals11 B.T.A. 855; 1928 BTA LEXIS 3703; April 27, 1928, Promulgated 3703 Petitioner is the president and general manager of a hotel corporation. In the taxable year he was supplied with rooms and meals for himself and wife without charge. Held, that the Commissioner did not err in adding the reasonable value of such rooms and meals to the income of the petitioner. Veggo Lyngby, Esq., for the petitioner. Philip M. Clark, Esq., for the respondent. LANSDON 855 The respondent has asserted a deficiency income tax for the year 1921 in the amount of $291.79. The only issue is whether the value of lodging and meals supplied to the general manager of a hotel shall be included in such manager's gross income for the taxable year. 856 FINDINGS OF FACT. The petitioner is an individual, residing in Omaha, where in the taxable year he was president and general manager of the Kitchen Brothers Hotel Co., which operated the Paxton Hotel at Omaha, and was the owner of 257 shares of the 500 shares of outstanding capital stock of such company. Nearly all the other shares were owned by the petitioner's wife or by members of his immediate family. The Paxton Hotel has about 200 rooms, a cafe, a barber shop and3704 other facilities usually maintained for the service and convenience of paying guests. In the taxable year it was operated 24 hours daily. The petitioner as general manager had oversight and supervision of all activities incident to the business. In order that he might be at hand at any time for conference with employees or patrons, the hotel company furnished him and his wife rooms and meals without charge. He maintained no residence outside the hotel. The cash salary of the petitioner was $2,500 per annum. In his income-tax return for the taxable year the petitioner included no amount representing the value of the rooms and meals furnished to him and his wife by the hotel company without charge. Upon audit of such return the Commissioner added to the income reported the amount of $2,000 as the value of such rooms and meals to the petitioner, and determined the deficiency now in controversy. OPINION. LANSDON: The evidence fails to convince us that the petitioner's rooms in the hotel and the meals furnished himself and wife were solely for the convenience of his employer. The record discloses that there was an assistant manager of the hotel and does not show that the*3705 wife of the petitioner rendered any service for the convenience of the hotel. Except in the case of a minister of the gospel, there is no provision in the Revenue Act of 1921, which is the law applicable here, for excluding from income the reasonable value of meals and lodging received in addition to cash compensation. To allow the claim of the petitioner would in effect permit him to deduct his personal living expenses from his gross income. The action of the Commissioner in adding the reasonable value of the rooms and meals supplied to the petitioner by the hotel company is approved. Judgment will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621645/	MICHAEL R. FRIEND, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentFriend v. CommissionerDocket No. 16799-83United States Tax CourtT.C. Memo 1990-144; 1990 Tax Ct. Memo LEXIS 168; 59 T.C.M. (CCH) 156; T.C.M. (RIA) 90144; March 19, 1990Michael R. Friend, pro se. Jack A. Joynt and Phillip Owens, for the respondent. PATE299 MEMORANDUM FINDINGS OF FACT AND OPINION PATE, Special Trial Judge: This case was heard pursuant to the provisions of section 7443A(b) of the Code and Rule 180 et seq. 1170 Respondent determined a deficiency in petitioner's 1980 Federal income tax of $ 522. The issues for our decision are whether petitioner is entitled to deduct automobile expenses of $ 301.25, medical expenses of $ 1,153.19, theft 300 and casualty losses of $ 1,005, and educational expenses of $ 512. Michael R. Friend (hereinafter "petitioner") filed a joint Federal income tax return for 1980 with his wife, Monika Koorn Friend. In 1981 petitioner was convicted of murdering his wife. He resided at the Kentucky State Reformatory in LaGrange, Kentucky, at the time he filed his petition in this case. Petitioner deducted the expenses at issue on his 1980 joint income tax return. Respondent maintains that he is not entitled to these deductions because he failed to substantiate them. Petitioner contends that he paid the expenses and is entitled to deduct them. He alleges a number of other errors in his petition (including allegations that respondent violated several of his Constitutional rights); however, since then he has failed to raise any legal arguments or present any evidence in support thereof. Since petitioner did not address these allegations at trial, we deem them abandoned. 171 Curtis v. Commissioner, 84 T.C. 1349">84 T.C. 1349, 1350 n.4 (1985); Hockaden & Associates, Inc. v. Commissioner, 84 T.C. 13">84 T.C. 13, 16 n. 3 (1985), affd. 800 F.2d 70">800 F.2d 70 (6th Cir. 1986). This case is essentially a substantiation case. Therefore, the following general principles apply to all of the issues. First, deductions are a matter of legislative grace. New Colonial Ice Co. v. Helvering, 292 U.S. 435">292 U.S. 435, 440 (1934). Thus, to prevail, petitioner must satisfy all statutory prerequisites in order to be entitled to the deductions he claimed. Second, under section 6001, petitioner is required to maintain records sufficient to establish the amount of any deductions he claimed on his income tax return. Sec. 1.6001-1(a), Income Tax Regs. Third, petitioner is not entitled to any deductions unless he can substantiate them. Hradesky v. Commissioner, 65 T.C. 87">65 T.C. 87, 90 (1975), affd. per curiam 540 F.2d 821">540 F.2d 821 (5th Cir. 1976). Moreover, 172 petitioner bears the burden of proving that he is entitled to the deductions he claimed. Welch v. Helvering, 290 U.S. 111">290 U.S. 111, 115 (1933); Rule 142(a). In this regard, we are not bound to accept blindly a petitioner's self-serving testimony. Tokarski v. Commissioner, 87 T.C. 74">87 T.C. 74, 77 (1986). Consequently, petitioner's testimony, without more, may not be sufficient to carry his burden of proof. Carmack v. Commissioner, 183 F.2d 1">183 F.2d 1 (5th Cir. 1950), affg. a Memorandum Opinion of this Court. Automotive ExpensesSeveral universities situated in and around Louisville, Kentucky, employed petitioner as a part-time lecturer during 1980. In this connection, petitioner traveled among the University of Louisville, a branch of Indiana University, and Jefferson Community College. He deducted $ 301.25 for automobile expenses. Section 162 provides a deduction for all ordinary and necessary expenses paid or incurred by an employee in connection with his employment during the taxable year. To be deductible, expenditures for travel must be directly173 related to the duties of the taxpayer in his employment. Sec. 1.162-2(a), Income Tax Regs. On the other hand, the cost of commuting between one's residence and regular place of employment is considered a personal expense and, therefore, is not deductible. Sec. 1.262-1(b)(5), Income Tax Regs.; Marot v. Commissioner, 36 T.C. 238 (1961); see sec. 1.162-2(a), Income Tax Regs. However, when a taxpayer works at more than one location the expense of traveling between the various job locations is considered a business expense. Fausner v. Commissioner, 55 T.C. 620">55 T.C. 620, 626-627 (1971), affd. 472 F.2d 561">472 F.2d 561 (5th Cir. 1973). Deductions claimed for local travel are not subject to the strict substantiation requirements of section 274(d). Sec. 1.274-5(a)(1), Income Tax Regs.Petitioner held several part time teaching positions during 1980. In the course of his duties, he traveled from one campus to the other. His mileage deduction is reasonable in amount. Here, the trips in question constitute local travel and as noted petitioner is not subject174 to the strict substantiation requirements of section 274. We find that petitioner is entitled to deduct his claimed automobile expenses. Medical and Dental ExpensesPetitioner suffers from diabetes. Due to his illness, he was hospitalized for five and one-half days during 1980. He paid for consultation with a specialist in diabetes, as well as for regular visits to his attending physician. Petitioner also incurred expenses for prescription vitamins, home health supplies (consisting primarily of diabetes testing supplies) and syringes, pads, and insulin for his shots. In addition, petitioner and his wife each incurred costs associated with dental treatment. Both of them carried medical insurance; each policy cost them approximately $ 20 to $ 25 per month. They claimed a total of $ 1,451.96 in medical expenses which, after reducing that amount by 3% of their adjusted gross income and adding the $ 150 insurance premium amount, resulted in a medical expense deduction of $ 1,153.19. Section 213 provides a deduction for amounts paid during the taxable year for medical care of175 the taxpayer, his spouse, and dependents to the extent such payments exceed 3 percent of adjusted gross income for the year. Sec. 301 213(a)(1); sec. 1.213-1(a)(2), Income Tax Regs. Amounts paid for medical insurance are deductible to the extent of the lesser of one-half of the amounts paid for insurance, or $ 150 without regard to the 3 percent limitation. Sec. 213(a)(2); sec. 1.213-1(a)(5)(i), Income Tax Regs. Further, amounts paid for medicine and drugs are deductible to the extent that they exceeded 1 percent of adjusted gross income. Sec. 213(b); sec.1.213-1(b)(2), Income Tax Regs.2At trial, petitioner recalled the names of his and his wife's physicians and dentist, the hospitals he stayed in and the details of the locations and treatments. We are convinced the petitioner and his wife incurred medical expenses in 1980 and find that the amounts he deducted are consistent with his testimony. Although petitioner was unable to produce detailed records of his expenditures, the amounts are reasonable. 176 See Cohan v. Commissioner, 39 F.2d 540">39 F.2d 540, 544 (2d Cir. 1930). Consequently, we hold for petitioner on the medical expense issue. Theft and Casualty LossPetitioner's wife was robbed in a hotel while on a trip to New York City. Petitioner could not recall the details of the robbery or what was taken. He also testified that his wife had an automobile accident during 1980, but could not recall the nature or amount of the repairs. Further, he could not remember the amount of the insurance claim his wife submitted, or whether the insurance company reimbursed them. Section 165(a) provides a deduction for losses sustained during the taxable year and not compensated for by insurance or otherwise. Section 165(c)(3) places a limitation on the deduction under section 165(a) for certain losses, including those arising from casualties and theft. To obtain a theft loss deduction under section 165(c)(3), the taxpayer must prove the occurrence of the theft, the identity of the stolen items and the adjusted basis and fair market value of those items. Sec. 1.165-8(a), (c), 177 and (d) and 1.165-7(b), Income Tax Regs. With regard to casualty losses claimed under section 165(c)(3), the amount deductible is the difference between the fair market value of the property immediately before the casualty and its fair market value immediately after the casualty, but not exceeding its adjusted basis. Sec. 1.165-7(b)(1), Income Tax Regs.; Helvering v. Owens, 305 U.S. 468">305 U.S. 468 (1939). Petitioner's testimony was vague and incomplete regarding both incidents. He admitted that he could not recall the details of either incident or the amount of the automobile repair involved. He submitted no information with regard to the value of any of the items taken nor the value or basis of the automobile. He could not recall whether the insurance company paid their claim. Consequently, we find that petitioner failed to carry his burden of proof on this issue and, accordingly, hold for respondent. Education ExpensesDuring 1980, petitioner taught Speech and English composition and his wife taught various English classes. They both took courses in English at the University of Louisville for which they paid $ 512 in tuition. 178 Expenditures for education are deductible if the education maintains or improves skills required in the taxpayer's employment or other trade or business. Sec. 1.162-5(a), Income Tax Regs. We are convinced from his testimony that the $ 512 deduction claimed on the return related to courses that he and his wife took in order to maintain and improve their respective job skills. The courses they took were in the same field as their teaching assignments. Accordingly, we hold for petitioner on the issue of educational expenses. To reflect the foregoing, Decision will be entered under Rule 155. Footnotes1. All section references are to the Internal Revenue Code, as amended and in effect for the year in issue. All rule references are to the Tax Court Rules of Practice and Procedure.↩2. Since 1980, the limitations placed on deductions allowed under section 213↩ have changed.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621652/	ESTATE OF FRANCIS NED SCOFIELD, Deceased, GRANVILLE O. SCOFIELD, Executor, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentEstate of Scofield v. CommissionerDocket No. 9606-77.United States Tax CourtT.C. Memo 1980-470; 1980 Tax Ct. Memo LEXIS 119; 41 T.C.M. (CCH) 227; T.C.M. (RIA) 80470; October 21, 1980, Filed 119 Decedent executed a will leaving substantially all his estate to his son and naming his son as executor. Subsequently, he guaranteed bank loans made to his son and pledged securities as collateral for the loans. The bank filed no claim against the estate during its probate, but the securities were distributed to the son subject to the security interest of the bank. Held: (1) Under California law, the bank's claim on the guaranty was not extinguished by failure to file a claim against the estate since the claim was secured; (2) under sec. 2053, I.R.C. 1954, the estate is entitled to a deduction for the bank's lien, but the amount of the deduction must be reduced by the value of the right of subrogation against the son; and (3) the value of such right determined. Richard L. Carico, for the petitioner. Milton B. Blouke, for the respondent. SIMPSONMEMORANDUM FINDINGS OF FACT AND OPINION SIMPSON, Judge: The Commissioner determined a deficiency of $54,056.00 in the Federal estate tax of the Estate of Francis Ned Scofield. The only issue to be decided is whether the estate is entitled to any deduction under section 2053 of the Internal Revenue Code of 19541 for a lien upon assets 120 of the estate, which resulted from the decedent's guaranty of bank loans made to his son. FINDINGS OF FACT Some of the facts have been stipulated, and those facts are so found. Francis Ned Scofield (the decedent) died testate a resident of California on November 14, 1973. Granville O. Scofield (Mr. Scofield) was executor of the estate of the decedent and resided in Santa Cruz, Calif., when the petition in this case was filed. A Federal estate tax return was filed for the estate with the Internal Revenue Service Center, Fresno, Calif.The decedent was the father of Mr. Scofield. On July 8, 1968, the decedent executed a will in which he bequeathed his stock in the Southern Pacific Railway Co. (Southern Pacific stock) to his granddaughter and all the remainder of his estate to Mr. Scofield. During 1968, the decedent also made gifts to Mr. Scofield of securities having a value of $59,098. Sometime prior to 1970, Mr. Scofield received loans from the County Bank of Santa Cruz (the bank) totaling approximately $30,000. On March 23, 1970, the decedent 121 executed and gave to the bank a guaranty, which in part provided: This is a continuing guaranty relating to any indebtedness [of Mr. Scofield], including that arising under successive transactions which shall either continue the indebtedness or from time to time renew it after it has been satisfied. This guaranty shall not apply to any indebtedness created after actual receipt by Bank of written notice of its revocation as to future transactions. * * In conjunction with the guaranty, the decedent pledged securities to the bank as collateral. Initially, the decedent's liability on the guaranty was limited to $32,074. On January 11, 1971, he agreed to raise the limit to $50,000, and later, he agreed to raise the limit to at least $193,674. The decedent received no consideration in money or money's worth for the guaranty. After the decedent executed the guaranty, the bank periodically renewed the loans that it had made to Mr. Scofield. In addition, the bank loaned Mr. Scofield additional amounts and renewed such loans periodically. Mr. Scofield used a large part of the borrowed funds to purchase stock, and between early 1968 and his father's death, Mr. Scofield incurred realized 122 and unrealized losses of approximately $79,000 in his investments in stock. Mr. Scofield also used some of the borrowed funds for personal expenses. When his father died, Mr. Scofield's debt to the bank was $193,674. Such debt was fully collateralized by securities of the decedent. The debt was comprised of four separate loans, and during the administration of the estate, each loan was renewed as follows: Interest RatePrincipalRenewal DatePre-RenewalPost-Renewal$156,6746/1/749-1/411-1/420,0002/12/749-1/49-3/47/29/749-3/411-3/410,0001/14/747-1/29-3/47,0001/17/748-3/49-3/47/13/749-3/411-3/4 The decedent's will was admitted to probate by the Superior Court of the State of California, County of Santa Cruz, on November 30, 1973. At that time, the Southern Pacific stock was included in the collateral held by the bank. To secure release of such stock, Mr. Scofield, as executor of the estate, entered into an agreement with the bank, whereby he transferred all the other securities of the decedent to the bank and agreed to reduce the total indebtedness by $10,000. Such reduction was accomplished by the estate paying $2,500 and by Mr. Scofield paying the remaining $7,500 to the bank. On 123 September 6, 1974, the Superior Court entered an order distributing the decedent's property in accordance with the will. The bank had not filed a claim in probate; nevertheless, the securities which the bank held were distributed to Mr. Scofield "subject to the security interest" of the bank. In October or November 1974, title to the securities was transferred to Mr. Scofield's name, but the bank retained possession of most of them. In 1975 and 1976, Mr. Scofield repaid all his loans. As executor of the estate, Mr. Scofield elected to value the decedent's gross estate for Federal estate tax purposes as of May 14, 1974, the alternate date provided by section 2032. Ignoring the bank's lien and any Federal estate taxes that may be owed by the estate, the value of the distribution to Mr. Scofield on the alternate valuation date was $307,404 and on the date of distribution was $258,624. Mr. Scofield's net worth, excluding his liability to the bank and his distribution from the estate, was $91,100 on the date of the decedent's death, $83,100 on the alternate valuation date, and $46,500 on the date of distribution. His net worth also included a fee of $7,674.91 from the estate for 124 serving as executor. The decline in Mr. Scofield's net worth after the date of the decedent's death was attributable in part to a decline in the value of his stock and in part to sales of some of such stock without retaining or reinvesting the proceeds thereof. On the Federal estate tax return, Mr. Scofield deducted $193,674 because of the bank's lien. In his notice of deficiency, the Commissioner disallowed the deduction. OPINION The sole issue to be decided is whether the estate is entitled to any deduction as a result of the bank's lien, but to decide that issue, we must first resolve a number of subsidiary questions. In part, section 2053(a) provides: (a) General Rule.--For purposes of the tax imposed by section 2001, the value of the taxable estate shall be determined by deducting from the value of the gross estate such amounts-- (4) for unpaid mortgages on, or any indebtedness in respect of, property where the value of the decedent's interest therein, undiminished by such mortgage or indebtedness, is included in the value of the gross estate, as are allowable by the laws of the jurisdiction, whether within or without the United States, under which the estate is being administered. 125 To support the disallowance of the deduction claimed by the estate, the Commissioner has advanced a variety of arguments, and his positions appear to have shifted with time and the events. At the outset, it is helpful to point out several matters which are not in dispute. First, the Commissioner recognizes that at the time of the decedent's death, the bank's lien was a mortgage or indebtedness on property which was includable in the estate. Second, the deduction is not to be disallowed because Mr. Scofield was the principal obligor and the decedent's liability was secondary or contingent, for section 20.2053-7, Estate Tax Regs., 2 acknowledges that a lien on which the estate is only secondarily liable is to be taken into consideration in computing the taxable estate. Third, the Commissioner does not argue that the deduction is barred by the fact that the encumbered property was bequeathed to the principal obligor, Mr. Scofield, who could use the property to repay the loans. Finally, the Commissioner does not contend that the eventual repayment of the loans by Mr. Scofield in 1975 and 1976 bars the deduction. Neither section 2053(a) nor the regulations thereunder disallow the 126 dedction when the encumbered property is eventually used to satisfy the indebtedness. Throughout these proceedings, the Commissioner has contended that the deduction was not allowable since the bank never filed a claim against the estate in probate. He 127 relies on section 707, Cal. Prob. Code (West Supp. 1980), which provides that "all claims [against a decedent] arising upon contract, whether they are due, not due, or contingent," must be timely filed with the executor after the publication of notice to creditors, or else be "barred forever." The petitioner concedes that the bank never filed a claim against the estate; accordingly, the Commissioner concludes that the liability of the estate to the bank was extinguished during its administration and that, therefore, no deduction was permissible. See Estate of Hagmann v. Commissioner,60 T.C. 465">60 T.C. 465 (1973), affd. per curiam 492 F. 2d 796 (5th Cir. 1974). Section 716, Cal. Prob. Code (West 1956), provides the following special rule for secured claims: No holder of a claim against an estate shall maintain an action thereon, unless the claim is first filed with the clerk or presented to the executor or administrator, except in the following case: An action may be brought by the holder of a mortgage or lien to enforce the same against the property of the estate subject thereto, where all recourse against any other property of the estate is expressly waived in the complaint. * * * In Corporation of America v. Marks,10 Cal. 2d 218">10 Cal. 2d 218, 73 P. 2d 1215 (1937), 128 the California Supreme Court faced the issue of whether a judgment lien against property of an estate was enforceable after distribution of the estate. The court observed that "The rule as to mortgage liens is well settled. An action to foreclose a mortgage, waiving recourse against other property, may be brought during the course of administration proceedings or after the estate has been distributed." The court held that judgment liens were entitled to the same treatment: "We can perceive no reason why the Legislature should wish to single out judgment liens for separate, less favorable treatment." 73 P. 2d at 1217. In this case, we also see no reason why the lien created by a pledge should not be accorded the same treatment as mortgage liens and judgment liens under section 716. In fact, in In re Estate of Kibbe,57 Cal. 407">57 Cal. 407 (1881), the California Supreme Court considered a provision of an earlier code, substantially the same as section 716, and ruled precisely that a pledgee was not obliged to present a claim against an estate to keep his lien on estate assets effective after settlement of the estate. Therefore, we conclude that in this case, the bank's lien against the assets 129 of the estate was not extinguished because of the failure to file a claim in probate. In his brief, the Commissioner contends, for the first time, that the entire lien of the bank was extinguished by the renewal of the loans and by the increase in the interest rates. The petitioner argues that such contention should not be considered because it was raised too late and because the untimely raising of the issue prevented it from offering evidence which otherwise would have been presented. In the alternative, the petitioner maintains that under California law, the renewal of the loans did not result in extinguishing them in view of the circumstances surrounding their renewal. Section 2819, Cal. Civ. Code (West 1974), provides: A surety is exonerated, except so far as he may be indemnified by the principal, if by any act of the creditor, without the consent of the surety the original obligation of the principal is altered in any respect, or the remedies or rights of the creditor against the principal, in respect thereto, in any way impaired or suspended. 3It has been held in California130 that an "increase in the rate of interest on an obligation constitutes an alteration within the meaning of this provision." Southern California First National Bank v. Olsen,41 Cal. App. 3d 234">41 Cal. App. 3d 234, 116 Cal. Rptr. 4">116 Cal. Rptr. 4, 8 (2d Dist. Ct. App. 1974); Nissen v. Ehrenpfort,42 Cal. App. 593">42 Cal. App. 593, 183 P. 956">183 P. 956 (1st Dist. Ct. App. 1919). In addition, in California, a continuing guaranty is revoked by the death of the guarantor ( Valentine v. Dononhoe-Kelly Banking Co.,133 Cal. 191">133 Cal. 191, 65 P. 381">65 P. 381 (1901)), and the guarantor has no liability for advances or renewals made after revocation ( Southern California First National Bank V. Olsen,supra). Despite section 2819 and the precedents thereunder, there is a substantial doubt as to whether the renewal of the loans extinguished the bank's lien under California law. Mr. Scofield was not only the principal obligor, but also the executor of the estate. Thus, when the bank renewed his loans and raised the interest rates subsequent to the decedent's death, he of course was aware of those facts as the executor of the estate. In Walter Broderick & Associates, Inc. v. Monte Vista Lodge,253 Cal. App. 2d 242">253 Cal. App. 2d 242, 61 Cal. Rptr. 679">61 Cal. Rptr. 679 (4th Dist. Ct. App. 1967), there was an 131 alteration in a contract guaranteed by the defendants. The defendants claimed to be exonerated from liability because of the alteration, but because they had known of the change then it was made, the court held "it was * * * their responsibility to notify plaintiff of their claim of exoneration or be estopped to deny their liability." 61 Cal. Rptr. at 682. Similarly, in the case at bar, Mr. Scofield accepted the renewal of his loans and the higher interest rates and registered no objection on behalf of the estate. Under such circumstances, it is likely that he would be estopped to deny the estate's liability on the loans. Moreover, under California law, the extinguishment of the estate's liability would have occurred only if the estate had not consented to the renewal of the loans and to the increase in interest rates. Southern California First National Bank v. Olsen, supra;Newhouse v. Getz,8 Cal. App. 2d 113">8 Cal. App. 2d 113, 47 P. 2d 306 (1st Dist. Ct. App. 1935); Michelin Tire Co. v. Bentel,184 Cal. 315">184 Cal. 315, 193 P. 770">193 P. 770 (1920). Here, we have no specific evidence that the estate gave its consent, but it is difficult to believe that the bank would have renewed the loans without an assurance that 132 the loans would remain secured. It is well settled that issues raised for the first time on brief will not be considered when to do so prevents the opposing party from presenting evidence that he might have if the issue had been timely raised. Estate of Horvath v. commissioner,59 T.C. 551">59 T.C. 551, 555 (1973); Theatre Concessions, Inc. v. Commissioner,29 T.C. 754">29 T.C. 754, 760-761 (1958). Had the issue been raised at or before the trial, the petitioner might have been able to offer evidence regarding an estoppel or evidence showing consent on behalf of the estate. Hence, it is clear that the estate would be prejudiced if we were to consider the issue at this time, and consequently, we decline to do so. We deal next with the Commissioner's contention that the decedent's guaranty and pledge were "in the nature of gifts or testamentary dispositions" to the extent they secured loans used by Mr. Scofield for personal living expenses. The argument derives from the cases construing section 2053 (c), which provides in part: The deduction allowed by this section in the case of claims against the estate, unpaid mortgages, or any indebtedness shall, when founded on a promise or agreement, be limited to 133 the extent that they were contracted bona fide and for an adequate and full consideration in money or money's worth * * * In construing this provision, 4134 this and other courts have consistently held that the consideration in money or money's worth need not pass to the decedent. Commissioner v. Porter,92 F. 2d 426 (2d Cir. 1937), affg. 34 B.T.A.. 798 (1936); Carney v. Benz,90 F. 2d 747 (1st Cir. 1937); Commissioner v. Bryn Mawr Trust Co.,87 F. 2d 607 (3d Cir. 1936), affg. a Memorandum Opinion of this Court; Commissioner v. Kelly's Estate,84 F. 2d 958 (7th Cir. 1936), affg. 31 B.T.A. 941">31 B.T.A. 941 (1934), cert. denied 299 U.S. 603">299 U.S. 603 (1936); Estate of Borland v. Commissioner,38 B.T.A. 598">38 B.T.A. 598 (1938); Estate of Wade v. Commissioner,21 B.T.A. 339">21 B.T.A. 339 (1930). A guarantor's obligation has been held to have been contracted for adequate and full consideration in money or money's worth when there has been a loan of money to a third party as a result of the guaranty and the guaranty thereby became binding. Estate of Hofford v. Commissioner,4 T.C. 542">4 T.C. 542 (1945), supp. opinion 4 T.C. 790">4 T.C. 790 (1945); Commissioner v. Porter,supra;Carney v. Benz,supra;Estate of Borland v. Commissioner,supra.5 In view of such decisions, it is clear that the estate is not to be denied the deduction merely because the decedent received no consideration in money or money's worth for the guaranty.However, 135 the Commissioner relies on dicta in some of such cases and argues that, in part, the deduction should be disallowed because the guaranty arrangement was used by the decedent as a means of making testamentary gifts to Mr. Scofield. The petitioner responds that by this argument, the Commissioner is seeking, indirectly, to challenge the holding that the deduction is not to be disallowed merely because the decedent received no consideration in money or money's worth for the guaranty. In Estate of Hofford v. Commissioner,supra, the decedent endorsed a note of a homeowners association, but received no consideration in money or money's worth for his endorsement. The homeowners association obtained a loan as a result of the endorsement, but later it became insolvent and unable to repay the loan. After the decedent died, his estate was required, to pay, and we held that the payment was deductible. However, we specifically stated "there is no evidence that the decedent intended any gift to the association by his accommodation endorsement and there is no reason to suppose that he intended any gift." 4 T.C. at 558. In Carney v. Benz,supra, the decedent guaranteed a stock-trading account of 136 a corporation owned by his wife and daughter but received no consideration in money or money's worth for his guaranty. After his death, a claim was made against his estate under the guaranty, and the estate paid the claim. The First Circuit allowed a deduction for the payment, but the court sharply circumscribed its holding: In the present case the guaranty which the decedent gave * * was a purely commercial undertaking. * * * It does not appear that Benz expected to loss by giving the guaranty * * * [90 F. 2d at 749.] The court made it clear that "colorable family contracts and similar undertakings made as a cloak to cover gifts" do not give rise to deductions. 90 F. 2d at 749. In Commissioner v. Porter,supra, the issue was whether the liability of the decedent's estate on the decedent's guaranty of bank loans to his son-in-law was deductible by the estate. As in Estate of Hofford and Carney v. Benz, the decedent had received no consideration in money or money's worth for the guaranty. The Second Circuit affirmed a decision of this Court for the estate, but it cautioned that: the stipulation does not say that, when the guaranty was given, the son-in-law was insolvent or that 137 the guarantor had no reasonable expectation of reimbursement [from the son-in-law] if he should be called upon to pay. So far as appears, it was an ordinary business transaction by which an accommodation guarantor, if required to pay, would acquire rights equal in value to the obligations he had assumed. [92 F. 2d at 428.] If the guarantor had not possessed a right of subrogation or had not had a reasonable expectation of reimbursement, the court concluded, "the guaranty would be in substance a gift." 92 F. 2d at 428. The Commissioner failed to refer to any cases in which such dicta was applied, but our independent research reveals one such case.In Estate of Jermyn v. Commissioner, a Memorandum Opinion of this Court dated April 2, 1940, the decedent endorsed notes of his son at a time when his son was insolvent, and the decedent received no consideration in money or money's worth for his endorsement. After the decedent's death, his estate was required to pay the notes. We upheld the Commissioner's disallowance of a deduction for the payment and ruled as follows: It is true, as petitioner contends, that consideration within the intendment of the statute here involved [the predecessor 138 of sec. 2053] may be a benefit to promisor or a detriment to promisee and therefore that the son need not have passed consideration to the decedent. Commissioner v. Porter,92 F.2d 426">92 F. 2d 426. Nevertheless, we think, under the authority of the same decision, that the petitioner has not adduced the evidence requisite to the allowance of the deduction claimed. * * * The record before us indicates that at the time of the death of Edmund B. Jermyn, Jr. [the son] more than two years prior to the death of the decedent, and for a long time prior thereto, the son was hopelessly insolvent, and any reasonable consideration of the relations between father and son leads to the conclusion that the father must have known the son's financial condition. * * * it is apparent that the petitioner has not shown that the father had any "reasonable expectation of reimbursement if he should be called upon to pay * * ." We therefore conclude and hold that no error has been shown in the action of the Commissioner in denying the deduction claimed by the petitioner.Since the Commissioner did not assert this position until the time of the trial, he has the burden of proof with respect to it. Rule 142(a), Tax Court Rules of Practice and Procedure.139 In support of his position, the Commissioner relies on the facts that the decedent made a gift to Mr. Scofield in 1968, that in that year, the decedent also executed his will in which he bequeathed substantially all of his estate to Mr. Scofield, that Mr. Scofield admitted that his income was negligible in the years 1968 through 1973, that Mr. Scofield used some of the funds borrowed from the bank to cover his personal expenses, and that Mr. Scofield sustained substantial losses in his stock transactions during those years. In addition, the Commissioner asserts that the decedent knew that Mr. Scofield needed some of the borrowed funds for his personal expenses and that the decedent reasonably knew that he would be called upon to pay off the loans to Mr. Scofield. However, the record contains not one iota of evidence indicating that the decedent was aware of the facts that Mr. Scofield needed to use some of the borrowed funds for his personal expenses and that Mr. Scofield was sustaining losses on his stock transactions. Although Mr. Scofield testified in this case, he was never asked any questions concerning whether he revealed his need for funds and his financial condition to 140 the decedent. In this case, as in the Hofford,Carney, and Porter cases, the arrangements between the decedent and the lender took the form of a commercial transaction. In Hofford,Carney, and Porter, the courts recognized that they were dealing with what appeared to be a business transaction, and in their dicta, they made clear that they would look behind the form of the transaction only when there was evidence indicating that the arrangement was being used for the purpose of making gifts. Since the Commissioner has the burden of proof on this issue in this case, he has the burden of proving that in entering into the guaranty arrangement, the decedent intended to make gifts to Mr. Scofield, and the evidence is clearly insufficient to carry that burden. For all that we know, the decedent may have been wholly unaware of the fact that Mr. Scofield was using some of the borrowed funds for personal expenses or that Mr. Scofield was sustaining substantial losses; Mr. Scofield may have, deliberately or otherwise, withheld such information from the decedent. Moreover, even if the decedent was aware of such circumstances, both he and Mr. Scofield may have been eternally optimistic, hoping 141 that Mr. Scofield's investments would, in time, prove far more successful. Without evidence showing that the decedent was aware of Mr. Scofield's need for money, we cannot infer that the decedent intended to make gifts by his continuing to guarantee the loans to Mr. Scofield. Inasmuch as the Commissioner has failed to prove that gifts were intended, he has failed to bring his case within the dicta of Hofford,Carney, and Porter.6 Consequently, we need not, and do not, decide whether to adopt such dicta in this case. So far, we have concluded that the entire lien of the bank is to be considered in computing the deduction allowed the estate; now we turn to the questions concerning the right of subrogation. On brief, the petitioner makes two concessions which reduce the allowable deduction: first, that because $10,000 was paid to the bank during the administration of the estate, the maximum deduction is $183,674 142 7; and second, that the deduction is to be reduced by the value of the estate's right of subrogation against Mr. Scofield. The parties agree that to determine the value of such right, it is necessary to ascertain Mr. Scofield's net worth and the net value of his distribution from the estate.The parties disagree over the date for determining such values. The petitioner contends that such values should be ascertained as of the date of the distribution of the assets of the estate; whereas, the Commissioner argues that the right of subrogation was an asset of the estate and should be valued as of the alternate valuation date. Generally, an estate is to be value entirely as of either the date of death or the alternate valuation date. Sec. 20.2032-1(d), Estate Tax Regs.; Ithaca Trust Co. v. United States,279 U.S. 151">279 U.S. 151, 155 (1929). However, in the valuation of claims against, and indebtedness of, estates, events affecting the value and occurring subsequent to the date of death or to the alternate valuation date may be taken into consideration. Estate of Hagmann v. Commissioner,60 T.C. 465">60 T.C. 465 (1973), affd. 143 per curiam 492 F. 2d 796 (5th Cir. 1974); Estate of Shedd v. Commissioner,37 T.C. 394">37 T.C. 394 (1961). In Eckhart v. Commissioner,33 B.T.A. 426">33 B.T.A. 426 (1935), the decedent had endorsed two promissory notes which were payable on demand. At the date of his death, a balance of approximately $148,000 was due on the notes, and they were secured by collateral of the maker having a value of $65,000. After the decedent's death, the holder of the notes made an unsuccessful demand on the maker for payment, filed a claim against the decedent's estate which was allowed, and sold the collateral for approximately $19,000. The proceeds of the collateral were applied to the notes, and the estate paid the difference and claimed a deduction therefor.This Court rejected the Commissioner's position that the deduction should be limited to the difference between the debt and the value of the collateral at the date of death and allowed the entire deduction. 33 B.T.A. at 440-441. We recognized the general rule for valuing the estate, but we pointed out that the amount of certain claims and losses depends upon events occurring subsequent to the valuation date. The estate was actually required to pay the entire difference 144 between the amount of the debt and the proceeds from the sale of the collateral, and the Court held that such amount should be deductible. The right of subrogation in this case is like the collateral in Eckhart: such right is not an asset of the estate which should be valued on the valuation date; rather, it represents an amount to be applied in reduction of the bank's lien in determining the amount of the allowable deduction. As in Eckhart, we believe that the amount of the deduction to be allowed in this case should not be based simply on the circumstances existing at the valuation date but should take into consideration all the events occurring during the administration of the estate. The Commissioner recognized that the amount of the lien is to be reduced by the payments made during the administration of the estate. Similarly, the reduction resulting from the existence of the right of subrogation should not be computed until the administration of the estate was completed and the collateral was distributed to Mr. Scofield, subject to the lien. Accordingly, we hold that the value of the right of subrogation should be determined as of the date of the distribution of the assets 145 of the estate. For such purpose, the net value of Mr. Scofield's distribution is determined as of that date, and his net worth is determined as of that date. The Commissioner made an additional argument for increasing the net worth of Mr. Scofield to be taken into consideration for purposes of such computation. The Commissioner argued that since Mr. Scofield sold some of his stock after the death of the decedent and used some of the proceeds of such sales for personal expenses, his net worth at the time of the distribution of the estate should be increased by the gains on the sales made by him in 1975 and 1976. In explanation of his argument, the Commissioner asserted that unless such an adjustment is made, the effect will be to allow the estate a deduction for the proceeds of the sales used for his personal expenses.There is absolutely no rational basis for increasing Mr. Scofield's net worth by the gains which he realized on sales in 1975 and 1976. There might be some merit to an argument for increasing his net worth by some part of the proceeds of sales made during the administration of the estate, but if that argument were considered, we would need to decide whether the increase *146 is to be based on the excess of the proceeds of sales over the proceeds reinvested or on the gains from sales made during such period or whether any adjustment should be made to reflect the taxes due on any such sales. The Commissioner's statement of his argument completely misled the petitioner and failed to focus on the questions that would have to be considered and decided by the Court. Hence, we conclude that the issue is not properly before us, and we will make no adjustment as a result of such argument.Decision will be entered under Rule 155. Footnotes1. All statutory references are to the Internal Revenue Code of 1954 as in effect during the years in issue, unless otherwise indicated.↩2. Sec. 20.2053-7 Deduction for Unpaid Mortgages. A deduction is allowed from a decedent's gross estate of the full unpaid amount of a mortgage upon, or of any other indebtedness in respect of, any property of the gross estate, including interest which had accrued thereon to the date of death, provided the value of the property, undiminished by the amount of the mortgage or indebtedness, is included in the value of the gross estate. If the decedent's estate is liable for the amount of the mortgage or indebtedness, the full value of the property subject to the mortgage or indebtedness must be included as part of the value of the gross estate; the amount of the mortgage or indebtedness being in such case allowed as a deduction. But if the decedent's estate is not so liable, only the value of the equity redemption (or the value of the property, less the mortgage or indebtedness) need be returned as part of the value of the gross estate.↩3. Under sec. 2787, Cal. Civ. Code↩ (West 1974), there is no distinction between "surety" and "guarantor."4. The requirement of an "adequate and full consideration in money or money's worth" came into law in 1926 as sec. 303 (a) (1) of the Rev. Act of 1926, ch. 27, 44 Stat. 72.5. In Latty v. Commissioner,62 F. 2d 952, 954 (1933), dismissing petn. to rev. 23 B.T.A. 1250">23 B.T.A. 1250 (1931), the Sixth Circuit, in dicta, expressed some doubt about such holdings by saying: "we think that ordinarily these words [the consideration requirement of sec. 2053(c)↩] must be construed to evidence an intent upon the part of Congress to permit the deduction of claims only to the extent that such claims were contracted for a consideration which at the time either augmented the estate of the decedent, granted him some right or privilege he did not possess before, or operated to discharge a then existing claim, as for breach of contract or personal injury." However, our research has revealed no recent decisions on the issue, and the Commissioner has not asked us to reconsider such holdings. Under the circumstances, we decline to do so on our own initiative.6. It should be recognized that in the Jermyn↩ case, the petitioner had the burden of proving that the decedent did not intend to make gifts. Whether we would reach the same result on the record in this case if the burden was on the petitioner is a matter not to be considered.7. The parties agree that the $2,500 payment made by the estate is deductible by it.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621665/	Dean R. Shore and Wilma V. Shore, Petitioners v. Commissioner of Internal Revenue, RespondentShore v. CommissionerDocket No. 5225-75United States Tax Court69 T.C. 689; 1978 U.S. Tax Ct. LEXIS 180; February 13, 1978, Filed 180 Decision will be entered for the respondent. In 1968 petitioners changed the overall method of accounting for their sole proprietorship from the cash method to the accrual method utilizing the procedure set forth in Rev. Proc. 67-10, 1 C.B. 585">1967-1 C.B. 585, as amplified by Rev. Proc. 70-16, 1 C.B. 441">1970-1 C.B. 441. As a result of the change, there was a net adjustment under sec. 481 required to be taken into income over a 10-year period, one-tenth of such adjustment to be reported as income in the year of change and in each of the 9 succeeding years. In 1970 petitioners incorporated their proprietorship, but continued to report the adjustment on their personal returns. Held, petitioners, by incorporating their sole proprietorship, ceased their trade or business within the meaning of the revenue procedures and as a result must bring the remaining amount of the adjustment into income in the year of incorporation and not over the remainder of the 10-year spread period. Richard W. Dietrich, for the petitioners.Vernon R. Balmes, for the respondent. Irwin, Judge. IRWIN690 OPINIONThe Commissioner determined a deficiency of $ 53,903 in petitioners' joint Federal income tax for the calendar year 1970.The issue posed is one of first impression. It is whether182 the incorporation of a sole proprietorship causes a cessation of the trade or business of the individual proprietors within the meaning of Rev. Proc. 67-10, 1 C.B. 585">1967-1 C.B. 585, as amplified by Rev. Proc. 70-16, 1 C.B. 441">1970-1 C.B. 441, so as to require the inclusion of the balance of the section 4811 adjustment as income in the year of incorporation.All of the facts have been stipulated. The stipulation of facts along with attached exhibits are incorporated herein by this reference.Petitioners Dean R. Shore and Wilma V. Shore, husband and wife, resided in Fresno, Calif., at the time of filing their petition herein. They filed a joint Federal income tax return for the calendar year 1970 with the District Director of Internal Revenue for the Northern District of California.From 1961 to July 16, 1970, petitioners owned and operated183 Shore Acoustical & Insulation Co., a sole proprietorship engaged in the acoustical and insulation contracting business. In the taxable year ending December 31, 1968, petitioners changed their overall method of accounting from the cash receipts and disbursements method to the accrual method in accordance with Rev. Proc. 67-10, supra, as amplified by Rev. Proc. 70-16, supra. As a result of said change, the sole proprietorship realized a net adjustment (increase) in income under section 481 of $ 142,994.43 for the year 1968. However, in accordance with the above cited revenue procedures, petitioners were only required to report one-tenth of this amount ($ 14,299) for the year 1968 and a like amount in each of the following 9 years.691 On July 16, 1970, petitioners incorporated their sole proprietorship in a tax-free transfer under section 351 to form Dean R. Shore, Inc. One hundred percent of the stock of Dean R. Shore, Inc., was issued to petitioners in exchange for their transfer of the net assets of Shore Acoustical & Insulation Co. From the time of incorporation to the present 184 the former business of the proprietorship has been operated by the corporation.Mr. Shore has continued as president and chief operating officer of the corporation since its incorporation in 1970. Petitioners have continued to own 100 percent of the stock of the corporation since that time and the corporation is neither a partner nor a joint venturer in any other business. Petitioners have not engaged in the acoustical and insulation contracting business as individuals since the incorporation of Dean R. Shore, Inc. They have continued to report one-tenth of the adjustment on their individual returns during the period subsequent to incorporation.The question presented is whether incorporation of a sole proprietorship causes a cessation of the business of the sole proprietors within the meaning of Rev. Proc. 67-10, supra, as amplified by Rev. Proc. 70-16, supra, 2 so as to require them to report as income the balance of the section 481 adjustment (that portion not previously taken into account as income) in the year of incorporation.185 Rev. Proc. 67-10, supra, as amplified by Rev. Proc. 70-16, supra, 1970-1 C.B. at 441 --provides an administrative procedure whereby taxpayers may expeditiously obtain consent to change their overall method of accounting from the cash receipts and disbursements method to an accrual method for Federal income tax purposes. Taxpayers complying with the provisions hereof will be deemed to have obtained the consent of the Commissioner of Internal Revenue to change their method of accounting.One of the conditions for utilizing this administrative procedure is --A taxpayer who has changed his method of accounting under the provisions of Revenue Procedure 67-10 and ceased to engage in a trade or business (otherwise than in a transaction to which section 381 of the Code applies) 692 during the ten-year period over which the adjustment is to be spread must attach a statement to the Form 3115 filed with the return for the taxable year in which he ceased to engage in a trade or business showing the balance 186 of the adjustment not previously taken into account in computing taxable income as the portion of the adjustment to be taken into account in that year. [Rev. Proc. 70-16, supra, 1970-1 C.B. at 442.]The Commissioner is granted the authority to prescribe such conditions under sections 446(e) and 481(c). See sec. 1.481-5, Income Tax Regs.Petitioner makes several arguments in support of his position that the adjustment amount should not be triggered as income in the year of incorporation. First, he argues that he did not cease to engage in a trade or business. He also argues that to require reporting the adjustment amount at the time of the incorporation transaction would subvert the policy of section 351 which is designed to facilitate the incorporation of an on-going business.Respondent counters by contending that petitioner ignores the change inherent in the incorporation of an unincorporated entity and that petitioners, by incorporating, ceased to engage in the acoustical and insulation business.Initially, we must deal with those cases on which the parties focused their attention. This187 group of cases, Hempt Bros., Inc. v. United States, 490 F.2d 1172">490 F.2d 1172 (3d Cir. 1974), cert. denied 419 U.S. 826">419 U.S. 826 (1974); Dearborn Gage Co. v. Commissioner, 48 T.C. 190">48 T.C. 190 (1967); Ezo Products Co. v. Commissioner, 37 T.C. 385">37 T.C. 385 (1961); Pittsfield Coal & Oil Co. v. Commissioner, T.C. Memo. 1966-4, holds that for purposes of section 481 the incorporation of a sole proprietorship creates a new taxpayer, the corporation. While this line of cases supports the proposition that a corporation is distinct from the proprietorship from which it was created, it does not necessarily follow that petitioners ceased to engage in the acoustical and insulation business when it was placed in corporate form.However, it has long been held that --A corporation and its stockholders are generally to be treated as separate entities. Only under exceptional circumstances * * * can the difference be disregarded. [Burnet v. Clark, 287 U.S. 410">287 U.S. 410, 415 (1932). See also Moline Properties v. Commissioner, 319 U.S. 436">319 U.S. 436 (1943).]188 As a result, on incorporation in 1970, petitioners placed what had 693 been their trade or business into a separate entity whose trade or business could in no way be imputed to them. 3189 Thus, on incorporation they ceased being engaged in the acoustical and insulation business as individuals 4 and as a result, under the terms of the revenue procedures, must bring into income the balance of the section 481 adjustment in the year of incorporation. 5190 Decision will be entered for the respondent. Footnotes1. All statutory references are to the Internal Revenue Code of 1954, as in effect during the taxable year in issue.↩2. Both parties erroneously argue that the provision in issue is sec. 481(b)(4)(C)(i). However, while that statutory provision did utilize phraseology identical to that now in issue, it was not effective in 1970, the year in dispute, its application having terminated for taxable years beginning after 1963. Sec. 481(b)(4)(D)↩.3. Petitioners insist "that the mere technicality of incorporation should [not] trigger an acceleration of the ten year spread." However, we cannot agree. At least one obvious tax consequence caused by incorporation is that petitioners have split income formerly reported in one return into income reported in two separate returns, one individual and one corporate. While in a given case this might not cause significant tax differences, the possibility for distortion is sufficient to call the act of incorporation more than a mere technicality. What petitioners have done here is to cause the income of the business which gave rise to the sec. 481↩ adjustment and the adjustment itself to be reported on different returns. One result will be to remove the income or loss of the business (now in corporate form) from petitioners' individual returns thus eliminating whatever effect that income or loss might have on the taxation of the adjustment element (still reported on petitioners' individual return) in light of the present progressive rate structure for individuals.4. As owners of corporate stock, petitioners became investors rather than actually being engaged in the trade or business as was the case when they were proprietors. Cf. Whipple v. Commissioner, 373 U.S. 193">373 U.S. 193, 202 (1963), "investing is not a trade or business and the return to the taxpayer, though substantially the product of his services, legally arises not from his own trade or business but from that of the corporation;" Brenhouse v. Commissioner, 37 T.C. 326">37 T.C. 326 (1961); "The business of an active managing partner is that of the partnership," Wade v. Commissioner, T.C. Memo. 1963-50↩.5. As for petitioners' argument, that to require them to report the entire adjustment amount as income in the year of incorporation runs contra to the policy of sec. 351, we have two answers. First, the issue here posed is whether petitioners ceased to do business under sec. 481. A finding that they did so triggers recognition of the adjustment amount. It is irrelevant how that cessation occurred, i.e., death, dissolution, or change in form of doing business; and it is not relevant that the means of accomplishing that cessation might have otherwise been tax free. Also, at least in the case before us, the sec. 351 argument is not relevant for another reason. That is, because sec. 351 provides for nonrecognition treatment upon the transfer of property into corporate form with exceptions not here relevant. We are not dealing with the situation of whether sec. 351 would permit the newly formed corporation to continue reporting the adjustment amount over the remainder of the 10-year period, but rather the situation where the taxpayers continued to report the adjustment amount over the remainder of the 10-year period. Sec. 351 did allow the incorporation transaction to occur tax free; it was Rev. Proc. 67-10, supra, as amplified by Rev. Proc. 70-16, supra, which required recognition of the sec. 481 adjustment on petitioners' return in the year of incorporation.Since both parties mentioned sec. 481(b)(4)(C)(i), and because it, too, had a "ceases to engage in a trade or business" standard, we note that the Senate Committee on Finance stated with respect to that provision "this 10-year spread for net adjustments resulting in an increase in income * * * is cut off where the taxpayer's status changes." S. Rept. 1983, 85th Cong., 2d Sess. (1958), 3 C.B. 967">1958-3 C.B. 967. We believe the taxpayers' status here changed upon incorporation.Finally, we also note that respondent would apparently require immediate recognition of the sec. 481 adjustment in a case such as this where the individual taxpayers continued to report the adjustment amount and also in a case where the corporate entity attempted to report the remainder of the adjustment amount. Rev. Rul. 77-264, 31 I.R.B. 9">1977-31 I.R.B. 9↩.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4879907/	In the Court of Appeals Second Appellate District of Texas at Fort Worth ___________________________ No. 02-20-00070-CV ___________________________ JOHN NGUYEN AND JESLYN TRAN, Appellants V. MINH NGUYEN AND NGA LE, Appellees On Appeal from the 352nd District Court Tarrant County, Texas Trial Court No. 352-301461-18 Before Birdwell, Womack, and Wallach, JJ. Memorandum Opinion by Justice Birdwell MEMORANDUM OPINION Appellants John Nguyen and Jeslyn Tran (Managers) appeal from a summary judgment for appellees Minh Nguyen and Nga Le (Co-owners). Managers claim that the trial court erred by granting summary judgment for Co-owners based in large part on deemed admissions and that without those deemed admissions, they raised a genuine issue of material fact as to the damages element of Co-owners’ claims. Managers also claim that they proved their affirmative defense that the dispute had been settled and that the trial court erred by awarding Co-owners attorney’s fees. We affirm. Background Because Managers’ conduct during the suit bears on the trial court’s deemed- admissions ruling, we set forth the procedural background in detail. The Lawsuit In 2016, Managers and Co-owners agreed to form SJN Hollywood Nails & Spa LLC as an entity to own and operate Hollywood Nails & Spa. Co-owners owned 50% of SJN and were entitled to 50% of the profits from the business. Managers owned the other 50% and managed the business. “From the time SJN acquired [the business] in 2016 through March 2018, the [business] generated over $1.5 million for SJN (after paying its nail/beauty technicians).” Managers made numerous cash withdrawals from the business and admittedly did not “fully” pay Co-owners “for all of the distributions” Co-owners were “entitled to receive from SJN’s profits.” 2 In 2018, Co-owners began to realize that they had not been fully paid for all distributions to which they were entitled as owners of SJN. In June 2018, Co-owners and Managers agreed to take two-week turns managing the business and to provide each other with the total income and expenses for that two-week period; they also agreed (1) to change the locks on the storage facility where Managers had been keeping the business’s records so that only Managers and Co-owners would have access, (2) that they would coordinate a time to go over the records together, and (3) that Co-owners could access the business’s “POS system to access records.” Finally, the parties agreed to sell the business to a buyer willing to pay at least $900,000 “with the distributions between the parties to be determined at a later date but before the sale.” On June 18, 2018, Minh tried to meet with John at the storage facility to go over the receipts, but John said there was no agreement to meet that day and that he would have to hear back from his lawyer to determine a day they could meet. Minh noticed that at least two-thirds of the sales-receipt records were missing, and John told him Co-owners “had taken them home.” Consequently, Co-owners’ attorney sent a letter to Managers’ then-counsel indicating concern that Managers were engaging in delay so that they could hide and destroy records. The letter also asked Managers to replace any items taken from the storage facility and warned that further attempts to remove the stored records would be considered evidence spoliation. 3 The parties were not able to resolve matters, and in August 2018, Co-owners sued Managers to recover the full amount of unpaid distributions they claimed to be owed. Co-owners listed the following causes of action in their original petition––the only petition in the appellate record and referenced by the parties: breach of fiduciary duty, money had and received, violations of the Texas Business Organizations Code for failing to provide access to books and records, statutory fraud, negligent misrepresentation, and temporary and permanent injunctive relief. Tex. Bus. Orgs. Code Ann. §§ 3.153, 101.501–.02. Co-owners did not expressly state a claim for breach of the SJN agreement, but in a demand letter attached as an exhibit to the petition and incorporated into it by reference, Co-owners’ counsel stated that she had been hired to bring a claim for “breach of the SJN . . . Company Agreement,” among other things. Co-owners sought attorney’s fees under Civil Practice and Remedies Code Sections 37.009 and 38.001, as well as Business and Commerce Code Section 27.01(e). Co-owners attached discovery requests to their petition, which included eighty requests for admission (First Requests). The Precinct 6 Constable’s office received citation for Managers on August 14, 2018, but did not effect service until October 16, 2018. Managers filed an answer with a general denial the same day. TRO Request The day before the constable served citation, Co-owners had filed an Application for Immediate Action and Relief, in which they alleged that since the suit 4 had been filed, Managers “verbally threatened and harassed [Co-owners] not to sue them, . . . disrupted the business . . . , and frightened the workers.” Additionally, Co- owners alleged that a buyer had been found and that they anticipated an October 17, 2018 closing, but that Managers had threatened not to close unless Co-owners agreed not to sue them. Co-owners requested injunctive relief, as well as an order giving them sole authority to manage and sell the business, with the sale proceeds to be paid into the court’s registry. Minh filed an affidavit in connection with the application, in which he averred that when the parties formed SJN, Managers convinced Co-owners “to entrust all of the business operations and management of both SJN and [the business] . . . to them, promising [Co-owners] that they would operate both SJN and the [business] in a prudent and honest manner and make fair and equitable distributions to [Co-owners] whenever SJN had profits.” According to Minh, Managers “designated John Nguyen as President, themselves as the only managers, and assumed full control and management of SJN and the [business], including but not limited to, [the] bank account and all other assets, accounting, bookkeeping, payroll, expenses, making distributions, paying taxes, etc.” According to Minh, when Co-owners began accessing the business’s bank account in 2018, they noticed that not only had the [business] been profiting, . . . there was more than enough for [Managers] to make much bigger distributions” to them. He also averred that as of October 2018, Managers had “refused to grant [them] full 5 access to the records (in particular, the expenses for 2016 and 2017 and other records)” while claiming that “their cash [withdrawals] were for ‘expenses’ [without] disclos[ing] exactly what those expenses” were. Minh also stated that a previous prospective buyer had backed out of a sale, “telling [Co-owners] the reason being that [Managers] told the buyer the [business] was not profiting.” Minh opined that because of Managers’ “mismanagement, and consequently, the rising tension between the parties, the [business had] suffered a decline and loss of six workers” as well as its entity status. Minh further averred that a new buyer had offered to buy the business for $780,000, “a sales price that [Managers] and [Co- owners] have all agreed to.” However, in Minh’s words, “With the sale expected to close on this week, we have now been told by the buyer that [Managers] have said that they will impede this sale unless we sign a letter agreeing not to sue them, which would mean relinquishing our right to seek justice.” Minh feared that if the business were not sold, it would “continue to decline and lose workers to the point where it [would] be incapable of making a profit and no one would want to buy it.” Minh alleged that Managers had “tried to intimidate and threaten [Co-Owners] into . . . signing a letter not to sue.” He related that during one of Co-owners’ management periods, John “tried to pressure [them] into signing a covenant not to sue him and his wife . . . [and was] tr[ying] to start an argument regarding whom can serve as a receptionist when we are managing the Business.” According to Minh, when Co-owners refused, John “became heated, raised his voice, and caused a 6 disturbance in the Business.” They exchanged “some words,” and John said in Vietnamese, “[I]f I die, you will die.” Minh stated that John then “went outside[,] paced back and forth at the front door,” and remained there until after closing time. Minh was afraid and asked an employee to walk him to his car. According to Minh, “[w]ith what [they had] seen and heard, [they] were . . . very scared and on guard” when leaving the house and when arriving at and leaving the business. Managers moved for and obtained a continuance on the motion for emergency temporary relief, and the trial court set it for a hearing on October 25, 2018. But on October 24, 2018, Co-owners’ counsel filed a Notice of Cancellation of Hearing on the application for immediate relief, asserting that the parties had reached a tentative agreement. Counsel did not give the court any details about that tentative agreement, however. First Summary Judgment Motion and Rule 91a Dismissal Motion Almost two months later, Co-owners filed a motion for summary judgment based on the First Requests, to which Managers had failed to respond. Managers responded by filing a Rule 91a motion to dismiss, claiming that the trial court lacked jurisdiction because the issues in controversy were moot, that the parties had contractually agreed to dismiss the case, that Co-owners were estopped to deny the settlement agreement, and that the motion for summary judgment had been brought in bad faith. In the alternative, Managers sought an additional thirty days to respond to discovery and to the motion for summary judgment. 7 Managers included with their motion to dismiss John’s affidavit, in which he explained that Managers and Co-owners had met and come to an agreement about the dispute that they handwrote in Vietnamese, and then in English, and had both documents signed and notarized. Later that day, they signed a more comprehensive settlement agreement drafted by Co-owners’ attorney. Attached to John’s affidavit are a copy of an agreement purportedly in Vietnamese, with the English translation following, as well as the subsequent agreement drafted by Co-owners’ attorney. The text of that agreement (Settlement Agreement) reads as follows: AGREEMENT REGARDING THE SALE OF HOLLYWOOD NAILS AND SPA John Nguyen, Jeslyn Tran, Minh Nguyen, and Nga Le (collectively the “Parties”), current owners of SJN Hollywood Nails and Spa, LLC (“SJN”), which wholly owns and operates Hollywood Nails and Spa (the “Business”) located at 6248 Camp Bowie Blvd[.], Fort Worth[,] Texas 76116, hereby agree to sell the Business at the price of SEVEN HUNDRED EIGHTY THOUSAND AND 00/l00 DOLLARS ($780,000.00), in which sales proceeds shall be split 50% going to John Nguyen and Jeslyn Tran and 50% to Minh Nguyen and Nga Le. After the sale of Business is completed with [1] a sales price and [2] SJN profit distributions satisfactory to the Parties, the Parties agree to fully release one another, their agents and attorneys, from any and any [sic] and all past, present and future claims, liens, causes of action (including any previously filed or claimed), demands, damages, expenses, and compensation whatsoever, whether based on tort, contract, property damage, or other theory of recovery, which the undersigned now has or which may hereafter accrue on account of or in any way growing out of any and all known and unknown, foreseen and unforeseen claims, expenses and damages, including but not limited to compensatory damages for and/or punitive damages, arising out of the Business, SJN, or any agreement or dealings between the Parties, and Minh Nguyen and Nga Le will dismiss the lawsuit styled Cause No. 352-301461-18, Minh 8 Nguyen and Nga Le v. John Nguyen and Jeslyn Tran, [i]n the 352nd District Court, Tarrant County, Texas. [T]he Parties agree that this Agreement shall supersede and take precedence over any []other agreements between the Parties dated October 24, 2018 or prior[.] [Emphasis added.] Managers also attached to their motion to dismiss an affidavit from their then- attorney, in which he averred, It is and was my belief that once the parties’ business, Hollywood Nails and Spa, was sold, and the proceeds therefrom split in accordance with the contract, which occurred on October 26, 2018, the suit between the parties had been fully compromised and settled, and that there was no issue to be resolved and no need to respond to Plaintiffs’ requests for discovery. Then, to my disbelief, Plaintiffs filed their Motion for Summary Judgment bas[ed] upon un-responded to Requests for Admissions and un-answered discovery. Attached to his affidavit is an email with Co-owners’ counsel discussing execution of the Settlement Agreement, in which Managers’ then-counsel stated: “I will advise my client accordingly to execute. Do you want to suspend discovery otherwise I will have to do something? I don’t like to wait.” Co-owners’ counsel responded, “I think this will all get resolved, but if it doesn’t by mid-November, I have no problems giving you an extension.” Managers also attached an Asset Sale and Purchase Agreement “by and among” SJN, Managers and Co-owners individually, and TQN TX, LLC, pursuant to which TQN would purchase SJN’s assets for $780,000. The closing date was to be October 26, 2018. According to John, the closing took place on that date. 9 In response to the motion to dismiss, Co-owners attached their counsel’s affidavit, in which she averred, Because the Plaintiffs wanted to be sure that Defendants did not interpret the signing of the Agreement Regarding the Sale of Hollywood Nails and Spa to mean that all issues between the parties had been resolved, the second paragraph specifically states the parties agree to a mutual release and that Plaintiffs would dismiss the pending lawsuit only “After the sale of Business is completed with a sales price and SJN profit distributions satisfactory to the Parties (emphasis added).” Counsel further stated that, “[t]o this day, the parties have not been able to come to an agreement relating to SJN profit distributions.” Attached to her affidavit is an email exchange with Managers’ then-counsel dated November 7, 2018––after the closing––in which she calculated “the amounts owed by Defendants to the company for the years 2016, 2017, and 2018 using the figures [Co-owners] have been able to recently obtain from the Business’s computer records and the expenses provided by . . . John” as “$434,207.55 . . . , half of which, $217,103.78, is owed directly to my clients as members holding 50% interest.” He responded on November 24, 2018, “I sent it to them. Let me ask them if they have verified the numbers.” Nothing in the record shows that the trial court ruled on the motion to dismiss, but on January 24, 2019, it denied Co-owners’ motion for summary judgment and gave Managers thirty days to respond to Co-owners’ First Requests and other pending discovery. That same day, Co-owners provided Managers’ new counsel with courtesy copies of the First Requests and served a second set of requests for production and 10 second set of requests for admissions (Second Requests). Managers responded in some way to all pending discovery except for interrogatories for Jeslyn Tran and certain isolated parts of other interrogatories and requests for production; Co-owners contend that when Managers finally provided interrogatory answers for Tran, they were incomplete and contained improper objections. Motions to Compel and Contempt Motions On March 28, 2019, Co-owners moved to compel Managers to “fully and completely respond” to discovery. Co-owners attached their counsel’s affidavit, in which she stated that although Managers’ counsel had “dropped off” several sets of discovery responses at her office, he had omitted Tran’s interrogatory responses, as well as “other information and documents,” and that despite her communications with him about the missing discovery, Managers still had not provided it. Additionally, she complained that Managers’ counsel would not serve discovery electronically. Attached to counsel’s affidavit was a copy of an email exchange she had with Managers’ counsel, in which he stated, “Mr. Nguyen is going to bring out the papers he has had in storage, hopefully on Wednesday, and we can set up a date for you to go through the papers. He says that there are a lot of papers and too many to copy.” In its order granting the motion to compel, the trial court found that Managers had “abused the discovery process in an attempt to hinder [Co-owners] from obtaining relevant information.” The trial court also ordered payment of $962.50 to 11 Co-owners’ counsel on “conclusion of litigation.” The trial court’s order contains the following warning: The Court sternly reprimands Defendants for their misconduct. Discovery is a fundamental right of litigants and is necessary for the effective administration of justice. By ignoring his obligations under the rules of discovery, Defendants interfered with at least one core function of the court (enforcement of judgment) and Defendants’ misconduct will not be tolerated. Further misconduct will yield sanctions in the future, including the possibility of contempt. Managers failed to timely comply with the trial court’s order, and Co-owners moved for contempt. Co-owners supported their motion with affidavits from their counsel and from Minh. According to Minh, “As of the date of this affidavit, we still have not received any of the things required in the Order Granting Plaintiffs’ Motion to Compel Discovery Responses.” Co-owners also attached an email from their counsel to Managers’ counsel specifying at least two categories of information still requested: - All itemized receipts/evidence showing any expenses Defendants are claiming they paid on behalf of the Business or SJN (shopping receipts, receipts/evidence justifying Defendants’ cash withdrawals from the Business or SJN’s accounts or monies, etc.), not just receipts showing how much was paid to the workers. Defendants specifically stated during our June 2018 meeting with both parties and their counsel present that Defendants kept all receipts to all the expenses to show they were legitimate, including for all purchases. - ADP records and access to the account for the Business and SJN, and anything which specifically shows the source of the money Defendants used to pay for their own personal income tax to the IRS . . . . The trial court issued a show-cause order. After a hearing on May 2, 2019, the trial court found that “the parties should be given a final opportunity to resolve or 12 streamline th[e] discovery dispute without Court intervention.” In its order, the trial court pointed the parties to Dondi Properties Corp. v. Commerce Savings & Loan Ass’n, 121 F.R.D. 284 (N.D. Tex. 1988), and to the Texas Lawyer’s Creed for standards of discovery-related conduct. The trial court ordered lead counsel for both parties to “confer in-person in an attempt to resolve all matters in dispute” and to submit a joint status report so that the trial court could “determine the respective positions of each party regarding the subject matter of the dispute in a single written submission.” In the later-filed joint status report, the parties indicated that they had agreed “regarding all of the items in the” motion-to-compel order, and they requested an extension of the trial date until September 2019 “to allow the parties time to complete discovery and mediate.” Before the parties could mediate, however, Co-owners filed a second motion to compel, in which they alleged that John had refused to answer certain questions in his June 2019 deposition “regarding transactions shown on certain business financial records that were presented to him (such as the bank statements for Hollywood Nails and Spa)” because “he could not verify whether the documents were authentic and that anyone could put the bank logo on anything.” According to Co-owners, “[t]hese documents were the very ones produced by [Managers] in response to [Co-owners’] discovery requests.” Co-owners also indicated that although their counsel had asked Managers’ counsel on numerous occasions to electronically serve “all documents produced in response to [Co-owners’] discovery 13 requests in bates-labeled format and verified with [Managers’] notarized signatures,” he had not done so. In ruling on the second motion to compel, the trial judge took judicial notice of the file and granted the motion, finding that “John [had] abused the discovery process in an attempt to hinder [Co-owners] from obtaining relevant and pertinent information by refusing to answer questions during his deposition pertaining to business transactions and records.” The court also found that Managers, “by electronically serving all discovery responses and documents produced in bates- labeled and verified format, would clear any confusion as to what discovery was in fact produced by” Managers. The court ordered Managers to produce the discovery in the proper format “no later than August 9, 2019,” ordered Managers to “answer all questions relating to Hollywood Nails Salon and Spa or the records produced by [Managers] without any objection or reservation (other than those protected by attorney[–]client or spousal privilege),” and ordered payment of $612.50 to Co- owners’ counsel. The trial court included the same discovery-misconduct reprimand language from the prior motion-to-compel order, this time naming John specifically. On August 13, 2019, Managers’ counsel filed a motion seeking an extension of time to comply with the second order to compel. He stated that he had been unable to return to work after his wife’s surgery because he had been her sole caregiver during her recovery after she was released from the hospital on July 28, 2019. He also explained, 14 Defendants’ Counsel[] has never provided Bates-Labeled documents and does not have the equipment to perform such tasks and has obtained the services of Fedx Kinkos to label and scan the documents requested with an estimated delivery date of August 14, 2019, at which time Defendants are to verify the documents before a notary public. Further, Defendants’ Counsel does not have the ability to electronically serve all responses and documents except through providing Plaintiffs a Thumb Drive with the stored documents. And [counsel] requests that the court find[] that the Thumb Drive complies with the Court’s Order to “electronically serve all responses and documents.” The trial court did not sign an order. Co-owners filed a second motion for contempt, alleging that Managers had failed to pay the ordered attorney’s fee and had failed to electronically serve all responses and documents responsive to the discovery requests. They attached their attorney’s affidavit in which she averred she had not been paid the $612.50 and that Managers’ attorney had “chose[n] to hand deliver a flash drive of [Managers’] discovery responses and documents, without any verified/notarized signatures, on August 14, 2019, completely contrary to the” order. The trial court issued a show- cause order but did not hold Managers in contempt. From the appellate record, it appears that Managers’ counsel never electronically served the discovery. Second Motion for Summary Judgment The trial court ordered the parties to mediation, and the parties mediated in October 2019. Although the mediator informed the trial court that “an agreement was not reached in our meeting,” she believed it would be “premature to declare an impasse in that the parties are continuing with their discovery.” [Emphasis added.] 15 After the mediation, Co-owners served additional discovery, including Third Requests for Admissions (Third Requests), which Co-owners served on Managers’ attorney on November 20, 2019, and which were due on December 20, 2019. The docket sheet notes that the parties entered into an agreed scheduling order in December 2019, but that order is not included in the appellate record. Managers did not respond to the Third Requests. On January 2, 2020, Managers filed a Defendant’s Original Answer 1 containing a general denial and affirmative defenses based largely on the Settlement Agreement: accord and satisfaction (“[SJN] was sold and sales price divided in accordance with such agreements.”), estoppel (“[T]he parties settled this case and agreed to discharge each other from liability for [SJN] and cannot now seek to sue for any damages.”), payment (“All of [SJN’s] liabilities have been paid, [SJN] sold and the proceeds divided in accordance with the written agreement of the parties.”), unclean hands (“[Co-owners] represented to [Managers] that this case had been settled and all liability extinguished, and then continued on with the suit.”), and breach of the Settlement Agreement. Managers also raised the following verified pleas that were contrary to admissions they had made in answering the First Requests: they alleged that Minh lacks capacity and standing to sue because he “is not an owner of the company about which this suit is brought” and that “there is a defect of parties” 1 Because Managers had already filed an answer, this pleading was more in the nature of an amended or supplemental answer. See Tex. R. Civ. P. 71. 16 because “[a]t some point in the process of establishing the company, Stephen Nguyen’s name replaced that of” Minh’s. Managers did not bring a counterclaim for breach of the Settlement Agreement, but they did seek attorney’s fees because “under the provisions of the Civil Practice and Remedies Code, this case is brought for Breach of Contract among other requests for relief.” The next day, Co-owners filed an amended motion for summary judgment, based on Managers’ answers to their First Requests as well as the deemed admissions to their Third Requests. The motion did not expressly address any of Managers’ affirmative defenses. Managers responded to the motion, contending (1) that the case had been settled and the proceeds had already been divided according to the Settlement Agreement’s terms; (2) that many of the “deemed” admissions from the Third Requests were duplicates of those in the First Requests and Second Requests and had thus already been asked and answered; (3) that damages were unliquidated and the summary judgment evidence did not prove the damages amounts; and (4) that Co- owners had not shown any statutory authority for their requested attorney’s fees and had not proved that the fees they sought by affidavit were reasonable and necessary. Managers did not expressly request to withdraw the deemed Third Requests but appeared to argue that they had responded to them by the time the summary judgment response was filed. 17 Managers’ response relied on (1) affidavits from John and Managers’ former counsel to explain the circumstances of the Settlement Agreement’s execution; (2) the affidavit of a CPA who had reviewed the business’s financial records and who––in the words used in the response––had “the opinion that the accounting information upon which Plaintiffs rely . . . is accurate”;2 and (3) Managers’ then-attorney’s affidavit “stating why response to discovery was not timely made.” The CPA averred in her affidavit that she had reviewed computer summaries of “Total Sales Reports,” bank statements, checks, W2s, 1099s, and tax returns for SJN for 2018, and Total Sales Reports, W2s, 1099s, and tax returns for 2016 and 2017. After doing so, she concluded that “the computerized tapes shown as ‘Total Sales Reports,’” which purport to be the summaries of the business’s income, “do not reflect amounts that coincide with the totals of the Bank Statements, W2 reports[,] and 1099 reports issued to employees and contract laborers, and the checks issued to such workers and the tax return of SJN . . . for the twelve months ended 2018.” She stated that in her professional opinion, the Total Sales Reports “are not accurate and cannot be relied upon to provide accurate financial information concerning the sales receipts” of the business, “making it difficult, if not impossible, to determine the actual income and expenses of the business, and the net profits that were to be split equally between the owners.” Managers’ counsel averred the following in his affidavit: 2 This statement appears to be a typo. 18 “On November 20, 2019, Plaintiffs’ attorney filed through e-service ‘Plaintiffs’ Consolidated Discovery Requests.’ I did not see the filing come in and was unaware of it until Plaintiffs filed their Motion for Summary Judgment and discovered that it, in fact, had been filed. During the time, beginning the following week after discovery was filed, I became sick, with a pneumonia/asthma like condition, [sic] in fact at a status conference in this case on December 6, 2019, both Plaintiffs’ attorney and I were ill with similar symptoms. “The following weeks I did not work because is [sic] was ill with coughing and runny nose. My condition was so bad that my doctor debated putting me in the hospital so that the medicine could be delivered intravenously, but decided I would probably be better off at home. I finally started feeling better Christmas week, after the discovery due date. Even if I had seen the discovery requests, I could not have answered them. “Since receiving Plaintiffs’ Motion for Summary Judgment, I worked hard to supplement all of the Discovery by the due date of January 10, 2020. Again I, did not see the Request for Discovery until I saw it attached to Plaintiffs’ Motion for Summary Judgment.” In their reply, Co-owners presented documentation from the e-filing service provider showing that the discovery electronically served on Managers’ counsel was opened by him (or someone using his email) on November 20, 2019, at 12:33 p.m. Therefore, they argued that Managers had not shown good cause that would allow them to withdraw those deemed admissions and that this evidence, as well as Managers’ past pattern of discovery abuse, shows that Managers intentionally chose not to answer the discovery. After a hearing, a record of which was not provided by Managers on appeal, the trial court signed a final judgment, in which it granted the summary judgment motion. The trial court’s judgment states that the judge took judicial notice of the file 19 and considered “all timely filed pleadings, all timely filed and competent summary judgment evidence,” and “the arguments of counsel.” The trial court also made the following findings: (1) that the admissions in the Third Requests had been deemed admitted and (2) that “[b]ased on [the] deemed admissions, [Managers’] direct admission[s], other evidence submitted by [Co-owners], and the documents on file,” Co-owners showed that “the facts support all the elements for [their] causes of action . . . for breach of contract, breach of fiduciary duty, disgorgement, money had and received, violation of the Texas Business Organizations Code, statutory fraud, and negligent misrepresentation.” The court awarded Co-owners damages of $217,103.78 and attorney’s fees of $26,500. This appeal followed. Issues on Appeal Managers raise the following issues on appeal: ° “The Trial Court erred in granting Summary Judgment for [Co-owners] by ignoring the Parties’ Written Agreements dated October 24, 2018, which contractually settled their dispute.” According to Managers, “the net proceeds from the sale were equally divided between the parties in accordance with the contractual terms of the” Settlement Agreement, which should have ended the dispute, and Co-owners wrongfully continued the suit. ° “The Trial Court erred in deeming Plaintiffs’ Request for Admissions to be admitted.” Managers argue that their response to the motion for summary judgment shows that “there were many material issues of fact left to be determined and that the 20 lack of timely response . . . was not as a result of conscious indifference but that the electronic e-mail service on [Managers’] attorney was not seen when delivered.” Managers contend that without the deemed admissions Co-owners did not conclusively prove the damages elements of their claims. ° “The Trial Court erred in granting Plaintiffs’ Summary Judgment based on Deemed Admissions, most of which had previously been denied.” According to Managers, “Many of the Requests in the first two sets of Requests were the same or very similar in content as Plaintiffs’ Third Set of Requests”; thus, Co-owners should not have gotten a second bite at the apple. ° “The Trial Court erred in awarding Plaintiffs Attorney’s fees.” Managers argue that “[t]his cause of action was brought in torts and not contract and none of [the types of claims listed in Section] 38.001 . . . were alleged or pled.” Standard of Review We review a summary judgment de novo. Travelers Ins. v. Joachim, 315 S.W.3d 860, 862 (Tex. 2010). We consider the evidence presented in the light most favorable to the nonmovant, crediting evidence favorable to the nonmovant if reasonable jurors could and disregarding evidence contrary to the nonmovant unless reasonable jurors could not. Mann Frankfort Stein & Lipp Advisors, Inc. v. Fielding, 289 S.W.3d 844, 848 (Tex. 2009). We indulge every reasonable inference and resolve any doubts in the nonmovant’s favor. 20801, Inc. v. Parker, 249 S.W.3d 392, 399 (Tex. 2008). A plaintiff is entitled to summary judgment on a cause of action if it conclusively proves all 21 essential elements of the claim. See Tex. R. Civ. P. 166a(a), (c); MMP, Ltd. v. Jones, 710 S.W.2d 59, 60 (Tex. 1986). “In the context of a plaintiff’s traditional motion for partial summary judgment to dispose of a defendant’s affirmative defense, a plaintiff may prevail by conclusively negating at least one element of the defense.” Berry Contracting, L.P. v. Mann, 549 S.W.3d 314, 322 (Tex. App.—Corpus Christi–Edinburg 2018, pet. denied). Because Co-owners were not “using the summary judgment process to attack” Managers’ affirmative defenses, they had the initial burden only to conclusively prove all essential elements of their own claims. See Customer Ctr. of DFW Inc. v. RPAI N. Richland Hills Davis Ltd. P’ship, No. 02-20-00189-CV, 2021 WL 2149623, at 2 (Tex. App.—Fort Worth May 27, 2021, no pet. h.) (mem. op.); see also MMP, Ltd., 710 S.W.2d at 60; Charles Glen Hyde, Nw. Reg’l Airport, Inc. v. Nw. Reg’l Airport Prop. Owners Ass’n, Inc., 583 S.W.3d 644, 648 (Tex. App.—Fort Worth 2018, pet. denied). Only if Co-owners had done so did Managers then have “the burden . . . to raise a genuine issue of material fact precluding summary judgment,” Lujan v. Navistar, Inc., 555 S.W.3d 79, 84 (Tex. 2018), as well as to present evidence sufficient to raise a fact issue on each element of any affirmative defense. Customer Ctr. of DFW, 2021 WL 2149623, at 2; see Am. Petrofina, Inc. v. Allen, 887 S.W.2d 829, 830 (Tex. 1994); H & H Steel Fabricators, Inc. v. Wells Fargo Equip. Fin., Inc., No. 02-15-00391-CV, 2016 WL 6277371, at 5 (Tex. App.—Fort Worth Oct. 27, 2016, no pet.) (mem. op.). 22 Co-owners’ Claims In their second and third issues, Managers contend that the trial court abused its discretion by not allowing them to withdraw their deemed admissions, without which Managers contend Co-owners failed to prove the damages elements of their claims. Managers claim that even though they never filed a motion to withdraw the deemed admissions, they sufficiently brought such a request to the trial court’s attention. See Wheeler v. Green, 157 S.W.3d 439, 442 (Tex. 2005). They also claim that Co-owners’ reliance on the Third Requests was improper because “[m]any of the [r]equests in the first two sets of [r]equests were the same or very similar in content” to the Third Requests. According to Managers, if this summary judgment were allowed to stand, “what a wise (or shady) litigant would need to do is keep filing requests in hopes that the other party might not respond timely, and use that non- response to obtain judgment.” Even if Managers’ summary judgment response was sufficient to request withdrawal of the deemed admissions, the trial court did not abuse its discretion by finding that Managers had not shown good cause for withdrawal and that summary judgment could be based, in part, on the admissions in the Third Requests. Further, considering the deemed admissions, and the other summary judgment evidence–– which includes Managers’ answers to the First Requests––Co-owners conclusively proved the damages elements of their claims. 23 Deemed Admissions If a party fails to timely respond to requests for admissions, the requests are deemed to be admitted. Tex. R. Civ. P. 198.2(c). A trial court may permit a party to withdraw deemed admissions if the party shows good cause for the withdrawal and if “the court finds that the parties relying upon the responses and deemed admissions will not be unduly prejudiced and that the presentation of the merits of the action will be subserved by permitting the party to amend or withdraw the admission.” Tex. R. Civ. P. 198.3. When admissions are deemed as a discovery sanction to preclude a presentation of the merits, they implicate the same due process concerns as other case-ending discovery sanctions. Marino v. King, 355 S.W.3d 629, 632 (Tex. 2011). Thus, to substantiate a summary judgment based solely on deemed admissions, we determine whether the party relying on the deemed admissions has shown flagrant bad faith or callous disregard for the rules. Id. at 633. If such a showing is made, admissions of fact on file at the time of a summary judgment hearing are proper proof to support a motion for summary judgment. See Dall. Drain Co. v. Welsh, No. 05-14- 00831-CV, 2015 WL 4114976, at 5 (Tex. App.—Dallas July 8, 2015, no pet.) (mem. op.). But a deemed admission involving a purely legal issue is of no substantive evidentiary effect. See id. A trial court has broad discretion in ruling on a request to withdraw deemed admissions. Wheeler, 157 S.W.3d at 443. An appellate court may set aside the trial court’s ruling “only if, after reviewing the entire record, it is clear that the trial court 24 abused its discretion.” Stelly v. Papania, 927 S.W.2d 620, 622 (Tex. 1996); Saum v. Am. Express Nat’l Bank, No. 02-19-00415-CV, 2021 WL 1034146, at 7 (Tex. App.—Fort Worth Mar. 18, 2021, pet. denied) (mem. op.). A trial court does not abuse its discretion by finding a lack of good cause to withdraw deemed admissions when a party presents proof that the opposing party was properly electronically served with the admissions and did not timely respond, and the opposing party provides no proof of nonreceipt. See In re City Info Experts, LLC, No. 01-20-00364-CV, 2020 WL 6435782, at 11 (Tex. App.––Houston [1st Dist.] Nov. 3, 2020, orig. proceeding) (mem. op.) (noting that under Rule of Civil Procedure 21a(b)(3), electronic service is complete upon transmission to the e-filing service provider); Garcha v. Chatha, No. 05-17-00084-CV, 2018 WL 1755391, at 3 (Tex. App.—Dallas Apr. 12, 2018, no pet.) (mem. op.) (holding that trial court did not abuse its discretion by refusing to withdraw deemed admissions when discovery was properly served initially on Garcha, and then emailed to counsel after Garcha hired him, and counsel attempted to blame the lack of response on a departing associate and, alternatively, the way counsel had programmed his own email system). Presuming that the Managers’ summary judgment response can be construed as seeking withdrawal of the deemed admissions, we do not believe the trial court abused its discretion by impliedly finding that they did not meet the Rule 198.3 standard to allow withdrawal of those deemed admissions. 25 Here, Co-owners provided proof that the admissions were properly electronically served on Managers’ attorney and that someone at his email address opened them on the day they were served. And even though Managers’ attorney averred that he became ill the week after the discovery was served and could not work in the weeks before the discovery was due, he admitted attending a status conference while ill, and the trial court was not required to believe his explanation, especially in light of the trial court’s prior findings that Managers had engaged in prolonged discovery misconduct involving the withholding of discovery directly related to the matters sought to be admitted. We do not have a reporter’s record from the summary judgment hearing to know what, if anything, was argued to the trial court in this regard. Moreover, based on Managers’ significant pretrial discovery abuses and delay, of which the trial court took judicial notice, the trial court did not abuse its discretion by determining that Co-owners would be unduly prejudiced by allowing Managers to withdraw their deemed admissions. Managers also take issue with Co-owners’ serving a third set of requests, claiming that many of them are duplicates of the First Requests and Second Requests and that a party should not be allowed to keep serving discovery in an attempt to trap the opposing party into admitting facts by mistake. While the latter may be true, the record shows that is not what happened here. All but two of the admissions in the Third Requests are in response to the parties’ mediation and to calculations made by a CPA hired by Managers. These events occurred after the First Requests and Second 26 Requests were served and answered but while Managers were still, as determined by the trial court, evading other discovery. Although the Second Requests are not included in the appellate record, Co- owners attached both the answered First Requests and deemed Third Requests to their motion for summary judgment. In comparing the two, we note only two admissions that are general––rather than comprising specific responses to the mediation and CPA calculations––and that appear to duplicate the First Requests: (1) “Defendants have intentionally and wrongfully withheld Plaintiffs’ share of the Company profits” and (2) “Defendants have no intention of paying Plaintiffs their fair share of the Business’s profits that Defendants still owe.” Considering that Managers had admitted in their First Requests that they had not paid Co-owners all their share of the business’s profits and considering the prolonged discovery misconduct in which the trial court determined Managers engaged, we do not see how Managers were harmed by the repeat of these two questions. See Tex. R. App. P. 44.1(a). Therefore, the trial court did not abuse its discretion by deciding the summary judgment motion based in part on the deemed admissions. The fact issues Managers claim to have raised challenge only the calculation of damages, not the other elements of Co-owners’ claims. Because specific damage amounts were included in the deemed admissions, Managers’ contrary evidence was inadmissible. See Sadeghian v. Wright, No. 06-18-00062-CV, 2019 WL 255741, at 3 (Tex. App.—Texarkana Jan. 18, 2019, pets. denied) (mem. op.) (“[A]dmissions, once 27 made or deemed by the court, may not be contradicted by any evidence, whether in the form of live testimony or summary judgment affidavits.” (quoting Luke v. Unifund CCR Partners, No. 02-06-00444-CV, 2007 WL 2460327, at *2 (Tex. App.—Fort Worth Aug. 31, 2007, no pet.) (mem. op.))). Thus, Managers did not raise a fact issue on damages. We overrule Managers’ second and third issues. Release In their first issue, Managers argue that the trial court erred by granting Co- owners summary judgment because they proved their affirmative defense that the suit had been fully settled in accordance with the Settlement Agreement, which they claim obligated Co-owners to release all their claims in the suit. A release extinguishes a claim or cause of action to which it applies and is an absolute bar to any right of action on the released matter. Dresser Indus., Inc. v. Page Petroleum, Inc., 853 S.W.2d 505, 508 (Tex. 1993). Thus, the releasing instrument must “mention” the claim to be released. Victoria Bank & Tr. Co. v. Brady, 811 S.W.2d 931, 938 (Tex. 1991); see Keck, Mahin & Cate v. Nat’l Union Fire Ins. Co. of Pittsburgh, Pa., 20 S.W.3d 692, 697–98 (Tex. 2000). Claims not clearly within the subject matter of the release are not discharged, even if those claims exist when the release is executed. Keck, 20 S.W.3d at 698. It is not necessary, however, for the parties to anticipate and explicitly identify every potential cause of action relating to the subject matter of the 28 release. Id. Although releases include claims existing at the time of execution, they may also include unknown claims and damages that develop in the future. See id. As a contract, the Settlement Agreement is subject to the normal rules of contract construction, including the rules of ambiguity. Nat’l Union Fire Ins. Co. of Pittsburgh, Pa. v. Ins. Co. of N. Am., 955 S.W.2d 120, 127 (Tex. App.––Houston [14th Dist.] 1997), aff’d, 20 S.W.3d 692 (Tex. 2000). In construing a release, as with other contracts, the primary effort is to ascertain and give effect to the intention of the parties to the release, considering the instrument as a whole. Stafford v. Allstate Life Ins., 175 S.W.3d 537, 541 (Tex. App.––Texarkana 2005, no pet.) (reasoning that a contract must be read as a whole rather than isolating a certain phrase, sentence, or section of the agreement). The contract’s language is to be given its plain grammatical meaning unless doing so would defeat the parties’ intent. Id. The plain language of the Settlement Agreement shows that in the first paragraph, the parties agreed to sell the business and split the “sales proceeds.” But the release language in the second paragraph is contingent on the completion of the sale “with a sales price and SJN profit distributions [not “sales proceeds”] satisfactory to the [p]arties.” [Emphasis added.] Thus, the Settlement Agreement’s language evidences the parties’ intent to release the claims in the suit not only when the business was sold and the sales proceeds split in half, but also when the parties were able to agree on an acceptable profit distribution, the subject of the suit. Nothing in Managers’ summary judgment responsive evidence indicates that the parties agreed on 29 profit distributions so as to satisfy the release’s prerequisite. We therefore overrule Managers’ first issue. Propriety of Attorney’s Fees In their fourth issue, Managers challenge the basis of the attorney’s fees award. Managers contend that “[t]his cause of action was brought in torts and not contract” and, thus, that Co-owners were not entitled to attorney’s fees under Section 38.001 of the Civil Practice and Remedies Code. Tex. Civ. Prac. & Rem. Code Ann. § 38.001(8). But Managers judicially admitted in their original answer that a breach of contract claim was at issue. See, e.g., Lee v. Lee, 43 S.W.3d 636, 641–42 (Tex. App.––Fort Worth 2001, no pet.) (providing standard for when party is deemed to have judicially admitted a fact); see also Horizon/CMS Healthcare Corp. v. Auld, 34 S.W.3d 887, 896–97 (Tex. 2000) (noting that Texas follows “fair notice” standard for pleadings, which looks to whether pleading alleges sufficient facts for opposing party to prepare a defense). We therefore overrule Managers’ fourth issue. Conclusion Because we have overruled Managers’ four issues, we affirm the trial court’s judgment. /s/ Wade Birdwell Wade Birdwell Justice Delivered: August 26, 2021 30	01-04-2023	08-30-2021
https://www.courtlistener.com/api/rest/v3/opinions/4621666/	Estate of Bertha V. Nottingham, Deceased, Mark C. Nottingham, Administrator v. Commissioner. M. C. Nottingham v. Commissioner.Estate of Nottingham v. CommissionerDocket Nos. 42874, 42875.United States Tax CourtT.C. Memo 1956-281; 1956 Tax Ct. Memo LEXIS 11; 15 T.C.M. (CCH) 1454; T.C.M. (RIA) 56281; December 28, 195611 George M. Bryant, Esq., 1117 Rowan Building, 458 South Spring Street, Los Angeles, Calif., for the petitioners. Mark Townsend, Esq., and J. Earl Gardner, Esq., for the respondent. RAUMMemorandum Findings of Fact and Opinion The respondent determined deficiencies in income tax for 1942, income and victory taxes for 1943, and additions to tax for fraud, as follows: M. C. NottinghamAdditionYearTaxDeficiencyto Tax1942Income$2,887.99$2,125.181943Income and Victory6,102.463,051.23Bertha V. Nottingham1942Income$2,887.99$2,125.181943Income and Victory6,083.663,041.83By amended answers, the respondent claimed additional deficiencies in income tax and additions to tax for fraud, as follows: M. C. NottinghamAdditionYearTaxDeficiencyto Tax1942Income$3,183.34$1,591.671943Income and Victory151.7075.85Bertha V. Nottingham1942Income$3,183.34$1,591.671943Income and Victory157.2078.60The questions presented are: 1. Did the respondent correctly determine that petitioners overstated cost of goods sold in 1942 by the amount12 of $6,334? 2. Did the respondent correctly determine allowable deductions for business expenses in 1942 and 1943? 3. Did the respondent correctly disallow claimed salary deductions of $4,000 and $12,000 in 1942 and 1943, respectively, for purported payments made to E. Fred Gearheart? 4. Did the respondent correctly disallow $8,171.14 claimed as expense of labor and wages in 1942, of which amount $2,695.22 represented payroll checks paid to petitioner Mark Nottingham, and $5,475.92 represented amounts deducted but never paid under a profit-sharing agreement between petitioners and four employees? 5. Are petitioners entitled to additional deductions in computing their community distributable share of 1942 and 1943 income from the M. C. Nottingham Construction Co., a partnership? 6. Did the respondent correctly determine that the petitioners filed false and fraudulent returns for 1942 and 1943? At the trial many items were conceded by the parties and effect will be given to these concessions upon settlement under Rule 50. Findings of Fact Facts stipulated by the parties are incorporated herein by reference. Petitioners are Mark C. Nottingham (hereinafter sometimes referred13 to as "petitioner") and Mark C. Nottingham as administrator of the estate of Bertha V. Nottingham, his deceased wife. During the years 1942 and 1943 petitioner and Bertha V. Nottingham were husband and wife, residing in Los Angeles County, California. They filed, on a community property basis, separate original and amended returns for 1942 and separate returns for 1943 with the collector of internal revenue for the sixth district of California. During the years involved herein, petitioners were engaged in the business of sewage disposal and the manufacture and installation of septic tanks as a sole proprietorship d/b/a the M. C. Nottingham Co. (hereinafter referred to as "the proprietorship"). The petitioner was also a co-partner in the M. C. Nottingham Construction Co. (hereinafter referred to as "the partnership"), which was engaged in the installation of sewers, storm drains and similar underground construction work. Petitioner during 1943 was also a partner in the Arroyo Seco Oil Company. Petitioners kept their books and filed their returns on an accrual basis. The offices of the proprietorship and the partnership were located in the residence of petitioners. The adjustments14 by respondent to 1942 income of the petitioners are based on the original returns filed by petitioners. In computing the deficiencies for such year, however, petitioners have been credited with the additional amounts paid by them on their amended returns. During 1942 and 1943 petitioners maintained many different bank accounts. Also separate sets of books were maintained for different jobs and for different branches of the proprietorship. Overstated Cost of Merchandise Hygiene Products Company (hereinafter referred to as "the corporation") was a corporation wholly owned by the petitioners. It had been dormant for two years prior to 1942 and remained so for two years thereafter. No separate office was maintained by the corporation and it had no employees. No books, records or bank accounts were maintained by the corporation. On May 15, 1942, petitioner acting for the proprietorship entered into a contract with the United States to furnish and install septic tanks at alien induction centers located at Pinedale, California. The contract was at cost plus a percentage of 15 or 20 per cent. The septic tanks supplied for the Pinedale job were manufactured by the proprietorship15 in Temple City and were shipped from there. The cost of manufacturing the tanks was $5,786. The petitioner caused entries to be made on the proprietorship books reflecting a sale of these tanks to the corporation at $5,786 and later entries reflecting the purchase of these same tanks from the corporation by the proprietorship for $12,120. These entries were made by the bookkeeper pursuant to instructions which she received from the petitioner. On the first transaction a check for $5,786 was drawn on one bank account of the proprietorship and deposited in another bank account of the proprietorship. On the second transaction a check for $12,120 was drawn on the Fresno bank account of the proprietorship and was deposited in one of the Temple City bank accounts of the proprietorship. Income and excess profits tax returns for 1942 were filed by the corporation reporting sales of $12,120 and cost of merchandise of $5,786. No freight expense or other deductions were claimed on such returns. An application for an extension of time for filing the corporate income tax return was made and granted on the grounds that petitioner was away and his supervision was needed to prepare the return16 since he had supervised all the records and business affairs of the corporation. The amounts reported and paid as income and excess profits tax by the corporation for the year 1942, plus interest, have been refunded to it by the Treasurer of the United States. The amount of the refund was $2,268.02. The respondent determined that cost of goods sold by the proprietorship had been overstated by the amount of $6,334, and added this amount to the income reported by petitioners. Expense Deductions Personal expenses of the petitioners were entered on the proprietorship books, and deductions were claimed for such expenses as business expenses in returns filed by petitioners for the years 1942 and 1943. In 1942 petitioner purchased a cocktail bar, bar stools, a sofa and other furniture for $329.60. Two payments were made on the purchase, one for $200 and the other for $129.60. The first payment was charged on the books to "Repairs to Equipment" and the second payment was charged to "Office Expense". The furniture was used to furnish a rumpus room in the basement of petitioners' combination home and office. The room was used for the entertainment of customers and employees. The17 furniture purchased for this room was still in use after the years involved herein. In 1942, petitioners purchased a case of whiskey for $56.80, and paid $27.67 for a bicycle to replace one destroyed by their truck. Disallowance of Gearheart Payments E. Fred Geraheart was placed on the proprietorship payroll in September 1942 and received $1,000 a month for the remaining four months in 1942 and for twelve months in 1943, a total of $16,000. These amounts were deducted by petitioners as "Salary - Sales and Promotion" in 1942 and as "Labor" in 1943. Gearheart's principal business in 1942 and 1943 was the operation of a jewelry store as a sole proprietor, which business he had started in 1938. His net profits from the jewelry business in 1942 and 1943 were between $2,000 and $3,000, which were average profits for him at that time. Gearheart was the highest priced man on the proprietorship payroll except some of the branch managers. He came to the proprietorship office on very few occasions and none of the regular employees knew of any work performed by him. He was a close personal friend of petitioner. During 1942 Gearheart was listed as a "clerical" employee on workmen18 compensation records maintained by petitioners and this designation was changed on such records to "salesman" in 1943. Though Gearheart's residence, jewelry store and regular bank accounts were located in Temple City, he opened a new checking account and a savings account in Compton in the Security-First National Bank (hereinafter referred to as the "Compton bank") where he deposited most of the amounts received from petitioners. Compton is located about 20 miles from Temple City. On the signature cards, Gearheart listed as his residence address the address of his sister-in-law in Compton rather than his own residence in Temple City. Gearheart opened the new and separate account for the amounts received by him from petitioners "so it wouldn't get messed up with my [his] own account." During 1942 and 1943 Gearheart was Secretary of the Chamber of Commerce in Temple City. During both years the petitioner was also a member of the same Chamber of Commerce and was President during one of the years. Gearheart's alleged "work" for petitioners consisted of reporting to petitioner rumors and reports about three jobs which he heard at Chamber of Commerce meetings. Gearheart went to19 one meeting of the Chamber of Commerce in 1942. He went to six or seven meetings in 1943 and petitioner was also present at some of these meetings. Gearheart did not contact anyone about jobs, did not go out and make any bids, and knew little about petitioner's business. The revenue agent, in investigating petitioners herein, called upon Gearheart and asked him to produce retained copies of his 1942 and 1943 income tax returns. Gearheart turned over to the agent a purported retained copy of his 1943 return. Such copy was not in fact a copy of the filed return but contained only Gearheart's individual income and deductions and tax liability thereon without including the $12,000 alleged payments received from petitioners in 1943. Upon being informed by the agent that the document was not a copy of the filed return, Gearheart then produced a retained copy of the filed 1943 return. The first copy handed the agent computed Gearheart's tax liability for 1943 without including the $12,000 received from petitioners in 1943 and also listed the tax liability for 1942 without including the $4,000 received from petitioners in 1942. 120 Gearheart drew certain checks on his Compton bank account which were deposited in his regular Temple City bank account. A check in the amount of $1,501.23 was drawn by Gearheart on his Compton account on March 14, 1943. About $1,100 or $1,200 of this amount was used by Gearheart to purchase two diamond rings which were allegedly sold by him to petitioners. A check in the amount of $246.27 was drawn by Gearheart on his Compton account and deposited in his Temple City account. This check was charged to his Compton account on March 15, 1943 after clearing. The $246.27 represented the difference between the amount of Federal and State income tax due on the first installment of 1942 tax attributable to including the $4,000 received from petitioners, and the amount due as computed by Gearheart ($34.92) without including the $4,000. A check in the amount of $212.28 was drawn by Gearheart on his Compton account, charged to the account on June 10, 1943, and deposited in his Temple City account. The $212.28 represented the difference between the amount of Federal income tax due on the second installment of 1942 attributable to including the $4,000 received from petitioners, and the amount21 due as computed by Gearheart ($34.92) without including the $4,000. A check in the amount of $675.56 was drawn by Gearheart on his Compton account, charged to the account on September 15, 1943, and deposited in his Temple City account. The $675.56 represented the difference between the amount of income tax due for first payment on estimated tax for 1943 as computed by Gearheart ($749.75) attributable to including the $12,000 received from petitioners in 1943, and the amount of estimated tax as computed by Gearheart ($74.19) without including the $12,000. Gearheart had computed that $749.75 was the amount of the second payment of estimated 1943 tax due in December of 1943, $675.56 of which was attributable to including the $12,000 received from petitioners, and $74.18 of which was attributable to his individual income without including the $12,000. The second installment of 1943 estimated tax in the amount of $749.75 was paid. Gearheart and his wife filed separate returns for 1943 on March 15, 1944. These returns showed that Gearheart and his wife had each overpaid 1943 tax by $132.29 which they elected to have credited to 1944 estimated tax. In January 1944, Gearheart transferred22 $317.55 by check from his Compton bank account to his Temple City account, and in March 1944, drew and cashed a $100 check on his Compton account, which was charged to such account on March 27, 1944. The latter two amounts, plus the $264.50 refund credited to 1944 estimated tax, total $682.05. In computing the amount of tax to be paid on his 1942 and estimated 1943 individual income without including the $16,000 received from petitioners, Gearheart had used the figure $218.21. In a later computation he determined that only $139.66 was due in 1942 and no tax in 1943 on such individual income. Thus, in his original computation he had allocated $78.55 too much to his individual income. This error was noted on an adding machine tape attached to the 1943 return first handed to the investigating agent. In 1943, Donald DeSilva was a partner with petitioner in the Arroyo Seco Oil Company. Petitioner told DeSilva that he wanted to borrow some money from Gearheart; that he wanted the money to come through DeSilva and not through Gearheart; that Gearheart would give DeSilva a check and that he was to give Gearheart a note back for the check; and that DeSilva was then to give petitioner a23 check and petitioner would give him a note. DeSilva knew Gearheart "slightly" at that time. In October 1943 Gearheart drew a check in the amount of $4,500 on his Compton account payable to Donald DeSilva. This check was deposited in DeSilva's account on October 5, 1943, and charged to Gearheart's Compton account after clearing on October 6, 1943. On October 4, 1943, DeSilva drew a check in the amount of $4,500 payable to the M. C. Nottingham Co. This check was deposited in one of the proprietorship bank accounts in Temple City on October 5, 1943, and was charged to DeSilva's bank account after clearing on October 8, 1943. On petitioners' deposit ticket was noted "Loan from Don Desilva 6% int." Gearheart drew and cashed a check for $1,000 which was charged against his Compton bank account on June 28, 1943. He also drew and cashed a check for $2,000 which was charged against his Compton bank account on August 18, 1943. On October 28, 1943, petitioner made a cash investment of $1,000 in the Arroyo Seco Oil Co. On December 13, 1943, petitioner made a cash investment of $2,000 in the Arroyo Seco Oil Co. On May 22, 1944, Gearheart closed out his Compton checking account taking the24 balance of $2,076.09 in the form of a cashier's check. This cashier's check was turned over to petitioners, endorsed by Bertha Nottingham, and deposited in petitioners' personal bank account. The respondent disallowed the deductions claimed by petitioners for payments to Gearheart in 1942 and 1943. Labor and Wages In determining the deficiencies for 1942, the respondent disallowed a deduction of $8,871.14 claimed by petitioners for labor and wages. Of this amount $2,695.22 represented an amount paid as compensation to petitioner and $5,475.92 represented the portion of a deduction of $12,611.44, claimed to be due to four employees at the end of 1942 under a profit-sharing agreement, which was not paid. In 1942 petitioners deducted as labor expense of the proprietorship an amount of $2,695.22 which represented payroll checks paid to petitioner and charged to payroll account. These checks were deposited in petitioners' personal bank account. This amount was not included in petitioners' income, but was restored to income by the amended returns. At the end of 1941 petitioner entered into a profit-sharing agreement with three of the employees of the proprietorship. A fourth employee25 was included in the agreement in August 1942. The agreement provided that each employee would receive a specified salary, and as additional compensation an amount equal to fifteen per cent of the net profits of the business to be paid semiannually in June and December of each year. The agreement did not contain all the details of computing the profits to be shared. At the time the agreement was executed the petitioner had an oral understanding with the employees that in computing the amount of the profits deductions would be made for a salary for himself equal in amount to the combined salaries of the employees for rent of his equipment and for business expenses. In the middle of 1942, petitioner employed J. R. Brunning an accountant. At the end of that year he discussed with this accountant the method of computing the profits to be shared for the last six months of 1942. The accountant made a computation which showed that each employee was entitled to receive approximately $3,000. The petitioner argued that the computation was not right because the accountant had made no deduction, in arriving at the amount of profits to be shared, for salary for petitioner and rent for his equipment. 26 The accountant told petitioner that salary for him and rent for his equipment were not proper deductions because the business was operated as a sole proprietorship. The accountant convinced petitioner that his computation was correct and that the employees were entitled to receive the amount of $12,611.44 as their share of profits under the profitsharing agreement. This amount was charged to the proprietorship payroll account in 1942 and deducted as an expense forl abor and wages in the 1942 returns of the petitioners. Near the end of 1942 the four employees were called together and received profitsharing checks from the petitioner, three of which checks were in the amount of $2,000 each and the fourth in the amount of $1,986.62. 2 The checks were dated December 31, 1942. Pursuant to petitioner's request, the employees endorsed the checks, returned them to petitioner in exchange for four notes payable December 31, 1943, in the face amount of $2,000 each. The petitioner, without adding his endorsement to the checks, used them to purchase four cashier's checks in the face amount of $2,000 each on December 31, 1942. Petitioner then deposited the four cashier's checks in one of the27 proprietorship bank accounts on December 31, 1942. In March 1943 each of the four employees received an additional profit-sharing check in the amount of $1,152.86. These checks were issued on or about March 15, 1943, but were dated December 31, 1942. The employees retained the proceeds of these checks. In 1943, another accountant, Wm. P. Bamber, was employed by the petitioner to make certain corrections in the books and prepare the 1942 returns of petitioners. Petioner discussed with him the computation made by Brunning of the shares of profits due the four employees at the end of 1942 under the profit-sharing agreement. Bamber advised the petitioner that a salary for himself and rent for the equipment of the proprietorship could be deducted for the purpose of determining the shares of 1942 profits which the employees were entitled to receive, but that these deductions could not be taken for income tax purposes. Bamber recomputed the shares of the profits which the employees were entitled to receive as of December 31, 1942. Bamber's computation disclosed that three of the employees were28 entitled to additional payments of $841.36 and the fourth employee to nothing. The employees were informed of this in the latter part of 1943 and orally agreed to return the four notes. In February 1944 a written agreement was signed by petitioner and the four employees formalizing the oral agreement of the four employees to return to petitioner the four notes issued them on December 31, 1942. Three of the employees received $841.36 in exchange for their notes, the fourth employee received nothing in exchange for his note. No income was reported by petitioner due to the cancellation of the notes since upon cancellation the notes payable account on petitioners' books was debited but the credit was to capital account rather than to income. Partnership Deductions During 1942 and 1943 petitioner and Paul Vukich were partners in the M. C. Nottingham Construction Company. During 1942 and 1943 Nick Mlagenovich was employed by the partnership under a profit-sharing agreement. During 1942 Curry Bachman entered into a contract with petitioner to act as a sales representative of the partnership in San Diego and was to receive 10 per cent of gross receipts on jobs secured for the partnership29 in San Diego other than U.S. Government work. In 1942 a dispute arose between Bachman and the partners as to the amount of commissions due Bachman under the contract. Bachman turned over partnership receipts totaling $3,739 in 1942 to his attorney to be held in trust pending the outcome of the dispute. Bachman advised petitioner that he was withholding these funds. These partnership receipts totaling $3,739 withheld by Bachman were not entered in the partnership books nor reported as income by the partnership. In 1945, Bachman commenced suit against petitioner and Paul Vukich. On the answer filed by petitioner to Bachman's complaint, petitioner denied that Bachman was entitled to the $3,739.81 withheld receipts and alleged that their retention by Bachman amounted to a conversion. The answer further alleged that such funds had been withheld at all times against the partners' will and without their consent, and that Bachman had been paid all amounts due him under the contract with the exception of $375.98 which was admitted to be due to him. In the answer petitioner prayed for judgment against Bachman for the sum of $3,363.83, representing the $3,739.81 funds withheld by Bachman30 less the $375.98 admitted to be due him by petitioner under the contract. In 1947, Bachman's suit against petitioner and Vukich was settled and the suit dismissed. Under the terms of the settlement Bachman retained the $3,739 and was paid an additional $900 by the partners. Mlagenovich was paid certain amounts by the partnership during the course of his employment and also retained salaries paid to him by general contractors for supervising jobs. In 1943 a dispute arose between Mlagenovich and the partners as to the amount of Mlagenovich's share of the profits for the year 1942. In May 1943 an entry was made on the partnership books debiting salaries in the amount of $2,558.69 and crediting accounts payable to Mlagenovich as of December 31, 1942. At or about the same date a corresponding entry was made debiting petitioner's personal account and Vukich's personal account for $1,279.35 each and crediting M. C. Nottingham Co., the proprietorship, for $2,558.69. This latter entry was made to record a check dated May 7, 1943, payable to Nick M. Mlagenovich in the amount of $2,380.88 ($2,558.69 net of withholding taxes), which check was never signed by the maker. The original 194231 partnership return, filed presumably after the above entries of May 1943 were made, included the amount of $2,558.69 in the deduction claimed for labor. The partnership returns were filed on a calendar year basis. In June 1943 a reversing entry was made debiting accounts payable to Mlagenovich in the amount of $2,558.69 and crediting petitioner's personal account and Vukich's personal account in the amount of $1,279.35 each. An amended 1942 partnership return was filed restoring the amount of $2,558.69 to income accompanied by the explanation, "An amount of $2,558.69 was shown on the return as a deduction from income, representing expenses for labor paid as additional compensation to superintendent. This amount was entered on the books as an accrual item. No payment has ever been made, and information now indicates it will not be paid. This amount has therefore been restored to income." The copy of the amended 1942 return introduced in evidence contains a notation in writing that it was filed on May 22, 1944. On June 7, 1944 Mlagenovich brought suit against petitioner and Vukich over his share of the profits under the profit sharing agreement. In his answer to Mlagenovich's complaint32 filed July 3, 1944, the petitioner alleged that Mlagenovich earned, from the beginning of his employment on or about March 1, 1942, until termination on or about March 1, 1944, the sum of $10,448.20; that there was paid upon the earnings and received by Mlagenovich the sum of $4,977.13 in 1942, the sum of $4,440.42 in 1943 and $500 in February 1944, a total payment of $9,917.55; and that the true amount owing Mlagenovich when he left his employment was then unknown or unascertained but that subsequent computations and audits disclosed that $530.65 was owing and unpaid at the time the answer was filed. Petitioner also alleged in his answer that the check for $2,558.69 made out on May 7, 1943, was not delivered to Mlagenovich for the reason that it was discovered that this amount was not owing to Mlagenovich. On February 27, 1947, an out of court settlement was made between Mlagenovich and petitioner and Vukich whereby Mlagenovich was paid $8,000 by petitioner and Vukich. Pursuant to such settlement, Mlagenovich dismissed his suit against petitioner and Vukich on June 11, 1947. Petitioner and Vukich always denied that he was a partner. Fraud During the years 1942 and 1943 cash33 sales in the respective amounts of $3,459 and $3,289.20 were omitted from the proprietorship books and records and from the original 1942 returns and 1943 returns filed by petitioners. Petitioners maintained card index files and on regular sales the cards were numbered and the sales recorded in the proprietorship books. On cash sales, however, the bookkeeper in charge of recording sales was instructed to place an "X" on the cards in lieu of numbering them and not to record such sales. The cash from such sales was turned over to Bertha Nottingham and the "X" cards were kept in a desk drawer and were not filed in the index files with the cards covering the non-cash sales. A record of many of the omitted sales was maintained by Bertha Nottingham in a small black book not a part of the accounting records of the proprietorship. In February 1943, Frank Phillips, who had been employed as office accountant for petitioners in January 1943, discovered that certain sales were not being entered on the proprietorship books. He advised petitioner of these omitted sales prior to the filing of petitioners' original 1942 returns. The practice of not recording cash sales continued even after Phillips34 told petitioner about the omitted sales. In March 1943, petitioners hired an outside accountant, W. P. Bamber, to prepare their 1942 income tax returns and to make a survey of the books and records. At the time Bamber prepared and filed petitioners' original 1942 returns, which were filed May 13, 1943, he had no knowledge that sales were omitted from the proprietorship books and records. After the original 1942 returns were prepared and filed Bamber was advised by Phillips of the omitted sales. Bamber requested petitioners to turn over all records of omitted sales. Before the small black book was turned over to Bamber certain pages, on which omitted sales were recorded, were removed from the book and hidden. In July 1943 Phillips entered approximately $3,700 in omitted 1942 sales on the books. In addition to this amount there were $3,289.20 in omitted sales for 1943. The amended 1942 returns filed for petitioners in May 1944 reported omitted sales of $2,901.67; there were omitted sales in 1942 totaling $3,459. In preparing petitioners' returns, Bamber did not make a complete audit of their books and records. Petitioner admitted to the investigating revenue agent that he and35 his wife had started out withholding sales in small amounts and that the thing had kept growing and growing until it got out of their control. In November of 1943, petitioner gave $4,000 in cash to Donald DeSilva, which amount was deposited in DeSilva's bank account on November 6, 1943. In exchange for the cash, DeSilva gave petitioner a check for $4,000 dated November 8, 1943. DeSilva's check was deposited in the proprietorship account on November 8, 1943, and on the deposit slip was noted "Loan from Don DeSilva 6%". The $4,000 in cash did not come from the bank accounts of the petitioners, nor was it reflected on the petitioners' books and records as a disbursement. Personal expenses were charged as business expenses on petitioners' books and records and were deducted on the returns. Brunning, an outside accountant employed by petitioner in 1942, advised petitioner prior to the time the original 1942 returns were filed that personal expenses were reflected in the business books and records. These personal expenses were charged on the books as business expenses pursuant to instructions from petitioners. One of petitioner's bookkeepers advised him, prior to the filing of the36 original 1942 returns, that personal items were being charged to business expense and that such expenses were not deductible but should be charged to personal drawing account. Petitioner's distributable share of income as a partner in the Arroyo Seco Oil Co. during 1943 was $980.44. This partnership income was not reported by petitioners in their 1943 returns. A check for $290 received by petitioners from the Arroyo Seco Oil Co. on December 31, 1943, was deposited in petitioners' personal bank account on December 31, 1943, and no entry was made in their books and records. Despite a request from the examining agent at the start of the investigation to turn over all bank records, business and personal, savings and commercial, petitioner did not turn over all his bank records. The agent continued to discover additional bank accounts, despite petitioner's continued denials that there were any more such accounts. In 1942 and 1943, petitioners followed a pattern established in earlier years of deliberately omitting cash sales from their records and returns. In their returns for 1942 and 1943 petitioners deliberately claimed excessive deductions and despite repeated warnings deducted37 personal items in the guise of business expense. Petitioners entered into a conspiracy with E. Fred Gearheart to reduce their income taxes by claiming fictitious salary payments to him. Petitioners attempted to evade their 1942 income taxes by means of a sham sale and repurchase transaction between the proprietorship and their wholly owned corporation, the Hygiene Products Co. Mark C. Nottingham and Bertha V. Nottingham separately filed false and fraudulent returns for the years 1942 and 1943, and part of the deficiencies for each of these years was due to fraud with intent to evade tax. Opinion RAUM, Judge: 1. The first issue relates to the respondent's determination that petitioners overstated the cost of goods sold in 1942 by the amount of $6,334. In 1942 petitioners entered into a cost plus contract with the United States under which the proprietorship was to sell and install septic tanks at Pinedale, California. The tanks were manufactured by the proprietorship in Temple City at a cost of $5,786 and were shipped to Pinedale directly from Temple City. Petitioners went through the motions of making a sale of the tanks to their wholly-owned dormant corporation, the Hygiene38 Products Company, for $5,786 and a repurchase from that corporation for $12,120. The corporation had not engaged in any business activity since 1939 and had no employees, no office, no books, records or bank account. Petitioners urge that the alleged sale and purchase was made at the suggestion of the Army contracting officer to simplify accounting procedures with the Government under the cost plus contract. We are not convinced that this was the purpose of the steps taken, and even if it be assumed that it was, there was no bona fide purchase and sale by the Hygiene Products Company. That corporation was dormant and a mere shell. There is no convincing evidence that it had funds to make a purchase or that it ever received the proceeds of any sale. The purchase and sale transactions were mere shams and were made for the obvious purpose of increasing the cost of goods sold by petitioners. The respondent did not err in disregarding them and in including the overstated cost of goods sold, amounting to $6,334, in the income of petitioners for the year 1942. Cf. . 2. In determining the deficiencies for the years 1942 and 1943 the respondent39 disallowed numerous deductions taken by petitioners on the ground that they represented nondeductible personal expenses or were unsubstantiated. At the trial petitioners stipulated that many of the claimed deductions were properly disallowed by the respondent, and also conceded the correctness of the respondent's determinations with respect to others upon which no evidence was introduced. Evidence was introduced by petitioners with respect to a few remaining expenditures, particularly, (1) for a cocktail bar and other furniture for a rumpus room, (2) for a bicycle, and (3) for one case of whiskey. The evidence with respect to the expenditure of $329.60 for the cocktail bar and other furniture for the rumpus room convinces us that this expenditure was made for the purpose of entertaining customers and employees. The expenditure is not, however, deductible as a business expense for 1942. It was made to purchase business assets the life of which extended beyond the taxable year. It was, therefore, a capital expenditure, the amount of which is recoverable through depreciation over the life of the assets. Although the evidence with respect to the bicycle is fragmentary, we are satisfied40 that the expenditure was made to replace a bicycle destroyed by one of petitioner's trucks, and we hold that it is deductible. The evidence with respect to the expenditure for the whiskey does not convince us that it was an ordinary and necessary expense of petitioners' business, and respondent's disallowance is approved. Nor are we satisfied by the evidence that any of the other remaining controverted expenditures, small in number and amount, were deductible business expenses. 3. This issue relates to the disallowance by the respondent of salary deductions claimed by the petitioners for payments of $4,000 in 1942 and $12,000 in 1943 to E. F. Gearheart. The petitioners contend that Gearheart rendered valuable services to the partnership and that the deductions claimed were proper. The evidence relating to this issue discloses to our satisfaction that the payments of $1,000 a month to Gearheart were not bona fide payments for any services rendered by him; that it was never intended that Gearheart should retain any substantial amount of these payments as his own funds; that there was an understanding between the petitioners and Gearheart, that Gearheart, after deducting amounts sufficient41 to pay income taxes on the payments received by him in 1942 and 1943, would return the remainder to the petitioners; and that a substantial portion of the payments was funneled back to the petitioners by the use of elaborate artifices. The evidence is in large part circumstantial, but it is strong and convincing. In the circumstances, we hold that the respondent did not err in disallowing the deductions of $4,000 for 1942 and $12,000 for 1943, claimed by petitioners in their returns as "Salary" paid to Gearheart. 4. In determining the deficiencies for 1942, the respondent disallowed deductions totaling $8,171.14 claimed by petitioners as expense for labor and wages. Of the amount disallowed $2,695.22 represented payroll checks paid to the petitioner. This amount was not included as income in petitioners' original 1942 returns. A sole proprietor cannot deduct amounts paid to himself as compensation unless he restores that amount to income by reporting the compensation. The claimed deduction was eliminated on the amended 1942 returns filed by petitioners. The remainder of the disallowed deductions of $8,171.14, amounting to $5,475.92, represents the portion of a deduction of $12,611.4442 which was accrued as due to four employees at the end of 1942 under a profitsharing agreement, but which was not paid to the employees during 1942. The respondent contends that the petitioners never intended to pay the employees under the profit-sharing agreement any more than the employees actually received and retained, and that, inasmuch as they actually received and retained only $7,135.52, the deduction of $12,611.44 taken in 1942 was excessive in the amount of $5,475.92, and that amount should be disallowed as a deduction for 1942. In the alternative, the respondent contends that if this Court should hold that the claimed deduction of $12,611.44 is allowable for 1942, the $5,475.92 is taxable income of petitioners for 1943, because in that year the employees orally agreed to a cancellation of indebtedness of that amount and the petitioners knew that it would never be paid. At the end of 1942 all of the events had occurred which fixed the amount and the fact of the liability of the proprietorship to its four employees under the profit-sharing agreement. A computation was made by an accountant which disclosed that the amount of that liability was $12,611.44. Although petitioner43 urged that the computation was wrong in that it did not take into consideration a salary for himself and rent for equipment, the accountant convinced him that it was correct and the $12,611.44 was accrued as a liability on the books of the proprietorship and a deduction of this amount for labor and wages was taken in petitioners' returns for 1942. The evidence convinces us that petitioners, whose books were kept on an accrual basis, properly accrued and deducted the amount of $12,611.44 on their 1942 returns. Cf. . In 1943, petitioner discussed the computation made by the accountant in 1942 with another accountant, and the latter advised him that the computation made by the first accountant was erroneous in that a salary for petitioner and rent for equipment of the proprietorship was deductible in computing the 1942 shares of profits to which four employees were entitled under the profitsharing agreement, even though these items were not deductible for income tax purposes. A computation made by the second accountant in 1943 disclosed that the liability of petitioners under the agreement was $5,475.92 less than that determined44 by the first accountant, and the employees in 1943 agreed to return for cancellation the note for $2,000 which each of them received on December 31, 1942, and accept the amount of $2,524.08. Since it was ascertained in 1943 that $5,475.92 of the amount deducted from income in 1942 would never be paid, that amount was includible in the income of petitioners for 1943. Cf. ; , appeal dismissed, (C.A. 9). 5. Petitioners contend that they are entitled to reduce their community income from the M. C. Nottingham Construction Company partnership by certain deductions which they claim were accruable in 1942 and 1943. During 1942 Curry Bachman had a contract with the partnership which provided that he was to receive as its sales representative 10 per cent of the gross receipts on jobs he secured for it. He withheld as his commissions $3,739 of the receipts on jobs which he secured in 1942 pending the outcome of a dispute as to the amount of those commissions. The amount of the withheld receipts was not included in income in the partnership45 returns for 1942, and in those returns no deduction was claimed for any commissions payable to Bachman. In amended petitions the petitioners allege that the respondent erred in failing to reduce the community shares of the income of the partnership which they reported for 1942 by the amount of the receipts withheld by Bachman. They ignore the fact that the partnership failed to accrue and report the amount of the withheld receipts as income in its returns for 1942. The respondent in determining the deficiencies did not add the amount of the withheld receipts to the income reported by the partnership for 1942. Even if it be assumed that this amount represented commissions payable to Bachman under his contract with the partnership, the net income reported by the partnership cannot be reduced by that amount when the partners failed to report as income an equivalent amount of accruable gross receipts. Having reached this conclusion we do not deem it necessary to discuss or decide whether, if the partnership had properly accrued and reported the amount of the withheld receipts as income for 1942, the dispute between the partners and Bachman with respect to the amount of his commissions46 would preclude the accrual and deduction by the partnership of $3,739 as commissions payable to him for 1942. Petitioners also urge that the partnership is entitled to accrue as deductions in 1942 and 1943 the respective amounts of $2,558.69 and $9,882.62 by reason of compensation admitted to be due to Nich Mlagenovich. The facts relating to the item of $2,558.69 show that in May 1943 entries were made in the partnership books setting up a liability of the partnership to Mlagenovich in the amount of $2,558.69, and that a check was made out to Mlagenovich, but was not signed and delivered to him. In subsequent court proceedings brought by Mlagenovich petitioner alleged that this check was not delivered for the reason that it was discovered that this amount was not due to Mlagenovich. In the original partnership return for 1942 filed in 1943, a deduction of $2,558.69 was claimed for labor. In June 1943 the entry setting up a liability to Mlagenovich in the amount of $2,558.69 on the books of the partnership was reversed. In an amended 1942 partnership return filed in 1944, the $2,558.69 was restored to income with the explanation that this "amount was entered on the books as an accrual47 item. No payment has ever been made, and information now indicates it will not be paid." In order to be entitled to the claimed deduction of $2,558.69, it was incumbent upon the petitioners to establish that the partnership, which kept its books on an accrual basis, had a definite liability as of December 31, 1942, to pay Mlagenovich the amount of $2,558.69 as his share of profits for 1942 under the profit-sharing agreement. It is not entitled to a deduction for an expense the amount of which is unsettled and the liability for which is uncertain. Cf. ; . The inconsistent treatment accorded this item on the partnership books and in its original and amended returns for 1942 clearly indicates that the amount of any liability to Mlagenovich, as of December 31, 1942, for a share of its 1942 profits was unsettled and uncertain. In the circumstances the respondent did not err in failing to allow the deduction of $2,558.69 in computing the net income of48 the partnership for 1942 and the petitioners' community shares of that net income. Both parties agree that the right of the partnership to deduct in computing its net income for the year 1943 the amount of $9,882.62, as Mlagenovich's share of its profits for that year, is in controversy. However, no evidence was introduced by petitioners establishing that the partnership had any fixed liability to pay this amount to Mlagenovich as of December 31, 1943, and the claimed deduction cannot be allowed. 6. There remains the question of whether the returns filed by petitioners for the years 1942 and 1943 were false and fraudulent. We have found that they were, and that part of the deficiencies for each of these years was due to fraud with intent to evade tax. We do not deem it necessary to discuss in detail the evidence which we believe requires this conclusion. Suffice to say that it convinces us that cash sales were omitted from books and records and not reported in petitioners' returns; that personal expenses were entered in the books of the proprietorship and deducted in petitioners' returns in the guise of business expenses; and that other artifices, such as fictitious salary payments*49 to Gearheart, were utilized to reduce and evade income taxes. The evidence also convinces us that these things were done with the knowledge of both petitioners and that they deliberately disregarded advice given to them by accountants, revenue agents, and others, in carrying out some of these fraudulent practices. Decisions will be entered under Rule 50. Footnotes1. The first copy of the 1943 return lists income tax liability for 1942 at $139.66. The correct computation at 1942 rates without the $4,000 payments and without the State Employment Tax deduction of $30 attributable to such payments is $133.79.↩2. This check was less than $2,000 because of a withholding of $23.38 for income tax.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4475111/	OPINION. OppeR, Judge: An income tax deficiency in the amount of $1,136.75 determined against petitioner for the year 1945 is in issue. The only contested question is whether a deduction as alimony claimed by reason of payments of premiums on life insurance was properly disallowed. Petitioner filed his Federal income tax return for 1945 with the collector for the eighteenth district of Ohio. All of the facts have been stipulated. The stipulated facts are hereby found accordingly. They are as follows: 1. The petitioner herein, Dr. William J. Gardner; is a physician and surgeon specializing in neurological cases and presently associated with the Cleveland Clinic, Cleveland, Ohio. 2. The petitioner and Mrs. Edythe Gardner were married in July, 1926. Two children were born of this marriage, to wit: . William James Gardner, Jr., born in 1927 and June Patricia Gardner, born in 1934. 3. During July of 1941, the petitioner and Mrs. Edythe Gardner entered into an agreement of separation covering the respective rights as against one another. This agreement is reproduced as joint Exhibit 1-A, attached hereto and made a part hereof. The agreement obligated petitioner to pay his wife $200 a month while she remained unmarried “for her support and maintenance.” To secure the monthly payments, petitioner agreed in paragraph 9 of the agreement to invest a total of $10,000 in securities to be held by petitioner in trust for his wife and paid to her if necessary to cure any default in the $200 monthly payments. “To further secure performance * * * of his obligations,” petitioner agreed to assign to a trustee eight insurance policies upon his life in the aggregate face amount of $63,000 and— 14. If husband during his life should default in the performance of any of his obligations hereunder and such default should continue for a period of ninety (90) days, wife shall be entitled to cause said policies to be surrendered and to receive the surrender value thereof, to secure a loan or loans thereon, to receive all surplus accumulations, dividend deposits and other additions to said policies then held by the respective insurers, and to exercise any other rights with respect to said policies which the trustee is entitled to exercise; and the trustee upon request in writing by wife, or her representative, shall perform such acts and execute such documents as may be required to enable wife to exercise any and every such right; provided, always, however, that all sums payable by the insurer, upon the exercise of any such right, shall be paid to the trustee, who shall disburse the same to wife, in satisfaction of the obligations of husband hereunder, and provided further that wife shall not be entitled at any time to cause any of the insurers to pay to trustee any greater sum than may be necessary or proper to cure the default or defaults then existing. Neither party was entitled to change the beneficiary of the policies or “modify the plan' of distribution” in such manner as to impair “the rights enjoyed hereunder by wife at the time of the execution of this agreement.” Upon the death of the insured (petitioner), the net proceeds of the policies were “to be held for the benefit of wife, and certain other beneficiaries.” The trustee was instructed to hold the policies until petitioner’s death, “at which time the trustee shall * * * take such * !\|! * action as may be necessary to collect the sums owing thereunder for the • beneficiaries entitled thereto. * * *” The insurance proceeds were to be used only after the wife had exercised her rights to the securities under paragraph 9. Upon her remarriage or death, the policies were to be returned to petitioner subject to any claim for default then existing. Petitioner agreed to “pay the premiums upon said insurance when and as they become due and payable.” It is further stipulated that: 4. On or about July 16,1941, following the bringing of an action for divorce by the petitioner against Mrs. Edythe Gardner, the Court of Common Pleas of Cuyahoga County, Ohio, awarded the petitioner a divorce from Mrs. Edythe Gardner. A copy of the Journal Entry in such proceeding is reproduced as Joint Exhibit 2-B, attached hereto and made a part hereof. The agreement mentioned in the Journal Entry (Joint Exhibit 2-B) is that referred to above as Joint Exhibit 1-A. 5. The conditions set out in the agreement (Joint Exhibit 1-A) and the Order of divorce (Joint Exhibit 2-B) continued in full force and effect during all the years here involved. 6. The petitioner remarried in 1941. Petitioner’s former wife, Mrs. Edythe Gardner, who now lives in Columbiana, Pennsylvania, has not remarried. The two children born of petitioner and Mrs. Edythe Gardner reside with the petitioner. The petitioner, as of 1950, is 51 years of age and Mrs. Edythe Gardner, as of 1950, is 45 years of age. 7. During the period beginning in 1941, and extending through the calendar year 1945, the petitioner, each year, has paid to the trustee designated in the agreement (Joint Exhibit 1-A) the sum of $1,841.71 for payment of premiums of insurance included in such agreement which was made a part of the decree of the divorce above referred to. 8. The provisions of paragraph 9 of the agreement described as Joint Exhibit 1-A are in no way involved in the computation of deficiencies proposed by the Commissioner in this appeal. As in Lemuel Alexander Carmichael, 14 T. C. 1356, decided tbis day, the present facts are less favorable to petitioner than tliose in Meyer Blumenthal, 13 T. C. 28, affd. (C. A. 3rd Cir.), 183 Fed. (2d) 15. There is no showing to what extent, if any, except for purposes of security, the wife would be a beneficiary under any of the policies even if she survived decedent. Certainly her interest could on the record be much less than that shown to have existed in the Bhumenthal case.1 On the authority of that case and that portion of Lemuel Alexander Carmichael, supra, dealing with the insurance policies maintained as security, we conclude that the deficiency was correctly determined. Decision will ~be entered for the respondent. The most that petitioner suggests is : “Sections 15 and 8 of the same Exhibit clearly establish the right of the wife to use the insurance proceeds to the extent of alimony in the sum of $200.00 per month during her lifetime, and so long as she remains unmarried, following the death of petitioner.” Even if the agreement and record were susceptible of that interpretation, the facts would be no more favorable to petitioner than those in the Blumenthal case.	01-04-2023	01-16-2020
https://www.courtlistener.com/api/rest/v3/opinions/4475110/	OPINION. Black, Judge: There is but one issue in this proceeding: Whether an erroneous and excessive tax credit given petitioner under section 3806 (b) of the Internal Revenue Code and which credit was incorporated in a final renegotiation agreement can be made the basis of the determination of a deficiency in petitioner’s excess profits tax in the manner which has been detailed in our findings of fact. Respondent determined a deficiency in excess profits tax by eliminating from petitioner’s gross income $350,000 which represented excessive profits determined in a final renegotiation agreement. After computing petitioner’s excess profits tax liability, respondent then treated the credit given under section 3806 (b) as a credit against petitioner’s excess profits tax originally assessed, plus an additional assessment. The portion of respondent’s computation which relates to the 3806 (b) credit is set out in our findings of fact. Petitioner contends that the method of computation used by respondent is not in accord with National Builders, Inc., 12 T. C. 852, wherein we held that the excessive profits not finally determined were not to be eliminated from income in computing the excess profits tax, and that respondent was not permitted to treat the 3806 (b) credit as a rebate under section 271. Petitioner also contends that the renegotiation agreement between it and the United States which specifically sets forth the amount of the section 3806 (b) credit (albeit erroneous and excessive) precludes respondent from asserting a deficiency in taxes resulting in what petitioner claims is a smaller credit than the $280,000 stated in the renegotiation agreement. Respondent relies on Baltimore Foundry & Machine Corporation, 7 T. C. 998, which allowed a computation of excess profits tax identical to the method of computation employed by respondent in the instant proceeding. Respondent also asserts that the renegotiation agreement is not a closing agreement and that the $280,000 credit set out in the renegotiation agreement is, in fact, the actual credit given petitioner in the deficiency notice. • There is no dispute in this proceeding as to the amount of excessive profits. The renegotiation agreement between petitioner and the Secretary of the Navy wherein the parties agreed that petitioner’s excessive profits were $350,000 is • a final determination. Maguire Industries, Inc. v. Secretary of War, 12 T. C. 75. The question before us is one which involves the computation of a deficiency and the 3806 (b) credit of $280,000 set out in the renegotiation agreement. Petitioner argues that National Builders, Inc., supra, is controlling in the instant proceeding and, therefore, respondent’s computation of a deficiency is erroneous. In National Builders, we had a situation where the amount of excessive profits had not been finally determined. There is, in fact, pending before this Court an appeal from the unilateral determination of excessive profits made by the Under Secretary of War. Our decision in National Builders was necessarily predicated on the fact that the amount of excessive profits was not finally determined. National Builders does not apply to the instant situation where the amount of excessive profits has been family determined. We think that Baltimore Foundry & Machine Corporation, supra, is controlling here. In that case, as in the instant proceeding, the tax liability was before us after the amount of excessive profits had been finally determined. In Baltimore Foundry the taxpayer received an excessive 3806 (b) credit,as a result of a typographical error. It is true, as petitioner states, that the erroneous credit therein was not specifically set out in the renegotiation agreement; however, the renegotiation proceeding in Baltimore Foundry was nonetheless finally closed as is the case in the instant proceeding. In Baltimore Foundry, we said: * * * Tie revenue agent gave incorrect information and a mistake was made in the renegotiation settlement with Harrison for the year here involved. There was credited against the amount of excessive profits eliminated $2,000 more than the amount by which the tax should have been decreased as a result of reducing income for that year by $20,000. The petitioner received the full benefit of the credit. That matter has been closed and can not be reopened. We are concerned, however, with a correct interpretation of section 271 (a). It provides that the amount shown as the tax on the return shall be decreased by the amounts previously abated, credited, refunded, or otherwise repaid in respect of such tax. The $2,000 here in question of the amount of tax shown on the return was credited or otherwise repaid. It does not make any difference, for present purposes, whether it was incorrectly credited or repaid. * * * The tax shown on the return should be decreased by that credit in computing the deficiency under 271 (a). * * * The method of computation set out in Baltimore Foundry has not been overruled by National Builders for, as stated above, National Builders involves an entirely different situation. On the strength of our decision in Baltimore Foundry, we think respondent’s determination must be approved. Reviewed by the Court. Decision will be entered for the respondent.	01-04-2023	01-16-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621667/	WENDELL W. and LIDA D. VAUGHN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentVaughn v. CommissionerDocket No. 33011-83.United States Tax CourtT.C. Memo 1986-578; 1986 Tax Ct. Memo LEXIS 29; 52 T.C.M. (CCH) 1133; T.C.M. (RIA) 86578; December 8, 1986. 29 Ps, who operated a general contracting business, reported their business income using the cash method of accounting.During 1976, 1977, and 1978, Ps deposited some business receipts into their personal savings accounts or used some business receipts to purchase certificates of deposit. Such receipts were not reported as income in the year received. The Commissioner discovered this unreported income and determined deficiencies and additions to tax for fraud under sec. 6653(b), I.R.C. 1954. Held: (1) Ps conduct with respect to such unreported income did not rise to the level of intentional wrongdoing required for finding fraud. (2) The statute of limitations bars assessment of deficiency for 1978. (3) Tax treatment of certain items of gross receipts determined. (4) Ps may not change their method of accounting without the consent of the Commissioner. (5) Ps are not entitled to certain depreciation deductions for years still in issue. (6) Ps are not entitled to deductions for home office expenses. (7) Ps are entitled to deductions for estimated labor costs paid in cash, under Cohan rule. William R. Cousins III, for the petitioners. William P. Hardeman, for the respondent. SIMPSONMEMORANDUM FINDINGS OF FACT AND OPINION SIMPSON, Judge: The Commissioner determined the following deficiencies in, and additions to, the petitioners' Federal income taxes: Addition to taxSec. 6653(b)YearDeficiencyI.R.C. 1954 11976$24,498.06$12,249.03197773,494.9737,825.7719788,391.394,195.70After numerous concessions by both parties, the issues remaining for decision are: (1) Whether the petitioners are liable for the addition to tax for fraud under section 6653(b) for 1976, 1977, and 1978; (2) whether the statute of limitations serves to bar the assessment and collection of the deficiency for 1978; (3) whether the petitioners understated their gross receipts and overstated their cost of goods sold on their joint Federal income tax returns for 1976, 1977, and 1978; (4) whether the petitioners may unilaterally change their method of accounting on their amended joint Federal income tax return for 197733 and on subsequent returns; (5) whether the petitioners are entitled to deductions for depreciation on their joint Federal income tax returns for 1976, 1977, and 1978; (6) whether the petitioners are entitled to deductions for expenses of maintaining an office in their home for 1976, 1977, and 1978; and (7) whether the petitioners are entitled to deductions for certain expenses which were not claimed on their original returns for 1976, 1977, and 1978. FINDINGS OF FACT Some of the facts have been stipulated, and those facts are so found. The petitioners, Wendell W. and Lida D. Vaughn, resided in Dallas, Texas, at the time the petition was filed in this case. They timely filed their joint Federal income tax returns for 1976, 1977, and 1978 with the Internal Revenue Service Center in Austin, Texas. Mr. Vaughn has been an electrical subcontractor in Dallas, Texas, for over 30 years. During that time, he performed electrical subcontracting work on homes, churches, supermarkets, radio stations, and theatres. In 1976, he also became a general contractor. His general34 contracting work involved converting older, single-screened theatres into multi-screened theatres. Before a theatre could be so converted, the interior had to be completely gutted. Such a job was dirty and tedious. Mr. Vaughn often had trouble finding help to perform this work on a regular basis. In such cases, he was forced to employ day laborers, who demanded to be paid in cash. Mr. Vaughn did not keep accurate records of such cash payments. During the years at issue, he was responsible for approximately one dozen conversions of theatres in Texas, Louisiana, and Oklahoma. Mr. Vaughn operated his business as a sole proprietorship. Commencing in 1961, he hired Daniel D. Mulholland to prepare his tax returns and to keep his books.Mr. Mulholland used the cash method of accounting to record the revenues and expenses of the business. He informed Mr. Vaughn that he needed the business's bank statements, check stubs, deposit slips, and paid invoices and bills to keep the books. After the petitioners were married in 1970, Mrs. Vaughn assumed the task of gathering the financial information to be given to Mr. Mulholland. Mr. Mulholland went over the accounting system with her and35 similarly instructed her that the main things needed by him were bank statements, check stubs, deposit slips, and paid bills to keep the business's books. At first, Mrs. Vaughn also gave Mr. Mulholland information from the petitioners' savings accounts. After a time, Mr. Mulholland realized that no business receipts were being deposited in the savings accounts, so he told Mrs. Vaughn that he no longer needed to see the savings passbooks. Although Mrs. Vaughn only gave Mr. Mulholland the information he asked for, he had unrestricted access to all the records of the business. During the years in issue, the petitioners maintained a business checking account at Wynnewood Bank of Dallas. Mrs. Vaughn also maintained a personal checking account at First Realty Bank and Trust Company in Dallas. The Vaughns also maintained personal savings accounts at Wynnewood First State Bank of Italy, Texas, and First Texas Savings and Loan. The petitioners maintained two offices in their business -- an office at 3110 Dawson Street in Dallas, and an office in their home. Mr. Vaughn and Mrs. Bobbie Woods worked in the Dawson Street office. Mrs. Vaughn worked exclusively in the home office. The home36 office was specially constructed for use as an office and contained a desk, a typewriter, some filing cabinets, and a photocopy machine. All mail to the company was received at the home office, since, on some occasions, mail sent to the Dawson Street office had been tampered with or was missing. During the years in issue, Mrs. Vaughn worked approximately 4 hours a day opening the mail, receiving checks, and preparing bank deposits. As Checks were received in the home office, Mrs. Vaughn photocopied the checks and sent the photocopies to Mrs. Woods in the Dawson Street office. In addition to her other duties, Mrs. Vaughn gathered check stubs (reflecting information concerning checks written by the Vaughns), deposit slips relating to the business checking account, check remittance advices (reflecting information in checks received by the Vaughns), and other business information into an envelope and gave the envelope to Mr. Mulholland each month. Mr. Mulholland used the material given to him by Mrs. Vaughn to prepare the cash disbursements journal, cash receipts journal, and general ledger. Mr. Mulholland periodically gave to the Vaughns adding machine tapes showing the balance37 in each account in the general ledger. He also gave them quarterly financial statements. Mr. Mulholland disregarded the check remittance advices when preparing the business's books. He did so because he considered the bank deposit slips sufficient to record all the income received by the Vaughns. He never compared the remittance advices to the deposit slips. Mrs. Woods began working for the petitioners in 1972. She performed all her work at the Dawson Street office. Her responsibilities included delivering materials to job sites, answering the phone, and performing general office tasks. In addition, she typed invoices for all work performed. She sent the original invoice to the customer and retained a copy for her files. When Mrs. Woods received a photocopy of a check from Mrs. Vaughn, she pulled the invoice attributable to each check and stapled it to the photocopy. In this way, she knew what invoices remained outstanding. Mrs. Woods had little contact with Mr. Mulholland, although she occasionally gave him receipts from bills paid by her. Neither Mrs. Woods nor Mrs. Vaughn gave Mr. Mulholland copies of checks received. Mr. Vaughn had a ninth grade education. Mrs. 38 Vaughn graduated from high school. Neither of them had any training or experience in accounting or tax return preparation. They relied entirely on Mr. Mulholland to keep the business's books and to prepare their tax returns. They never questioned him about his work. They never asked to see the books which he maintained. They did not carefully examine the tax returns that he prepared for them. In fact, Mr. Mulholland believed that they would not have understood the books and returns if they had carefully examined them. Beginning in 1976, the petitioners' general contracting business became much more profitable, and the gross receipts increased dramatically. The Vaughns began to receive large progress payments from customers. These checks were intended to provide Mr. Vaughn with sufficient working capital to allow him to pay his suppliers and workers over the course of a large project. Since the checks were often received before any payments were required to be made, Mr. Vaughn decided to earn interest on the advances. He began to deposit these business receipts directly into one of the petitioners' savings accounts and to use business receipts to purchase certificates of39 deposit. Since Mr. Mulholland was unaware of this practice, many of these receipts went unreported. When the Vaughns deposited a business receipt directly in a savings account, they made a notation in the savings passbook showing the source of the funds. In February 1976, the petitioners received a business check for $50,000.00 from Loews Corporation. They deposited $40,903.58 in the business account. They used the balance of $9,096.42 to pay off a business loan; the $9,096.42 was unreported on their tax return. Mrs. Vaughn included the remittance advice from this check in the monthly envelope given to Mr. Mulholland. On November 1, 1978, the Commissioner notified the petitioners that their 1976 joint Federal income tax return had been selected for examination. The examination was subsequently expanded to include the 1977 and 1978 taxable years. The examination was initially conducted by the Commissioner's agent, Sharif Amin. Mr. Amin worked at a desk provided to him at the Dawson Street office. He asked for and received copies of the Vaughns' bank deposit slips, check stubs, paid bills, and sales invoices. Mr. Mulholland and Mrs. Woods were on hand to help him find documents40 and to answer questions. After a few days, Mr. Amin left the office and did not return. It was subsequently determined that he had left the employ of the Internal Revenue Service. The case was reassigned to Bonita Hicks. She resumed the examination on April 23, 1979. She had access to the same financial records that were given to Mr. Amin, including the monthly envelopes given to Mr. Mulholland. In addition, she was given the Vaughns' savings passbooks and a list of certificates of deposit which they had purchased with the omitted business receipts. Mr. Mulholland was again available to answer questions. On one occasion, Mrs. Hicks found herself working alone in the Dawson Street office. Since examining agents are prohibited from working at the taxpayer's office without a representative of the taxpayer present, she returned to her office and took some of the Vaughns' records with her.Mr. Vaughn had consented to the removal of the records. William E. Wills was hired to help the petitioners through the examination of their returns. Mr. Wills had the Vaughns file an amended Federal income tax return for 1977 which included some of the income that had not been reported on41 the initial return. On the amended return, the Vaughns also changed their method of reporting income from the cash method to the completed contract method. The change was made on the recommendation of Mr. Wills, who believed that the completed contract method more accurately reflected the petitioners' income. The Vaughns did not receive the permission of the Commissioner to make such a change. The Commissioner's examination revealed the petitioners' practice of depositing business receipts directly into their savings accounts and using business receipts to purchase certificates of deposit. As a result of the examination, the petitioners' case was referred to the Criminal Investigation Division of the IRS in October 1979. The Vaughns were indicted on March 31, 1983, and tried for Federal income tax evasion for the years in issue in the United States District Court for the Northern District of Texas. A jury found both petitioners not guilty on July 28, 1983. The Vaughns owned about 30 acres of land near Winnsboro, Texas, which is approximately 100 miles from Dallas. On one part of the property, they have a cabin, a small pond, a pump house, and a storage shed. They used this42 part of the property for recreation. In 1978, they built another storage shed and a small office building on a separate part of the property. The shed is closed on three sides, but is open in the front. It rests on a concrete slab approximately 25 to 30 feet wide by 90 feet long. The slab was constructed in 1976 at a cost of $1,856. The Vaughns used the shed to store materials left over from construction jobs and used the office building to store large, expensive tools. A notice of deficiency was sent to the petitioners on September 1, 1983, in which the Commissioner determined deficiencies in Federal income tax and additions to tax under section 6653(b) as set forth at the outset of this opinion. OPINION The petitioners have acknowledged that they underreported their income for the years in issue and have agreed that they are liable for much of the deficiencies determined by the Commissioner. However, they have challenged the addition to tax for fraud determined by the Commissioner, contending that the underreporting of income was unintentional. Thus, the primary issue for decision is whether the petitioners are liable for the addition to tax under section 6653(b). 43 Section 6653(b) provides that if any part of any underpayment 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 such underpayment. The Commissioner has the burden of proving, by clear and convincing evidence, that some part of the underpayment for each year is due to fraud. Sec. 7454(a); Rule 142(b), Tax Court Rules of Practice and Procedure.2 To establish fraud, the Commissioner must show that the taxpayer intended to evade taxes which he knew or believed that he owed by conduct intended to conceal, mislead, or otherwise prevent the collection of such taxes. Stoltzfus v. United States,398 F.2d 1002">398 F.2d 1002, 1004 (3d Cir. 1968). 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 is never presumed, but rather must be established by affirmative evidence. 44 Beaver v. Commissioner,55 T.C. 85">55 T.C. 85, 95 (1970). Since direct evidence of fraud is rarely available, circumstantial evidence may be considered. Spies v. United States,317 U.S. 492">317 U.S. 492, 499 (1943); Rowlee v. Commissioner,80 T.C. 1111">80 T.C. 1111, 1123 (1983). Fraud may properly be inferred where an entire course of conduct establishes the requisite intent. Rowlee v. Commissioner,supra.Our conclusion must be reached not on isolated pieces of testimony, but rather on the whole record. Kellett v. Commissioner,5 T.C. 608">5 T.C. 608, 616 (1945). After careful consideration of the evidence before us, we hold that the Commissioner has failed to sustain his burden of proving fraud. The petitioners have conceded that some items of income were not deposited in their business checking account and that such items went unreported during the years in issue. However, the record shows that the Vaughns routinely supplied Mr. Mulholland with the information that he reguested and that they thought he needed to report their income accurately. In earlier years, they had furnished Mr. Mulholland with the records relating to their savings45 accounts, but since no business deposits were included in those accounts at that time, Mr. Mulholland told the Vaughns that he did not need the records relating to the savings accounts. Subsequently, the Vaughns' business expanded, and they began receiving large advance payments which were not needed immediately for the payment of business expenses. It was natural for the Vaughns to invest those unused funds in their savings accounts or in certificates of deposit where they would earn interest. Obviously, the Vaughns should have advised Mr. Mulholland of the changes in their business practices and furnished him with the records concerning the savings accounts and the purchases of the certificates of deposit. However, we are satisfied that their failure to do so did not constitute a deliberate attempt to conceal the unreported income. Mr. Mulholland was normally furnished with the check remittance advices even though he had not requested them. He did not examine those advices because he understood that all of the business receipts had been deposited in the business checking account. However, if he had compared these remittance advices with the deposit slips from the business checking46 account, he would have realized that some receipts had not been deposited and consequently had been unreported. For example, Mrs. Vaughn gave Mr. Mulholland the check remittance advice from the $50,000 check received from the Loews Corporation, but Mr. Mulholland testified that he only saw such advice during the course of the Commissioner's examination. He agreed that, had he seen it originally, he would have determined the source of the check and recorded the income properly. We do not mean to place the blame for the omission of these business receipts on Mr. Mulholland. Yet, the fact that the Vaughns supplied Mr. Mulholland with the check remittance advices is convincing evidence that they were not attempting to conceal income. Moreover, the Vaughns made notations in their savings passbooks indicating the source of each deposit, thus creating a paper trail which made it easy to identify the unreported business receipts. It is unlikely that the Vaughns would have made such a trail if they were attempting to conceal the income. In arguing that the petitioners should be liable for the addition to tax, the Commissioner contends that they fraudulently manipulated the accounting47 system set up by Mr. Mulholland by failing to deposit all of their business receipts in the business checking account. The Vaughns have never denied that they failed to report all their income during the years in issue. However, we do not believe that the Vaughns attempted to hide the omitted business receipts. We were satisfied by the Vaughns' explanation that there was a very significant change in their business activities and that they, through lack of business sophistication, failed to recognize the need to furnish Mr. Mulholland with additional records concerning the new sources of income. The adding machine tapes and quarterly financial statements which Mr. Mulholland gave the Vaughns contained little useful information. It would have been difficult for even a person with accounting experience to have discovered the omissions. It would have been almost impossible for the Vaughns, who have only a limited knowledge of bookkeeping and tax preparation, to recognize the omissions. A taxpayer's lack of knowledge of accounting or tax preparation is a factor which tends to negate fraudulent intent. See 48 First Trust and Savings Bank v. United States,206 F.2d 97">206 F.2d 97 (8th Cir. 1953); Marinzulich v. Commissioner,31 T.C. 487">31 T.C. 487 (1958). A finding that a taxpayer acted fraudulently may also be supported by the fact that the taxpayer was evasive, uncooperative, or dilatory during the course of the Commissioner's examination. Such conduct tends to indicate an effort to conceal the true facts concerning the taxpayer's financial affairs. See Powell v. Granguist,252 F.2d 56">252 F.2d 56, 60-61 (9th Cir. 1958); Estate of Beck v. Commissioner,56 T.C. 297">56 T.C. 297, 365 (1971). In this case, the Commissioner concedes that Mr. Vaughn cooperated with the examining agent during the initial stages of the examination. However, he claims that Mr. Vaughn's attitude changed as the examination progressed and the examining agents began to ask probing questions. The evidence before us reveals that the Vaughns and their representatives cooperated fully with the investigation. The Vaughns allowed the examining agents access to their business records, including the envelopes given to Mr. Mulholland each month. On one occasion, Mrs. Hicks left the Dawson Street49 office with some records and returned to her office. She had Mr. Vaughn's permission to do so. Mr. Vaughn or Mr. Mulholland was available to answer questions or to help locate documents. At times, Mr. Vaughn volunteered incriminating information. He supplied the examining agents with the passbooks from the petitioners' personal savings accounts and a list of certificates of deposit purchased by them. This information revealed the practice of diverting business receipts from the business checking account and enabled the agents to calculate the amount of unreported income. Mrs. Hicks testified that Mr. Vaughn claimed that invoices were only prepared for small jobs and that no copies of such invoices were retained. The Commissioner charges that Mr. Vaughn lied about the existence of other invoices, since it was subsequently determined that all work performed was invoiced. But the record shows that the petitioners supplied the examining agents with all their business records, including invoices sent to customers, at the start of the examination. Mrs. Hicks also testified that Mr. Vaughn became evasive and uncooperative when she began to ask questions about the Winnsboro property. 50 The Commissioner argues that this changed attitude shows an effort to hide information and to hinder his investigation. It is more likely that Mr. Vaughn became irritated at the long examination. His irritation was understandable because, despite his cooperation to that point, he was being threatened with criminal prosecution for tax evasion. The Commissioner further argues that the petitioners filed the amended return for 1977 in an attempt to mislead the examining agents. However, it is clear that the Vaughns did not decide on their own to file the amended return. Rather, it was done at the urging of Mr. Wills, the Vaughns' CPA, who used the occasion to include previously unreported income and to change the method of reporting income to the completed contract method. We conclude that the Vaughns did not file the amended return with the intent to mislead the Commissioner's agents in their investigation. The petitioners may have been negligent in not insuring that Mr. Mulholland recorded the unreported items of income properly or in not closely examining the income tax returns he prepared for them. In our judgment, however, such conduct does not rise to the level of actual, 51 intentional wrongdoing required for a finding of fraud for any of the years in issue. See Mitchell v. Commissioner,118 F.2d 308">118 F.2d 308, 310 (5th Cir. 1941). The next issue for decision is whether the assessment of the deficiency in income tax for 1978 is barred by the statute of limitations. 3 The Commissioner concedes that assessment of such amount is barred unless the return filed was false or fraudulent with the intent to evade tax. See sec. 6501(c)(1). Since we have found that the Commissioner has failed to sustain his burden of proving fraud for 1978, the exception under section 6501(c)(1) to the statute of limitations does not apply. Therefore, the statute of limitations bars the assessment of the determined deficiency for 1978. Consequently, we need not decide the treatment of the items still in dispute for that year. The next issue for decision is whether the petitioners understated their gross receipts and overstated their52 cost of goods sold on their joint Federal income tax returns for 1976 and 1977. The parties have conceded many of the items contained in the notice of deficiency. Consequently, only a few such items remain in dispute. As to these amounts, the petitioners have the burden of proof. Rule 142(a). The Commissioner determined that the petitioners failed to include in their gross receipts checks of $1,487.14 and $752.00 for 1977. The Vaughns claim that these amounts do not constitute gross income and offered testimony to support their claim. The check for $1,487.14 relates to a payment received from the Vaughns' insurance company for damage to a screen in a theatre that they were working on. The Commissioner argues that the expense of repairing the screen was likely deducted and that therefore the reimbursement should be included in income. Mr. Vaughn testified that he paid for the repair with cash and did not take a deduction for such expense. He acknowledged that his normal procedure was to give Mr. Mulholland a receipt so that he could claim such cash expenses. However, he claimed that this was an unusual situation and that he was unable to obtain a receipt in this instance. 53 We find Mr. Vaughn's vague testimony to be not persuasive and hold that he has failed to sustain his burden of proof on this point. Therefore, we conclude that the insurance reimbursement is includable in gross income. Cf. sec. 111(a). The Vaughns' savings account at the Wynnewood Bank shows a deposit of $752 in 1977.Mr. Vaughn testified that he had been asked by a friend to cash a check in this amount on behalf of Tex Movies. He did not explain why he had been asked to cash a check for another business. In our judgment, Mr. Vaughn's testimony on this item is not credible. Accordingly, we conclude that the petitioners have failed in their burden of proving that the Commissioner's treatment of this check is erroneous. Also in dispute is the tax treatment of a check for $1,760 received in 1976. The Commissioner initially determined that the item was omitted from the Vaughns' gross receipts. At trial, Mr. Vaughn testified that the check represented payment for the sale of a used motor generator. The parties now agree that the item is not includable in gross receipts, but should be treated as income from the sale of a capital asset. The Commissioner argues that the petitioners54 have established neither the basis nor the holding period of the motor generator. Mr. Vaughn claimed to have acquired the equipment in the 1960s and to have sold it to a friend "for what [he] had in it." On the record, we judge Mr. Vaughn's testimony as to the date he acquired the equipment to be credible, but we decline to accept his claim as to its basis. It is quite possible that Mr. Vaughn salvaged the generator from an earlier job and, therefore, paid nothing for it. For such reasons, we conclude that the item should be treated as income from the sale of a capital asset held in excess of one year with a basis of zero. The next issue for decision is whether the petitioners may change their method of reporting gross receipts from the cash method to the completed contract method, without first obtaining the permission of the Commissioner. The Vaughns unilaterally made such a change on their amended joint Federal income tax return for 1977 and on their joint return for 1978. Section 446(e) provides that "a taxpayer who changes the method of accounting on the basis of which he regularly computes his income in keeping his books shall, before computing his taxable income under55 the new method, secure the consent of the Secretary." The consent requirement is designed to provide the Commissioner with notice of any changes in accounting methods contemplated by taxpayers. Such requirement permits him to insure that the new method is a proper one and to make any correcting adjustments necessary to prevent distertions of income that may otherwise be caused by the change. See Woodward Iron Co. v. United States,396 F.2d 552">396 F.2d 552, 554 (5th Cir. 1968); Commissioner v. O. Liquidating Corp.,292 F.2d 225">292 F.2d 225, 230 (3d Cir. 1961). We find that the Vaughns are not entitled to change their method of reporting without the consent of the Commissioner. The fact that their income may be more accurately measured under the completed contract method gives them no right to change their accounting method without the Commissioner's approval. H.F. Campbell Co. v. Commissioner,53 T.C. 439">53 T.C. 439, 448 (1969), affd. 443 F.2d 965">443 F.2d 965 (9th Cir. 1971). Since the Commissioner's approval of a change has not been sought nor received, we cannot approve of a change from an accounting method which has served the Vaughns well for many years. 56 The next issue for decision is whether the petitioners are entitled to depreciation deductions for a 1977 Pontiac and for a concrete driveway during the years in issue. Section 167(a) allows a deduction for a reasonable allowance for the depreciation of property used in a taxpayer's trade or business. The petitioners bear the burden of proving that they are entitled to the depreciation deductions claimed by them. Rule 142(a). The Vaughns claimed a business use of 100 percent for the Pontiac on their tax returns. The Vaughns' testimony at trial constitutes the only evidence in the record concerning the car's business use. Mr. Vaughn testified that the vehicle was used for business purposes 60 to 70 percent of the time. Mrs. Vaughn testified that 50 percent of such use was for business purposes. However, they failed to produce any records showing the total mileage of such vehicle for each year in issue, the mileage they claimed to have driven the car on business, and the business purpose of such mileage. For such reasons, we conclude that they have failed to carry their burden of proving the business use of the car and are not entitled to the deductions claimed by them for57 depreciation of such car. The petitioners also claimed depreciation deductions with respect to a "concrete driveway" on their land in Winnsboro. The driveway serves as a foundation for the storage shed and office building located on their property. These structures are used to store tools, business records, and building materials left over from completed jobs. Thus, in our judgment, the concrete driveway serves a business purpose and may be depreciated by the Vaughns. However, the shed and office building were constructed in 1978. Since there is no evidence that the driveway was used for business purposes in earlier years, we conclude that the concrete driveway was first placed in service in the business in 1978. A deduction for depreciation is first allowable in the period in which the asset is first placed in service in the taxpayer's business. Sec. 1.167(a)-10(b), Income Tax Regs.Therefore, the petitioners are not entitled to an allowance for depreciation in 1976 and 1977. The next issue for decision is whether the petitioners are entitled to deductions for expenses associated with the office they maintained in their home. 58 Section 280A(a) generally prevents taxpayers from deducting such expenses. However, section 280A(c)(1) provides for a number of exceptions to the general rule. One exception allows for a deduction if the home office is "exclusively used on a regular basis -- (A) [as] the principal place of business for any trade or business of the taxpayer * ." When, as in this case, a taxpayer engages in a single trade or business in more than one location, we must examine the facts and circumstances to determine the taxpayer's principal place of business. Baie v. Commissioner,74 T.C. 105">74 T.C. 105, 109 (1980). In our judgment, the office the Vaughns maintained in their home did not serve as their principal place of business. It is true that all the incoming mail of the business was received at the home office. It may also be that Mrs. Vaughn regularly worked in such office. However, other evidence leads us to conclude that the Dawson Street office was the "nerve center" of the business. By Mrs. Vaughn's own testimony, she only worked in the home office 4 hours per day. On the other hand, Mr. Vaughn, Mrs. Woods, and another employee all worked regularly at the Dawson Street office. 59 The petitioners' tax returns list their business address to be 3110 Dawson Street in Dallas. When the Commissioner's agents conducted their examination, they were given workspace at the Dawson Street office, and they performed all their work there. Finally, most of the paper work of the petitioners' business flows through the Dawson Street office. For such reasons, we conclude that the home office did not serve as the petitioners' principal place of business. Although recent decisions of the Second Circuit and the Seventh Circuit could be read to criticize this Court's focal point test, those cases involved taxpayers whose work at home was necessary to the success of their business or professional achievement. See Meiers v. Commissioner,782 F.2d 75">782 F.2d 75 (7th Cir. 1986), revg. a Memorandum Opinion of this Court; see also Weissman v. Commissioner,751 F.2d 512">751 F.2d 512 (2d Cir. 1984), revg. a Memorandum Opinion of this Court; Drucker v. Commissioner,715 F.2d 67">715 F.2d 67 (2d Cir. 1983), revg. 79 T.C. 605">79 T.C. 605 (1982). In these cases, the courts of appeal emphasized that, in determining whether the home office was the principal place of business,60 factors to be considered include the time spent working in the home office and the importance of the home office to the taxpayer's trade or business. Meiers v. Commissioner,782 F.2d at 79. However, we need not attempt in the instant case to reconcile the decisions of the courts of appeal with our decisions in this area for we find that, by any standard, the petitioners' home office does not qualify as the principal place of business within the meaning of section 280A(c)(1)(A). The final issue for decision is whether the petitioners are entitled to deductions for business expenses not claimed on the original returns. The Vaughns now claim that they spent $8,089.28 to build the storage shed on the Winnsboro property in 1978 and that they are entitled to depreciation deductions with respect to such expenditures. We are not convinced that this entire sum was spent for a business purpose. There is evidence in the recore which indicates that some amount was spent to repair the Vaughns' cabin and boat dock on the Winnsboro property. However, we need not decide the proper allocation of the expenditures between business and personal use. We have already held that the61 statute of limitations bars any change in the petitioners' taxable income for 1978. Thus, we find that the Vaughns may not reopen such year to claim these deductions. The petitioners now also contend that they are entitled to deductions for labor costs which were not claimed on the original returns. We have found as a fact that demolishing the interior of old theatres is a dirty and tedious job and that Mr. Vaughn was forced to employ day laborers to perform this work. Such workers demanded to be paid in cash. Mr. Vaughn found it difficult to keep an accounting of these cash payments. However, at trial, he managed to produce an estimate of such labor costs for the years in issue. He now estimates that he paid $15,890 in 1976 and $18,576 in 1977. The petitioners argue that, under the Cohan rule, they are entitled to a deduction for estimated labor costs. See Cohan v. Commissioner,39 F.2d 540">39 F.2d 540, 544 (2d Cir. 1930). The Cohan rule has been applied to allow deductions for such estimated labor costs. See 62 Finley v. Commissioner,27 T.C. 413">27 T.C. 413, 423 (1956). Since we have found that cash payments were in fact made, we agree that an allowance for some amount is proper. However, in our judgment, the estimates produced by Mr. Vaughn are grossly overstated. The document produced at trial to support the deductions is inadequate to substantiate the entire amount claimed by the petitioners. We have considered the limited evidence on this point, and bearing heavily against the petitioners who are responsible for the uncertainty and the lack of substantiation, we find deductions of $3,500 for 1976 and $6,000 for 1977 are reasonable. The Commissioner argues that we may not consider the treatment of these cash payments, since the issue was not raised in the pleadings. This Court has held on numerous occasions that it will not consider issues which have not been properly pleaded. See, e.g., Markwardt v. Commissioner,64 T.C. 989">64 T.C. 989, 997-998 (1975); Estate of Mandels v. Commissioner,64 T.C. 61">64 T.C. 61, 73 (1975); 63 Frentz v. Commissioner,44 T.C. 485">44 T.C. 485, 491 (1965), affd. per order 375 F.2d 662">375 F.2d 662 (6th Cir. 1967). Whether an issue has been properly raised depends on whether the opposing party has been given fair notice of the matter in controversy. Rule 31(a). We must therefore determine whether the Commissioner was surprised and put at a disadvantage when the issue of the deductibility of the payments was raised. See Estate of Horvath v. Commissioner,59 T.C. 551">59 T.C. 551, 555 (1973). The issue was first raised in the petitioners' trial memorandum, in which they described one of the questions before the Court to be "Are Petitioners entitled to sections 162, 165 and 212 deductions for expenses paid, but not claimed as a result of accounting errors?" The memorandum was served on the Commissioner's counsel on February 15, 1985, in anticipation of trial on March 14, 1985. At trial, Mr. Vaughn and Mrs. Woods testified at length concerning the cash payments, without objection from the Commissioner's counsel. The document purporting to support the claimed deductions was admitted into evidence at trial, again without objection from opposing counsel. In our judgment, *64 the trial memorandum served one month before trial provided the Commissioner with fair notice of the issue and offered ample opportunity to litigate the question. For such reason, we conclude that the Commissioner was not at a disadvantage when the issue was raised at trial and that there was an implied amendment of the pleading in accordance with Rule 41(b). Decision will be entered under Rule 155.Footnotes1. All statutory references are to the Internal Revenue Code of 1954 as in effect during the years in issue.↩2. Any reference to a Rule is to the Tax Court Rules of Practice and Procedure.↩3. Although the Commissioner mailed the notice of deficiency more than 3 years after the returns for all the years in issue were filed, the petitioners have raised the statute of limitations as a defense only with respect to 1978.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621670/	BELRIDGE OIL COMPANY, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Belridge Oil Co. v. CommissionerDocket No. 31218.United States Board of Tax Appeals26 B.T.A. 810; 1932 BTA LEXIS 1240; August 16, 1932, Promulgated 1240 "Actual cash value" of an option, paid in for capital stock, determined for invested capital purposes. John B. Milliken, Esq., for the petitioner. R. W. Wilson, Esq., for the respondent. MORRIS811 This proceeding is for the redetermination of a deficiency in income and excess-profits taxes of $45,293.85 for the year 1921 and deficiencies in income tax of $4,692.89 and $4,684.91 for the years 1922 and 1923, respectively. The issues presented by the pleadings and by amendment thereto at the hearing are (1) whether the respondent erred in eliminating $974,995 from invested capital of the corporation for 1921, being the excess of the par value of the stock, $999,995, issued in January, 1911, for an option to purchase, over an amount of $25,000 which certain individuals had previously paid for said option, which option enabled it to purchase over 30,000 acres of prospective oil land at an average price of approximately $33 per acre. Or, stated differently, he erred in failing to permit this option (tangible property) to be included in invested capital in an amount not less than the par value of the capital stock issued for it, the actual cash1241 value of the asset at that time being not less than the par value of the stock so issued; and (2) that he erred in his refusal or failure to allow petitioner a paid-in surplus in accordance with section 326 of the Revenue Act of 1921 in that the asset, i.e., the option, paid in for stock, had an actual cash value at the time paid in clearly and substantially in excess of the par value of said stock in the amount of $671,806.40. FINDINGS OF FACT. The petitioner is a corporation, organized and incorporated under the laws of the State of California on January 25, 1911, and has its principal place of business in Los Angeles, California. In 1910 and 1911 one W. J. Hole was engaged in the capacity of resident sales agent, in Los Angeles, for the Stearns Rancho Company, which, in the beginning, owned and was engaged in the sale of approximately 300,000 acres of land in southern California. That company was composed of Edward and Emily B. Hopkins of New York, the latter owning a 55 per cent interest therein, and its principal office was located in San Francisco. Mrs. Hopkins, now deceased, who was about 55 years of age at the time, was represented in California by C. A. Grove, the1242 said Stearns Rancho Company, and, finally, by one William Hill. She left the management of her lands to her agents. Hole also purchased and sold relatively large tracts of property from time to time on his own account, such purchases being accomplished by means of down payments, or, as was his usual practice in 1910 and 1911, through the medium of options for stated periods of time. The said Emily Hopkins also owned 30,845.96 acres of land, in an unbroken parcel, situated in townships 27 and 28 south, ranges 20 812 and 21 east, Kern County, California, between McKittrick and Lost Hills, with which said Hole had been familiar for six or eight years prior to 1910. Hole, who had been very successful as agent for the Stearns Rancho Company, had been promised by a representative of Mrs. Hopkins's that if this tract of land should be offered for sale he, Hole, would be given first consideration in its purchase. Hole, having been informed that others were seeking an option to purchase the land and having been advised to act promptly in the premises if he cared to secure such an option, procured in 1910 a written option from the owner for a period of one year, for the nominal1243 sum of $1 "and other valuable considerations," to purchase the said tract of 30,845.96 acres for $20 an acre. Hole was induced to acquire the option because he then considered the land to be splendid for agricultural purposes and he also thought there were good prospects for oil on some of the land, inasmuch as there were oil fields on both sides; however, of this he had no tangible proof. One William Van Slyke, who had been engaged in the oil business as a driller's helper, a driller, and as a superintendent of drillers, and in prospecting for others on his own account since 1894, was acquainted with the acreage here in question in 1910. In that year he first entered upon the property for the purpose of locating boundary stakes and noticed that there was oil structure, and he also found oil sands. He returned to the properties again in the same year for the purpose of prospecting for oil signs on the surface, and he dug a surface trench and extracted samples of the underlying formation, which he tested with chloroform and afterwards had others perform tests of such samples for him. On the various trips that he made between June and December of 1910 he dug a 14-foot hole and1244 discovered what is commonly called black oil sand. He found that the overlying formation was of white chalklike substance and lower down it was shale and dried out oil sand. He also found live oil sands. As the hole was deepened the sand became richer - it was very black. The odor of oil could be detected in the sands. Van Slyke then covered the hole with planks and dirt and brush so that his discovery might not be detected and he endeavored to acquire some of the land. For oil purposes this tract of land was virgin territory on January 5, 1911, other than as disclosed by Van Slyke's discovery. After his discovery Van Slyke told Max Whittier, now deceased, about the outcroppings and the live oil sands he had found and about the shaft he had dug. Whittier, among other things, advised him to observe strict secrecy and that he, Whittier, would attempt to acquire some of the land. Whittier also visited the property with him at some time in or about December, 1910. 813 Hole, having secured the option, endeavored to interest others in the project, but was unsuccessful until he finally interviewed Whittier, who was a recognized expert in oil matters. Whittier was reluctant1245 at first, but, upon being informed of the location of the tract, of the fact that there were nearly 31,000 acres involved and that he, Hole, controlled the purchase of the land, he announced that he would go into the project. Whittier, at some time thereafter, called upon Burton E. Green, an oil operator of wide experience since 1895, who had already heard of this tract of land, and told Green of his interview with Hole and of Hole's option interest in the property. He also told him of Van Slyke's discovery and that he would like to interest him in the project. Green, in company with Van Slyke and Whittier, visited the property at some time prior to January, 1911, and saw the oil croppings reported by Van Slyke and the trench that had been dug. He also noted the similarity of the oil croppings there to those in the Lost Hills fields in the northeast. They were very careful not to divulge their discovery to anyone, except M. J. Connell and Frank Buck, who were invited to and did become original stockholders in the corporation when it was organized, as hereinafter set forth. Whittier accompanied Hole to Green's office and, after discussion of the number of acres involved and1246 of Hole's option, Hole offered to dispose of the property to them for $33 1/3 an acre, he to retain, however, one-fifth interest in the company to be later formed. Van Slyke's discovery had not been disclosed to Hole, in fact it was not made known until sometime after the corporation was organized. Nor had the fact that Hole's option provided for the purchase of the property at $20 an acre been made known until after the transaction was consummated. Green told Hole that if the option could be properly revamped to suit their requirements he would go into the matter and take it over. Negotiations were then instituted by Green personally toward arranging a suitable option, which was finally consummated after about three or four months delay and considerable difficulty, necessitating the employment of others and finally entailing the expenditure of $125,000 to a nephew of Mrs. Hopkins, one Benedict, and $35,000 cash and one-fourth of Hole's stock in the company to William Hill, agent of Mrs. Hopkins. What particularly concerned Green was the insertion of a clause therein whereby at least two wells, and as many more as they elected to drill, might be drilled within a year before1247 being required to exercise the option. Under date of January 5, 1911, Emily B. Hopkins, as the first party, and W. J. Hole, as the second party, entered into an agreement, 814 the recited consideration therefor being their mutual covenants and the nominal sum of $1, providing for the payment by Hole of $25,000 "for the right or option to purchase" the land described therein with particularity, which said sum was actually advanced and paid by Green pursuant to agreement, "subject to pipe line, telegraph and telephone rights to Producers Transportation Company, and Associated Pipe Line Company, and a lease to Miller and Lux for one year from January 1, 1911, for grazing purposes and all such rights of way for pipe lines, telephone and telegraph lines or other rights as may have been heretofore granted or conveyed by said party of the first part." In the event of the exercise of the option before the expiration of one year from January 1, 1911, it was provided that the sum of $25,000 should be applied to the purchase price of the land, being $33.33 per acre, or a total sum of $1,028,198.67, payable as therein provided. It was provided that Hole should drill "four proper and1248 suitable wells for the discovery of oil and gas" on the property, two of which were to be commenced as soon after the date of such option as equipment could be obtained and installed and water provided therefor, and two more within sixty days after such completion or abandonment of said first two wells, using the same drilling equipment as used on the first two wells, he being privileged thereby to drill as many more wells within the time specified for drilling the said four wells as he should elect. In the event that the first two wells should prove to be "dry" and the latter two, or either of them, should not have been completed by January 1, 1912, the option to purchase was automatically extended "until the expiration of thirty days after the finding of oil or gas in the said last two wells and completion of same, or the abandonment of work on the same." These were the provisions insisted upon by Green and Whittier and they had stated that they would not proceed with the transaction without them. While the option was negotiated in Hole's name, it was with the contractual understanding that it be turned over to Green upon consummation, he having agreed to furnish the $25,000 consideration1249 therefor. The aforesaid option was duly assigned to the petitioner by Hole, on January 25, 1911, in consideration of the payment of $10 and other valuable consideration. The petitioner was incorporated on January 25, 1911, for the purpose of acquiring the interest covered by the option aforesaid existing between Hole and Emily B. Hopkins. The matter of incorporating the company was entrusted to one Sutton, who had been instructed by Green to proceed secretly, and in order that others should not be apprised of the purpose of its incorporation five clerks 815 were used as the original incorporators. This was because the mention of either Green or Whittier would have aroused suspicions. The petitioner held its first meeting of the board of directors on the date of its incorporation, at which a communication from Hole was submitted setting forth the fact that he held the aforesaid option of January 5, 1911, between himself and the said Emily B. Hopkins and agreeing to transfer it to the corporation in consideration of the issuance to him of the 999,995 shares of its stock, whereupon it was resolved that the said proposition of Hole be accepted in consideration of the1250 issuance of such shares, and the initial issuance of stock, 1,000,000 shares, $1 par value, was made on January 26, 1911, as follows: Certificate No.NameNumber of shares1A. G. Peasley12H. L. Westbrook13G. C. Braniger14W. G. Lackey15T. McC. Todd16W. J, Hole999,995Certificates numbered 1, 3, 4, and 5 were transferred to Green, Connell, Whittier and Buck, respectively, and certificate numbered 6, in the name of Hole, was divided, pursuant to prior understanding of the parties, between Hole and Green, Connell, Whittier, and Buck, and 25,000 shares in trust for one Henderson, and such transfers and division were recorded in the books of the petitioner on February 1, 1911. Henderson was the proposed general manager of the company. According to the "logs" of the first and second wells, begun on March 11 and March 18, 1911, respectively, and completed on April 21, 1911, and April 7, 1911, respectively, oil sand was first struck at between 445 and 480 feet, and it produced 100 barrels of oil per day, 25.3 degrees Baume, thirty days after completion; and oil sand was struck in the second well at between 350 and 360 feet, and it1251 produced 100 barrels per day, 26.5 degrees Baume, thirty days after completion. The respondent has excluded from the petitioner's invested capital for 1921 "Stock discount $974,995" representing that portion of the par value of capital stock, $999,995, issued in 1911 for the option upon the Hopkins property, in excess of the $25,000 originally paid therefor by Hole and his associates. 816 OPINION. MORRIS: While the respondent's deficiency notice covers deficiencies for the years 1921 to 1923, inclusive, and while the petition states that the taxes "in controversy are income and profits taxes for the years 1921 to 1923, inclusive," the said petition, as amended, fails to allege error on the part of the respondent in other than the year 1921, and, since the evidence adduced at the hearing was confined to the issues pertaining exclusively to the year 1921, the respondent's motion, made at the hearing, to affirm his determination of the deficiencies for 1922 and 1923 is granted. Our sole question for determination is the "actual cash value" of the option "at the time of" its payment for the capital stock of the petitioner on January 25, 1911. (Sec. 326, Revenue Act1252 of 1921.) It is conceded by counsel for the respondent that, if the value of the option is satisfactorily substantiated, there is no question about its inclusion in invested capital to the extent justified by the proof. The identical question here, affecting this same option, was presented to this Board for consideration in , involving the years just preceding 1921, and we there sustained the respondent in his determination "that the option was worth on January 25, 1911, only what was paid for it on January 5 of the same year," i.e., $25,000. We concur in the views urged by the petitioner that the decision there, based upon the facts adduced at that time, which facts are not before us here, is not res adjudicata (), but, since the same property, the same issues, and the same principles with respect thereto are involved here, a brief review of that case may prove helpful. Premising its consideration of the question there presented by directing attention to the terms of the option itself and to the fact that it was the result of negotiations between parties dealing at arm's length, 1253 that they were dealing with prospective oil lands, that by their agreement they provided for their exploration, and that they fixed $25,000 as the actual cash cost of the option, the Board said: In our opinion, under the circumstances of this case, this agreement is entitled to great weight. It was executed in the light of such knowledge as the parties possessed about the character and value of the land. It does not appear that the parties were unadivised of any of the elements of its value, nor does it appear that any new proof of value was discovered between the giving of the option and its assignment to petitioner. The fact that one Van Slyke sometime in 1910 discovered an outcrop of oil sand on the property is not shown to be controlling. This discovery preceded the giving of the option to Hole and for aught that appears the existence of this outcrop may have been known to Hole when he acquired the option. The evidence does not indicate that at the time of the assignment petitioner had any greater knowledge of the oil-bearing properties of 817 the land than had Hole when he took the option. When petitioner acquired the option the land was still unproven. No wells1254 had been completed nor had the presence of oil in commercially profitable quantities been otherwise proven. With the exception of the statement there made indicating the probability that Hole may have had knowledge of the existence of the outcroppings on this tract of land when he acquired the option, the same controlling principles discussed there obtain with equal force here. While it appears that Hole was acting for the interests of all concerned, it can not be overlooked that he actually consummated the option with Mrs. Hopkins, and that he was in possession of no more nor less favorable information than Mrs. Hopkins, and therefore, it must be concluded that the transaction here, as found in the former decision, was at arm's length and that the cash consideration therefor was arrived at based upon all of the factors then known to them. There was, so far as we are informed, no deception practiced between the parties who consummated the deal. Granting that Hole and Mrs. Hopkins were totally ignorant of the information in the possession of Green, Whittier and Van Slyke (although the record does not show and we have no way of knowing that Mrs. Hopkins was not in possession1255 of such facts, or facts equally as valuable), Hole knew, and so did Mrs. Hopkins know, the strategic location of, and the fact that the land contained prospective oil, and that was all that anyone knew with any degree of certainty. She could also reasonably infer that these men had informed themselves about the matter, and she may reasonably have suspected, and no doubt did, that they possessed valuable information about the land. Otherwise, they would not have been so willing and anxious, in fact, to venture $25,000 in the satisfaction of a mere empty curiosity. And it is not as though she, being an untrained woman in such matters, had been misled, because the entire transaction, as the record discloses, was supervised and consummated by her personal counsel and representatives, who must be presumed to have taken proper precautions to protect her interests. Let us review the evidence in support of the value contended for by the petitioner. The record shows that the Associated Oil Company acquired acreage in Kern County, California, in 1910, at a cost to it of $66 2/3 per acre. The petitioner contends that that property was not as favorably located as the property in question. 1256 In fact, one of its witnesses so testified and attempted to give his reasons therefor, which are far from convincing. The witness testified that for the reason stated that property was less valuable than the petitioner's tract. While we are reasonably convinced that the properties were similar 818 in many respects, being in the same general locality, we are not convinced that they were less favorably located in respect to production than the petitioner's properties. As we read the map before us, two of the tracts, there being five in all, were almost if not adjacent to the Lost Hills properties and within what appears to us to be a very short distance of producing wells. The other three tracts, as we locate them on the map, are as near, if not nearer, to the Lost Hills territory, then a producing field, than the petitioner's tract. But our principal difficulty with this evidence lies in the fact that we do not know from the record what the state of development was with respect to this tract of land, whether or not oil had been discovered thereon at the time of its purchase at $66 2/3 an acre, or whether it was virgin soil, and, therefore, comparable to the petitioner's1257 tract. The evidence is very unsatisfactory respecting this purchase and consequently we are able to give it but very little weight in determining the "actual cash value" of the option in question. Nor do we attach serious importance to the testimony of Green and Connell respecting his and Whittier's purported offer of $500,000 for one-fifth of the capital stock of the petitioner which Connell owned, for the reason, among others, that as we view the testimony the transaction had not sufficiently crystallized to be regarded as more than a trifling indication of value. Connell testified that he inquired of the members of the board of directors as to the methods to be employed in the development of the properties - if they were to be extravagant - and he stated that if they were to be he might be compelled to sell his interest. Whereupon Whittier inquired what he would take therefor, but Connell made no reply. It was then that the purported offer was made, to which Connell testified "I changed the conversation and discussed the question of sale no further." We have the testimony of Green, who qualified as an expert through his long and intimate association with the oil business; 1258 and Harry R. Johnson, who qualified as an expert through his educational training in geology and his long experience in geological survey work, and, particularly his knowledge in the general region in question; and W. W. Orcutt, who also qualified as an expert through his educational training in geology and his later experience in the oil business. Green testified that, in his opinion, the "actual cash" or "fair market value" of the land on January 25, 1911, was $100 an acre, based upon sales in the Lost Hills territory - with which the record shows he had no familiarity other than pure hearsay - and upon what he considered that other companies would have been willing 819 to pay for the land had they possessed the information which he and his associates did. Johnson, who visited the properties in question about two weeks before the hearing, apparently for the purpose of qualifying himself as a witness with respect thereto, was asked: Now, as a competent geologist, as a person who advised people in 1910, and in the second place taking into account and assuming the location of the structures reported by Mr. Van Slyke, and what in your opinion would a person have been1259 authorized to pay, a person who is a willing purchaser and not compelled to purchase, to a willing seller, not compelled to sell, on January 25, 1911, a person being in possession of the information in possession of which Mr. Green and Mr. Whittier and Mr. Van Slyke were - and he replied: "Very close to three million dollars - two million nine hundred and some odd thousand." He said that his opinion as to the value of the land was based upon his scientific education as a geologist, and years of experience plus several years in this region, which, at that time "was very active in the transfer of properties." He did not, however, attempt to enlarge upon his knowledge of such transfers of property about which he spoke. Orcutt, who visited the property about a week before the hearing, merely corroborated the general testimony of Johnson and testified, in reply to a hypothetical question somewhat similar to that put to Johnson, that in his opinion the fair market value of the land in 1911 was $2,700,000, based, as he said, upon the similarity of the outcroppings and structure of this property to that of Lost Hills and other fields and upon his scientific education in geology and1260 his experience in the profession. None of these witnesses testified to the actual cash value of the option itself, nor did they testify to any cases where similar options had been sold. In fact they demonstrated no knowledge on the subject of options. The petitioner proposes that we accept the value of $2,700,000 placed upon the land by Orcutt, and it contends that the "actual cash value" of the option on January 25, 1911, when it was transferred to it, was the difference between that figure and the purchase price, $1,028,198.67, to be paid for the land in the event of the exercise of the option, or an actual cash value of the option itself of $1,671,801.33. Assuming generally the correctness of the theory urged by the petitioner, we are confronted with this situation: An "actual cash" payment for the option in January, 1911, of $25,000, which the petitioner would have us supplant by a purely theoretical value, measured by the value of the land, based upon opinion testimony supplied 820 about twenty years after consummation of the transaction. Of course there are occasions where no actual cash is involved in the transaction, necessitating a substitute for tax purposes, 1261 but that is not the case here. It seems to us that if the theory urged by the petitioner, that is, of assigning a value to the option equal to the difference between the theoretical value of the land and the proposed purchase price thereof as set forth in the option, has any place in such determinations of value at all, it should and necessarily must be confined to those cases in which no, or only a very nominal, consideration was given for the option and not where, as here, a very substantial price was paid, to wit $25,000, and which appears to be the real cash value thereof at the time of the transaction. Naturally when property is purchased at a stated time for $25,000 and it is contended, twenty years later, that that same property would have sold for the huge sum of $1,671,801.33 cash at that time, the human mind becomes skeptical and requires considerably more than ordinary proof. Now all that we have, of any tangible importance, is opinion evidence of one man who was a party to the transaction and the testimony of two experts who visited the property just a few days before the hearing in order that they might visualize and confirm, if possible, conditions as they were supposed1262 to exist thereon in 1911. It is because of the extremely flexible nature of opinion testimony that such should be carefully weighed. These witnesses testify unqualifiedly to the respective values which we have referred to before and they did so primarily, if not entirely, from their geological observations. Witness Johnson testified that in this region all geology was on the surface. As we understand this, it may be reasonably inferred that any geologist might visit this particular piece of property and determine from surface formations that the property contained oil. If the matter was so obvious to the trained expert, we are unable to understand why others who had already explored this field were unable to discover the presence of oil, for, as Green himself testified, other companies had scouts over the property, but had never discovered any indications of oil. There is still another important factor which influences our conclusion, and that is that Mrs. Hopkins had agreed to sell the entire tract of land, after the discovery of oil thereon, for $1,028,198.67, which figure was fixed with the most optimistic outlook that could possibly attend the development of the land and, 1263 consequently, represents what the parties regarded the fair market value of the tract of land to be as a producing oil field. Therefore, we can not minimize this factor when the parties urge us to 821 place a value on the option itself, in 1911, prior to the actual discovery of oil, of $1,671.801.33, or nearly $700,000 more for the option than the vendor was perfectly willing to sell the land for as, if and when it should become a producing oil field. Then, too, the testimony of these experts is retrospective in its nature, a factor which must be considered in weighing the evidence. A somewhat analogous situation was presented in , where the petitioner introduced various real-estate men to testify to the March 1, 1913, value of certain realty. With respect to their testimony the Board premised its considerations by saying: "None of these witnesses had actually made an appraisal of the Manhattan property in 1913, but were expressing their opinion at the present time of what the value of the property was in 1913," which is true here, and, continued the Board: "This testimony, then, is retrospective in its nature and is subject1264 to the weaknesses of that type of appraisal." Upon rejection by the Board of the values testified to there the matter was reviewed by the Circuit Court of Appeals in . It was there contended that, the only evidence of value introduced before the Board being opinion evidence of experts, the Board was under obligation to accept the petitioner's valuation, and the court said: * * * While the opinions of experts are competent and often very helpful, such evidence is not considered binding upon the tribunal before which it is produced, at least not to the extent that such tribunal is bound to follow it if contrary to the best judgment of its members. (C.C.A. 4); (C.C.A. 7). But it is true that no administrative board may act arbirarily and without evidence, and this suggests other questions which here arise, viz., whether there was substantial evidence before the Board to support its findings and, if so, the effect to be given to this fact. 1265 See also . In reaching the conclusion which we deem inescapable, we do not do so arbitrarily, nor have we substituted our own "knowledge, experience and judgment" for the opinions of these experts. There are two bases of valuation of record - not merely the one which the petitioner would have us accept - and after carefully weighing all considerations pertaining to each of them the result is that we are forced to reject the valuations tendered by these experts and to adopt the other. In other words, we are not convinced from the evidence that the theoretical "actual cash value" should be substituted for the value as measured by "actual cash." Cf. ; affd., ; and . Reviewed by the Board. Judgment will be entered for the respondent.MCMAHON 822 MCMAHON, dissenting: I do not agree with the majority opinion in holding that the option for the sale of the Hopkins land (sometimes referred to as the Belridge property in the record) in fee1266 simple, under the favorable conditions to the purchaser giving him at least one year in which to exercise the option at so favorable a price as $33 1/3 per acre, had an actual cash value of only $25,000 at the time such option was paid in to petitioner for stock. Since I presided at the hearing in this proceeding and had an opportunity to see the witnesses upon the witness stand, all of whom were called by the petitioner, and observe the candor, earnestness, sincerity and intelligence with which they testified, I feel that I would be derelict in my duty if I did not make known my views fully. The valuation of $25,000 placed upon the option in the majority opinion is based primarily upon the fact that such option, which was entered into on January 5, 1911, provides for the payment by Hole of $25,000 and that this was the amount furnished by Green and paid by Hole for it. An essential question for determination here is whether that transaction establishes the actual cash value of the option, notwithstanding the infirmities of the transaction and the rather voluminous evidence in the record to the contrary. The proceedings of the Board and its Divisions are conducted in accordance1267 with the rules of evidence applicable in courts of equity of the District of Columbia. (Sec. 907(a) of the Revenue Act of 1924, as amended by sec. 601 of the Revenue Act of 1928.) It has been held by the courts of the District of Columbia that evidence of a "fair sale" of the same property, when not too remote from the date of valuation (the element of remoteness is not in question here), may outweigh expert opinion evidence, standing alone, upon the subject of value; and no presumption or prima facie showing of the correctness of the value fixed by the sale arises unless the sale is a "judicial" or "fair public" sale. ; affirming ; ; and . Since there was no "judicial" or "fair public" sale effected in the instant proceeding, no such presumption arises and no such prima facie showing has been made. On the other hand, the sale of the option, relied upon by the majority opinion (as appears therefrom) as a basis for valuation in this proceeding, was not1268 a "fair sale," as will be pointed out presently, and hence it can not be permitted, under any rule established by these cases, to outweigh expert opinion evidence upon the subject of value, standing alone, or otherwise. Furthermore, the expert opinion evidence upon the subject of value in the instant proceeding does not stand alone. On 823 the contrary, it is well corroborated and fortified by other undisputed facts and circumstances, many of which are inherent in the situation, as will likewise be pointed out. In passing it may be said that no authority has been found to support the view that the value fixed in any sale made at or near the date of valuation is conclusive of the value of the property in question at such date as against all evidence or as against expert opinion evidence, standing alone, or that it is the best evidence in the sense that no other evidence will be used as a basis for determining such value. This view, if enforced in any case, might give rise to the question as to whether it would be in violation of the Fifth Amendment to the Federal Constitution in so far as it guarantees due process of law. Cf. 1269 ; ; ; and . With regard to the establishing of fair market value, the following appears in : We think it is well settled that whether property at a given date has a fair market value or not is a question of fact to be determined from all of the evidence introduced and admitted in each individual case; that no set rule or formula can be employed; and that in weighing and sifting the evidence the fact to be found, if it exists, is the cash price at which a seller willing but not compelled to sell and a buyer willing but not compelled to buy, both having reasonable knowledge of all the material circumstances, will trade. ; ; ; O'Meara v. Commissioner, supra; Ault & Wilborg Co., supra; and 1270 . [Italics supplied.] This applies with equal, if not greater, force to the instant proceeding, which involves the determination of actual cash value. Looking to substance and not mere form, it appears that Hole, in negotiating for the second option, was in reality acting in behalf of the group composed of himself, Green, Whittier, Connell and Buck. Green furnished the $25,000 for Hole to pay for the option. Thus in the negotiations for the option the real parties were the group, on the one hand, and Mrs. Hopkins, on the other. Green and Whittier, the two moving spirits, had actual knowledge of the presence of oil sands on the land, whereas the inference to be drawn from the evidence is that Mrs. Hopkins did not have such knowledge. The evidence shows that Green and Whittier were very careful to keep their knowledge secret; and even Hole did not have such knowledge. In the majority opinion it is stated that "the entire transaction, as the record discloses, was supervised and consummated by her personal counsel and representatives, who must be presumed to have taken proper precaution to protect her interests." Any such presumption1271 824 that might be indulged in in the ordinary case can not apply here in the face of the evidence, which shows that Hole paid one Benedict, a nephew of Mrs. Hopkins, $125,000 for his services and influence in negotiating this option; that Hole also enlisted similar services and influence of William Hill, Mrs. Hopkins' manager, for which he paid Hill $35,000 and agreed to give him one-fourth of the stock which he (Hole) was to receive in the corporation to be organized; and that Mrs. Hopkins' attorney was "anxious" for Mrs. Hopkins' nephew to "make something." The option was not signed by Mrs. Hopkins, but was signed on her behalf by her counsel as attorney in fact. This option called for a price for the land of $33 1/3 per acre, whereas the first option which Mrs. Hopkins had granted to Hole called for a price of $20 per acre for the land. It was understood by Mrs. Hopkins' attorney that the difference of $13 1/3 per acre to be paid under such option should go to Hole, and that Mrs. Hopkins would only get $20 per acre for the land if the option were exercised. The evidence definitely shows that Mrs. Hopkins did not have intimate management of the property. The inferences1272 to be drawn from this situation are that Mrs. Hopkins did not know of the price of $33 1/3 per acre provided in the option, or that Hole was to receive the difference of $13 1/3 per acre. The evidence does not disclose that Hill, Benedict, or Mrs. Hopkins' attorney knew of the discovery of oil sands on the property; but, even if they did, it is apparent that they would not have advised Mrs. Hopkins of the fact, for the reason that they were all personally interested, for one reason or another, in seeing the option granted to Hole. In so far as Mrs. Hopkins and Hole dealt for an option covering the land in question, the actual cash value of the option is not reflected for the reason that neither of them had knowledge of the existence of the numerous indications that this was oil land. Hole's principal experience had been in agricultural land and he was not an experienced oil man like Green and Whittier. In so far as Hole dealt in reference to this option with Green and Whittier or with the petitioner, the actual cash value is not reflected, for the reason that Hole did not have this knowledge of the existence of these indications of oil upon the land. Furthermore, Mrs. Hopkins1273 and her representatives, on the one part, and Hole, on the other part, were not dealing as strangers or at arm's length. They were dealing at close range. If a sale is made under peculiar circumstances, and we have such here, it does not establish market value. See . The facts and circumstances and the infirmities pointed out above take the sale out of the category of a "fair sale" for the purpose of establishing actual cash value of the option, and also fail to satisfy the requirements pointed out in , to the effect, among 825 others, that both parties to a trade must have reasonable knowledge of all the material circumstances. It should be pointed out, however, that the petitioner was not a party to this deal with Mrs. Hopkins. Petitioner was not in existence than. Furthermore, no question is raised here as to the legality of the transaction. Mrs. Hopkins and those in privity with her are the only parties who might successfully raise questions as to the validity of that transaction. See 1274 . They are not before us. The only question before us is that of the actual cash value of the option. Hole was willing to pay a great deal more than $25,000 to procure the option, and he did in fact pay, besides the $25,000 furnished by Green, $160,000 in cash and transferred one-fourth of the stock which he received in the petitioner corporation, or a total of more than $185,000. The very fact that Hole actually did pay out a total of at least $185,000 to procure this option leads to the inescapeable inference that the option had a value far in excess of $25,000. The actual cost of procuring the option is at least $185,000. In addition to this $185,000, Hole was required to deliver to Hill one-fourth of Hole's share of petitioner's corporate stock. Hole thus paid over $185,000 to procure the option, notwithstanding that he did not know that Van Slyke had discovered outcroppings of oil on the land, which were confirmed by others. It must be inferred from the evidence that, if Hole had known what Van Slyke and others knew in this respect, he would have put a higher value on the option. He testified that if he had1275 known this, he would not have sold the land at $33 1/3 per acre. There is evidence to show that on September 2, 1910, the Associated Oil Company purchased, for $66 2/3 per acre, 24,000 acres of prospective oil land located a little closer to the producing Lost Hills oil property than the Hopkins land. That transaction is more convincing upon the question of value before us than the evidence of the sale of the option with all of the infirmities inherent therein, as pointed out above. In the majority opinion it is stated in effect that this sale of property to the Associated Oil Company is not entitled to much weight, for the reason that the record does not show its state of development. The map, petitioner's Exhibit 6, demonstrates that none of that property was developed as oil land previous to 1911 and that previous to 1911 there were no indications of oil or gas upon that land. Furthermore, it is established by other evidence that that land had not been proven to be oil land and that it was merely prospective undeveloped oil land, as was the property in question here. Harry R. Johnson, of whom more will be said later, testified that the closest 826 proven oil1276 territory to the property purchased by the Associated Oil Company at that time was a part of the Lost Hills Field. He testified that the land acquired by the Associated Oil Company was not in as good prospective oil territory as the property involved here and was less valuable for oil. The map shows that the Hopkins land was located closer to producing oil lands than was the Associated Oil Company's property. The Hopkins land was near Gould Hill, Temblor Valley, and the McKittrick Field, which were at that time better established oil fields than the producing portion of the Lost Hills area, which was the closest proven oil territory to the land of the Associated Oil Company. The Hopkins land was about three miles north of Gould Hills, about six miles north of the Temblor Ranch Field and the McKittrick Field, and was not more than eight miles south of the producing area of Lost Hills. There is also convincing expert testimony in the instant proceeding which establishes an actual cash value for the option greatly in excess of $25,000. The expert witnesses were Burton E. Green, Harry R. Johnson, and W. W. Orcutt. Green went into the oil business in 1895 and, at various times, 1277 operated in the northeastern part of the Los Angeles Field, in the Colinga Field, and in the McKittrick Field, and was instrumental in the organization of several oil companies including the Green-Whittier Oil Company, the Associated Oil Company, the Amalgamated Oil Company, the West Coast Oil Company, and the Inca Oil Company. He was familiar with the developments that had taken place in the Midway Oil Field and the Lost Hills section, and he had developed the McKittrick Field. At the hearing Green testified that the outcroppings of oil on the Hopkins land were quite similar to those in the Lost Hills section. He testified that all the outcroppings which he had ever approved resulted in the development of oil fields, including the Colinga Field, McKittrick Field, the Kern River Field, the La Habra Field, and the Wolfskill property. He testified that the fair market, or actual cash, value at January 25, 1911, of the Hopkins land was at least $100 per acre, that he would have paid $100 per acre for it, and that he was in financial condition to do so. He further testified that if other companies had known the facts which he and Whittier knew about the property he and Whittier would1278 not have been able to obtain the land for $100 per acre. He stated that the Lost Hills territory had been under development for about a year before the petitioner obtained the option and that land in that section had sold for as high as $100 per acre. These sales had taken place after oil croppings had been exposed and a shallow hole had been drilled. The land sold was located some distance from this shallow hole and in a portion of the Lost Hills area which was not as favorable for oil. 827 Johnson is a consulting petroleum geologist. He graduated from Leland Stanford University about 1905 or 1906. Thereafter, he reentered the United States Geological Survey, with which he had been associated even before he entered college, and in 1908 did extensive work in examining the geologic structure of the general region in which the property in question is located, and in compiling Government bulletins in connection therewith. In 1911 he personally became informed of the conditions of the Hopkins land as found in 1910 by Van Slyke. He visited the property with Van Slyke shortly before the hearing in this proceeding and verified all material conditions found by Van Slyke in1279 1910, which were substantially the same as they were shortly before the hearing. These material conditions of 1910 were likewise verified shortly before the hearing by W. W. Orcutt, of whom more will appear later. After his resignation from the United States Geological Survey in 1909, Johnson went into private business in Los Angeles. Such business consisted of examining and valuing oil areas and advising clients as to prices to be paid for prospective oil lands. At the hearing he testified that Van Slyke's findings of oil indications in 1910 should have caused a practical oil man like Van Slyke to reach the natural and almost inevitable conclusion that the Hopkins land was valuable oil land, that a person having the knowledge of the Hopkins land which Green and Whittier had in 1910 would have been justified in paying approximately $2,900,000 for it, and that he would have advised clients to purchase the property under those conditions at that price. He testified that that was its fair market value as of January 25, 1911, prior to any actual discovery of oil on the property, beyond that made by Van Slyke. Orcutt graduated from Leland Stanford University in 1895, with the degree1280 of A.B., after pursuing the study of geology as a major subject. He was thereafter employed by the Union Oil Company to organize their geological department. He was later chief engineer and manager of the geological and land department of that company and still later became vice president. That company at first had a capitalization of about $50,000,000. Later its capitalization was increased to $100,000,000. He leased and purchased oil lands for the Union Oil Company and was so employed in 1910 and 1911. He testified that if on January 25, 1911, he had known the facts which Green knew about the Hopkins land on that date, and he had been advising his employer, the Union Oil Company, or any other party, what to pay for the property, he would have recommended that they pay $2,700,000. This, he testified, was the fair market value of the property as of that date. His opinion was based in part upon the similarity of the outcroppings and structure of this 828 area with that of the Lost Hills section, the Buena Vista Field and several other oil fields throughout southern and central California. The opinions of all of these experts as to the value of the Hopkins land were1281 well fortified by reasons and were borne out by the fact that, promptly after petitioner obtained the option in question, producing oil wells were brought in on the land. The logs of the first two wells which were sunk by the petitioner on the Hopkins land were received in evidence for the limited purpose of corroborating the findings of Van Slyke made in 1910, which were confirmed by Green in the same year and by Johnson and Orcutt shortly before the hearing in the proceeding, and for no other purpose. No attempt was made to prove the value of the option in question by showing how many wells were sunk, how much oil was produced by each, and what profits were made by the petitioner. Such evidence would be inadmissible. Green did testify, without objection, that the development of the oil lands covered by the option in question was successful. These expert witnesses were intelligent, candid, and well qualified to express opinions as to the value of the land which was the subject of the option, and their testimony shows that it had a value greatly in excess of the price at which it could be purchased under the option. None of them was impeached. Their expert opinions were1282 not met or rebutted by similar proof to the contrary. Their expert opinions stand undisputed in the record. Their expert testimony is in fact corroborated by other competent, credible, persuasive evidence, much of which is inherent in the situation. This expert opinion evidence, together with this other evidence in line with it, should be used together with all of the competent evidence upon the subject in arriving at the actual cash value of the option. There is nothing in the record to outweigh it all. No mere presumption or prima facie showing can stand as against it all. See , and more particularly the discussion at pages 352 to 354. That case involved the value of mineral lands and sustains the view that expert opinion evidence as to value is peculiarly helpful and looked upon with favor in a situation such as we have here. See also ; and , more particularly at page 1210. Once the value of the land is established, the value of the option can be readily determined. The actual cash value of an option is the1283 difference between the value of the land and the price at which it can be obtained under the option. Karl von ; ; ; and . 829 To the effect that an option is tangible property, see section 325 of the Revenue Act of 1921, , and . It should therefore be included in petitioner's invested capital for the years in question at its actual cash value. (Sec. 326(a)(2), Revenue Act of 1921.) The majority opinion also relies upon our decision in , which was a proceeding between the same parties as are here concerned, and wherein it was held that the value of this same option for invested capital purposes for the years 1917 and 1920 was $25,000. While that decision is not res judicata in the instant proceeding, findings of fact in a proceeding before the Board under the Revenue Act of 1924 are prima facie1284 correct in subsequent proceedings before the Board between the same parties, when properly introduced, as they were in the instant proceeding. ; ; ; ; affd., . However, findings of fact made by the Board in a prior proceeding, being mere prima facie evidence, may be rebutted in a subsequent proceeding between the same parties before the Board. See , wherein we stated that the decision in , was consistent with the evidence there presented, but that in the proceeding under consideration there was present a different state of evidence. The evidence introduced by petitioner in this proceeding overcomes the presumption in favor of the correctness of the value found in 1285 . In that proceeding there was lacking evidence which appears in the instant proceeding, namely, evidence of the infirmities of the sale of the option, the actual cost of the option of over $185,000, the acquisition by the Associated Oil Company in September, 1910, for $66 2/3 per acre, of property in Kern County, California, which was comparable to the land in question, expert testimony upon the question of value, and other evidence which did not appear in the prior proceeding, as herein set forth. The testimony of four witnesses, Hole, Clute, Gillan, and Van Slyke, was offered in the prior proceeding upon the question of the value of the land as oil land. The testimony of two of them, Hole and Clute, was stricken. Gillan expressed his opinion as a layman, and not as an expert. The opinion of Van Slyke, whose testimony shows that he was not qualified to testify as an expert on value, was received without objection. Thus, in the prior proceeding 830 there was no expert opinion evidence of the value of either the land as oil land, or of the option. In the opinion in the former proceeding in regard to the transaction by which1286 Hole acquired the option, it is stated: * * The fact that one Van Slyke sometime in 1910 discovered an outcrop of oil sand on the property is not shown to be controlling. This discovery preceded the giving of the option to Hole and for aught that appears the existence of this outcrop may have been known to Hole when he acquired the option. The evidence does not indicate that at the time of the assignment petitioner had any greater knowledge of the oil-bearing properties of the land than had Hole when he took the option. * * * The evidence in the instant proceeding discloses that Hole did not know of the discovery of an outcrop of oil sand on this property. He testified that if he had known what Green and Whittier knew in this respect he would not have parted with his option for the consideration which he received for it. The evidence further shows that at the time of the assignment of the option to the petitioner, the stockholders (and more particularly the moving spirits, Green and Whittier) other than Hole did have greater knowledge of the oil-bearing properties of the land than had Hole when he took the option. 1287 We are not called upon here to reconsider or review the correctness of the Board's decision in , and no criticism of it is being offered. But the proof is radically different in the instant proceeding. The Board's decision in the former proceeding has been invoked, in the majority opinion, as a precedent for the instant proceeding. As such it has no value, for the reason that it is clearly distinguishable upon the facts, as fully pointed out herein. As a precedent, it is not binding. To hold otherwise would lead to the same result as to hold that the former decision is res judicata. The majority opinion recognizes that it is not. Since this is true, we are in the same position as we would be in if there had been no former proceeding, with the exception of the prima facie showing based on the Board's former finding of the value of the option; and that, as pointed out herein, has been overcome by the proof which appears here and did not appear there. The only evidence offered by the respondent in the instant proceeding consists of the findings of the Board fixing the value of the option in this former proceeding. In doing1288 this he merely made a prima facie showing, which was rebuttable. His proof accomplished nothing else. A careful examination of the entire record discloses that there is nothing to support the position of the respondent in which he limits the actual cash value of this option for invested capital purposes to $25,000, except rebuttable presumptions or their 831 equivalent. The first presumption is that his determination in this respect is correct. The second presumption or its equivalent arises from the prima facie showing that was made when he offered the findings of the Board in , as evidence of the value of this option as therein fixed at $25,000 for similar purposes for previous years. A presumption, such as we have here, is not proof, as was stated in As stated there, it is merely a substitute for proof and is open to challenge and disproof. A prima facie showing, such as we have here, is no stronger. Both of them have been rebutted, disproved, and overcome. In this situation the burden of proof shifted to the respondent. He has done nothing to discharge his burden in this1289 respect. Notwithstanding any presumption in favor of the respondent or prima facie showing made for him, the evidence adduced at the hearing establishes a value of the land substantially in excess of the price at which it could be purchased under the option and an actual cash value of the option substantially in excess of $25,000. Any statements or comments of fact made herein by way of supplement to the findings of fact of the majority of the Board will be found to be supported by evidence which is not disputed. Obviously, it is not the province of a dissenting opinion to fix another value in excess of $25,000. That is within the province of the majority of the Board.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621671/	DONALD STEVEN SPEAKMAN, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentSpeakman v. CommissionerDocket No. 19421-84.United States Tax CourtT.C. Memo 1986-171; 1986 Tax Ct. Memo LEXIS 434; 51 T.C.M. (CCH) 939; T.C.M. (RIA) 86171; April 28, 1986. Donald Steven Speakman, pro se. Dennis R. Onnen, for the respondent. GERBERMEMORANDUM FINDINGS OF FACT AND OPINION GERBER, Judge: Respondent, in the statutory notice of deficiency dated March 19, 1984, determined deficiencies in income tax and additions to tax as follows: Additions to TaxYearDeficiencySec. 6653(b) 1Sec. 66541978$2,119.00$1,059.50$67.6719792,380.001,215.0099.0519802,838.001,419.00180.8519813,217.001,608,50246.59By an amendment to his answer, respondent has pled, in the alternative to the addition to tax under section 6653(b), additions to the tax under sections 6651(a)(1) and 6653(a). Our consideration of this case focuses upon the435 relationship of Donald Steven Speakman, petitioner, to his "Life Science Church" and petitioner's "vow of poverty" in connection therewith. Some of the facts have been stipulated to by the parties and said stipulation, along with attached exhibits, is incorporated herein by this reference. Petitioner, Donald Steven Speakman, resided in Lawrence, Kansas, at the time he filed the petition in this case. Petitioner, during the years in question, was employed as a truck driver by Hercules Aerospace Division, Hercules, Inc., at the Sunflower Army Ammunition Plant in DeSoto, Kansas. Petitioner's employer was not aware of his "Life Science Church" or petitioner's relationship to that church. All paychecks were issued directly to petitioner and Forms W-2 were issued to him in his own name. Petitioner admits that he was an employee and that his employer paid a salary directly to him in exchange for his services. Moreover, petitioner stipulated as to the amount of the wages received in each of the four taxable years in question. 2436 For several years prior to and continuing through the years in question, petitioner engaged in what he termed a "prison ministry." It was petitioner's practice to visit two different local jails in his community to discuss salvation with and hand out Christian literature to inmates in the local jail. Sometime during 1978, petitioner requested and received a so-called mail-order ministry kit from William E. Drexler, the self-proclaimed bishop and founder of the "Life Science Church." Petitioner filled in the blanks provided in the pro forma documents and, sometime thereafter, opened a bank account in the name of the church with petitioner as its trustee, and "donated" his personal residence to the church, also naming himself as trustee on behalf of the church. Petitioner did not initially complete some steps called for in the mail ministry kit, inasmuch as he did not transfer the real property to himself as trustee for the church until the 19th day of April, 437 1979. Petitioner's activities and lifestyle did not change subsequent to his execution of the pro forma documents concerning the Life Science Church. He continued to drive a truck for his employer, pay bills concerning his living expenses, albeit from the church account which he controlled rather than from his personal account, and essentially bases his contention that he is exempt from taxation upon the few simple form documents which petitioner executed as part of his mail-order ministry kit. There were no other members of petitioner's "church," nor was there sacerdotal function or any "contributions" from others that petitioner was willing either to identify or that, in fact, existed. Petitioner's testimony was vague and inconclusive concerning the activities of his "church." Although petitioner continued to occasionally visit local jails, the amount of time or funds expended in so doing or the relationship to petitioner's mail-order ministry was not established at the trial. Beginning in 1977, before petitioner acquired his mail-order ministry, he submitted a Form W-4E on April 27, 1977, advising his employer that he anticipated that he would incur no liability for Federal438 tax for 1977. For each of the taxable years 1978, 1979, 1980 and 1981, petitioner submitted Forms W-4 to his employer reflecting that he was exempt from the withholding of tax. Petitioner filed a U.S. Individual Income Tax Return (Form 1040) for the taxable year 1977. Petitioner's education included one year at the college level. We find it hard to believe that petitioner could honestly believe that he could escape liability for Federal income taxation and still enjoy the unfettered use of all of the wages that he had earned merely by filling in the forms sent to him as part of a mail-order ministry kit. We find no significant difference in fact or law from our holding in , (1982), affd. . Clearly, petitioner's unfettered use of the property and funds purportedly transferred to the "church" combined with the nature and lack of activity of the "church" establishes that the "church" was not a separate and distinct principal. , affd. without published opinion . Petitioner's claim439 that he was an agent of the church in his activity as an employee driving a truck is not well founded, see . This is especially true in this case where petitioner's employer was not even aware of the Life Science Church or petitioner's relationship to same. Holding true to form, petitioner raised numerous "protester-type constitutional arguments" which do not merit the need to reference the many precedents unfavorable to petitioner. As we stated in : Petitioner, on brief, comments little about his "church" and instead puts forth the baseless and overused arguments that many tax protesters have unsuccessfully advanced before this and other courts. Petitioner poses a riddle centered about the voluntary nature of the tax system. The conclusion he reaches is that one may not be forced to self-assess since the system is voluntary. Petitioner has revealed his true intent to evade tax by these baseless claims. His choice to hide behind the facade of a religious organization to accomplish the evasion is, coupled with the other facts in this record, fraudulent. 440 Petitioner's actions are most disruptive of the system that guarantees constitutional freedom of religion. Petitioner attempts to use this constitutional guarantee as a sword to evade payment of tax, rather than as a shield permitting the free exercise of his religion. [54 P-H Memo T.C. par. 85,243 at 1062-85, .] Petitioner in this case failed to file returns in all taxable years in issue after having filed for prior years based solely upon a pro forma mail-order ministry kit. He also claimed exemption from withholding tax and has attempted to interpose his "church" to evade payment of his taxes for 1978 through 1981. In view of the foregoing, we hold that respondent has carried his burden of proving that petitioner's failure to file tax returns for the taxable years 1978, 1979, 1980 and 1981 were intentional with intent to defraud the United States and constituted part of a pattern of activity intended to evade the reporting and payment of tax. To reflect the foregoing, 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 during the years in issue.↩2. For the taxable years 1978 through 1981, petitioner received wages from his employer in the following amounts: ↩YearAmount of Wages1978$13,720.41197915,289.33198016,726.39198118,187.36	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621672/	LOUIS PERAINO and SORAYDA PERAINO, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentPERAINO v. COMMISSIONERDocket No. 16048-79, 16049-79.United States Tax CourtT.C. Memo 1982-524; 1982 Tax Ct. Memo LEXIS 219; 44 T.C.M. (CCH) 1099; T.C.M. (RIA) 82524; September 14, 1982. David A. Hoines, for the petitioners. Jack H. Klinghoffer, for the respondent. NIMSMEMORANDUM FINDINGS OF FACT AND OPINION NIMS, Judge: In these consolidated cases, respondent determined the following deficiencies in petitioners' Federal income taxes and additions to tax: Additions to TaxDocket No.YearDeficiencySec. 6651(a)Sec. 6653(a) 116048-791975$12,152$3,03816049-79197462,59615,649$5,079Concessions having been made by the parties, the issues220 remaining for decision are 1) whether various advances made to three of petitioners' wholly owned corporations constituted business bad debts in 1974 and 1975, 2) who has the burden of proof on the above issue, and 3) whether petitioners are liable for the addition to tax under section 6653(a) in 1974. FINDINGS OF FACT Some of the facts have been stipulated. The stipulation and the exhibits attached thereto are incorporated herein by reference. Louis Peraino (hereinafter "Peraino" or "petitioner") and Sorayda Peraino, husband and wife, resided at Locust Valley, New York, at the time the petitions herein were filed. L.P. Music Company (hereinafter "L.P.") was a sole proprietorship owned and operated by petitioner during the years at issue. L.P. was in the business of publishing music and collecting royalties therefrom. Damiano "Loan"In 1971, petitioner and Gerard Damiano ("Gerard") organized a New York corporation, Gerard Damiano Film Productions, Inc. (hereinafter "Damiano"). Petitioner contributed the initial capital of the corporation, $1,000, and received in return two-thirds of the corporation's stock. Gerard Damiano, who contributed his experience in the221 movie-making business, received the remaining one-third of the corporation's shares. In 1971 and 1972, Damiano produced several low-budget X-rated movies. The movies experienced modest success. However, one Damiano movie -- "Deep Throat" -- nearing the end of its run experienced problems with the local authorities in New York City who considered the film obscene. After several highly publicized attempts to close down the theater where the film was showing in mid-1972, box office receipts for the movie began to rise and the movie was held over. Gerard, concerned about possible criminal liability for being involved with the movie "Deep Throat," pursuaded petitioner to buy out his one-third stock interest in Damiano for $15,000. Soon after petitioner had acquired all of the shares of Damiano, "Deep Throat," which had cost a mere $26,000 to film, became a sought-after property by theater owners across the country. Damiano made several million dollars (on which it paid at least one million dollars in income taxes), and petitioner, affluent as a result thereof, began to expand his operations in the music and film industry. By 1974, Damiano had sold the rights to "Deep Throat" 222 to a third party and its X-rated movie business was beginning to fall off. The corporation, however, was still profitable that year and in fact paid petitioner (who was also its president) $77,000 in wages. In 1973, petitioner formed another wholly owned motion picture corporation, Bryanston Distributors, Inc. (hereinafter "Bryanston"), to produce and distribute mostly non-X rated films. Bryanston during the years at issue either filmed or distributed several rather successful films, including "Return of the Dragon" (starring Bruce Lee), Andy Warhol's "Frankenstein" and "The Texas Chainsaw Massacre." During 1975, as petitioner's salary and activities in connection with Bryanston increased, his salaries and activity with Damiano decreased. This is illustrated by the fact that petitioner, who had no reported salary from Bryanston in 1974, reported $41,147.66 salary from that corporation in 1975. By contrast, petitioner only reported $3,000 of salary income from Damiano in 1975. By the fall of 1975, Damiano was essentially a moribund company, possessing less than $100,000 in cash (how much less is unclear) and no apparent income-producing assets. Around this time, September, 223 1975, petitioner learned of the possibility of obtaining the rights to distribute a movie of the then-imminent heavyweight boxing title fight between Muhammad Ali and Joe Frazier in the Philippines ("the thrilla in Manila"). Desiring to rejuvenate Damiano, petitioner decided to have Damiano purchase these rights, although at the time Damiano did not have the required $80,000 to $100,000 cash available. Petitioner did not seek a loan from any bank for this boxing venture because, due to adverse publicity connected with a trial involving "Deep Throat" earlier in the year, several local New York banks had declined to do business with petitioner or his corporations. Instead, in the months of September and October, 1975, Damiano received $144,000 from Bryanston, $19,000 from L.P. (on September 26), $55,000 from petitioner as an individual and $17,000 from an organization named Haunted House. 2Damiano initially had contracted with 600 theaters to show the Ali-Frazier fight in the weeks immediately224 following the bout. However, on the night of the fight (September 30) attendance at theaters showing the fight by closed-circuit was only 40 to 50 percent of what had been expected. It immediately became apparent that the fight was not as popular as petitioner had expected it would be. When Damiano in October distributed the film of the fight to the theaters it had contracted with, 400 of the theaters returned the film, refusing to accept the prints. Although the theaters were contractually obligated to show the film, Damiano made no effort to enforce its rights against the theaters, deeming such a course impractical. Damiano suffered large losses as a consequence of these events. The $19,000 transfer from L.P. to Damiano was not evidenced by a note, bore no interest, was unsecured and was envisioned by petitioner as likely to be paid back in January, 1976. The transfer was recorded as a loan on the books of Damiano and L.P. No interest or principal was ever paid to L.P. on this transfer. By contrast, petitioner caused Damiano to pay back the entire $55,000 advance petitioner had made to Damiano from his individual funds; the date of this repayment has not been shown. The225 $55,000 transfer, along with the transfers from Bryanston and Haunted House, were also recorded as loans on Damiano's books. On their 1975 joint income tax return, petitioners deducted the $19,000 transfer by L.P. to Damiano as a business bad debt incurred by L.P.Petitioner was not in the trade or business of promoting corporations or of lending money during either 1974 or 1975. Bryan "Loan"In February, 1974, petitioner formed another wholly owned New York corporation, Bryan Records, Inc. (hereinafter "Bryan"). Bryan was formed as a record label to promote and obtain music recording royalties and revenues from the soundtracks of films produced by Bryanston. Many of the songs included on the soundtracks owned by Bryan were written or co-written by petitioner. Since L.P. held the publishing rights to those songs and petitioner held composer royalty rights to those songs, Bryan was envisioned as "closing the circle" of revenues that could potentially be garnered from petitioners' compositions and movie making activities. Bryan's initial capitalization was $1,000. In 1974 and 1975, L.P. transferred the following amounts to Bryan to be used to pay operating expenses226 of Bryan: DateAmountMay 16, 1974$4,000June 14, 19746,500December 18, 19745,000March 24, 1975125May 9, 19756,000Each of these transfers was noted both in L.P.'s checkbook and ledgers and Bryan's ledgers as a loan. Such transfers were not evidenced by a note, bore no interest, were unsecured and were expected to be paid back within a year. In addition to the above transfers, L.P. paid various third parties for promotional services, record pressing and production costs connected with the business of Bryan. These payments were accompanied by notes in L.P.'s checkbook indicating that Bryan should be charged for the expenditures. Bryan did not make these payments itself because there were no funds at the time in its corporate checking account. The payments by L.P. were as follows: DateAmountRemarksApril 25, 1975$320.03postage & flyersApril 25, 1975700.00record pressingApril 25, 1975600.00production castApril 25, 19751,276.00recording studioApril 25, 1975763.61promotion expensesMay 2, 19752,500.00advance against royaltiesMay 2, 1975600.00promotion feeMay 2, 19751,200.00promotion fee227 Unlike the prior transfers, these payments were not recorded as loans on the books of Bryan. L.P.'s books, however, did treat these payments as loans to Bryan. During 1974 and 1975, Bryan records owned the soundtrack rights to at least three Bryanston-produced movies, "Deep Throat, Part II" (Rated R), "The Last Porno Flick" (Rated PG) and "Lord Shango" (Rated R). "Lord Shango" was filmed in 1975. Most of the expenses of recording and manufacturing demonstration records of these soundtracks had already been paid for by Bryanston through its movie production budget. In fact, Bryan did not intend to manufacture soundtrack records itself. Rather, Bryan hoped that if the Bryanston movies to which its soundtracks belonged became a success, Bryan could enter into lucrative contracts with major record label companies allowing the latter to actually manufacture and distribute the soundtrack records. Consequently, Bryan's expenses consisted primarily of promotional expenses incurred to publicize and distribute its demonstration records to disc jockeys and major record label companies. While many of these expenses were already paid by Bryanston in its movie production budget, it is228 clear from the amounts spent by L.P. on Bryan's behalf in April and May, 1975, that Bryan did have substantial promotional expenses which were not picked up by Bryanston. Further, beginning in late 1974, Bryan sought out artists not connected with Bryanston films in an attempt to broaden the revenue base of Bryan and make it a more important record label. Very early in this effort Polidor Records of Canada aid Bryan a $10,000 advance for the right to distribute any future artist signed by Bryan. Bryan experienced little or no success with its Bryanston movie soundtracks. Despite high hopes (especially connected with "Lord Shango" in 1975), none of the Bryanston films generated much box office interest. As a result, none of the Bryanston movie soundtracks ever went into commercial production. Bryan never reimbursed L.P. for either the transfers or payments discussed above. On their 1974 income tax return, petitioners deducted the $15,500 of transfers made by L.P. to Bryan that year as business bad debts of L.P. On their 1975 income tax return, petitioners deducted $14,084.64, consisting of transfers of $6,125 from L.P. to Bryan and $7,959.64 of payments made by L.P. on229 behalf of Bryan that year, as business bad debts of L.P.Battersea "Loan"Battersea Holdings, Inc. (hereinafter "Battersea") was still another New York corporation wholly owned by petitioner during the years at issue. Battersea was formed for the purpose of lending money to third parties at interest. Battersea was initially capitalized with $1,000. Battersea obtained funds both from petitioner and other third parties and then lent the funds primarily to other individuals and unaffiliated businesses. On November 29, 1973, L.P. transferred $35,000 to Battersea. On December 7, 1973, L.P. transferred an additional $20,000 to Battersea. These two transfers were characterized as loans, both on the books of Battersea and L.P. Though petitioner envisioned the "loans" as being made at a rate of interest of one percent per month, payable monthly, and expected the transfers to be paid back between 18 months and two years, no note to this effect was ever drawn up. Neither was the transfer secured by any collateral. Payments denominated interest on Battersea's and L.P.'s books were made by Battersea to L.P. as follows: DatePaymentJuly 16, 1974$550August 26, 1974550October 7, 19744,400January 15, 1975550230 On their 1975 Schedule C for L.P., petitioners reported the $550 payment received by L.P. that year as interest income. As of December 31, 1974, the receivables of Battersea were approximately $320,000.These receivables represented loans by Battersea to twenty individuals or entities. Battersea's loans payable on that date were as follows: World Wide$215,000L.P.55,000Bryanston20,000Damiano9,000Total$299,000Battersea eventually sued seven of its twenty debtors (representing $100,000 of the $320,000 of total receivables) in an effort to collect its loans. In one instance, Battersea attempted to recover on a $35,000 loan to a furniture company, but learned that its security interest in the collateral for the loan had not been perfected in a timely manner by its lawyer. Though Peraino was advised that a suit for malpractice might lie against Battersea's attorney, no suit was ever instituted. Battersea ceased doing business in April 1975. At that point various of its loans payable were paid off, with a preference being given for non-Peraino-owned creditors. L.P. received no repayment of its $55,000 transfers. On their 1974 income231 tax returns, petitioners deducted the $55,000 worth of transfers by L.P. to Battersea as business bad debts of L.P.Negligence AdditionIn filling out their 1974 income tax return, petitioners relied on their accountant, who held a B.S. degree in accounting from New York University, to prepare their returns accurately. For this purpose, the books and records of petitioner's various proprietorships and corporations were all made available to the accountant. In establishing his various corporations with an initial capital of $1,000 and thereafter treating all transfers to such corporations a loans, petitioner relied on the advice of Frank Avianca, a person with extensive background in both the music and film industries, that such a capital structure was both common and proper. Petitioners have conceded the receipt of $1,833 of constructive dividends and $5,336.36 of other income, all unreported, in the taxable year 1974. OPINION The first issue for decision is who shoulders the burden of proof on the bad debt issues. On a page entitled "Statement - Income Tax Changes" (Form 5278) contained in respondent's statutory notice of deficiency dated August 20, 1979, respondent, 232 among other things, made the following adjustments to petitioners' income: Tax Years EndedAdjustments to Income12/31/7412/31/75a. Constructive Dividends$7,113.92$7,578.25b. Schedule "C" Bad Debts70,500.0034,084.64On a succeeding page entitled "Explanation of Adjustments," respondent wrote the following: (a) It is determined that you realized unreported taxable income from constructive dividends from various corporations for the years ended December 31, 1974 and December 31, 1975 computed as follows: Name of Corporation19741975Beaumont Film Production Inc.$2,685.67Bryanston Distribution, Inc.4,428.257,578.25Increase in income$7,113.92$7,578.25(b) It is determined that you realized unreported taxable income from constructive dividends from various corporations for the years ended December 31, 1975 [sic] computed as follows: Name of Corporation19741975Ridgeway Inc.$1,000.00Bryan Records, Inc.15,500.0014,084.64Battersea Holding, Inc.55,000.00G. Damiano Film Production, Inc.19,000.00Increase to income$70,500.00$34,084.64In their petitions, petitioners233 alleged that the respondent erroneously increased their taxable income by the amounts indicated in (b) of the statutory notice, "erroneously characterizing the same to be a constructive dividend." Petitioners also stated: Such amounts constitute ordinary and necessary business expenses of the aforesaid Corporations [mentioned in adjustment (b)], and are consequently appropriately deducted by the aforesaid Corporations and not taxable income to Petitioners, or was [sic] paid by Petitioners either to the Corporations or on behalf of the Corporations for their ordinary and necessary business expenses. In his answers filed January 21, 1980, respondent admitted that "the Commissioner asserted that petitioners realized taxable income from constructive dividends" as detailed in adjustment (b) of the statutory notice, but denied petitioners' further allegations in connection with those adjustments. By an amended answer filed the date of trial, April 23, 1981, respondent alleged that the items noted in adjustment (b) were in fact disallowed as bad debt deductions because (1) petitioners have not substantiated that the "loans" were made; (2) the "loans" were in fact contributions234 to capital; -- if it is determined that the money paid constituted debts; (3) petitioners have not established that the debts became worthless in the taxable year; and (4) petitioners have not established that the debts were "business" bad debts. In a motion for leave to file the above-mentioned amended answer, respondent explained that in preparing the statutory notice, he had inadvertently used the same text in explaining adjustments (a) and (b), though the breakdown of corporations and disallowed amounts in adjustment (b) was accurate. Respondent further stated: 1) that at the Appeals Division of the I.R.S., the disallowances in (b) had been discussed with petitioners' counsel as bad debts; 2) that a letter from respondent to petitioners dated January 26, 1981, referred to the disallowances in (b) as "bad debts" and requested information and documentation concerning the issues of substantiation, worthlessness, thin capitalization and the claimed "business" nature of the alleged bad debts; and 3) that a conference on the subject of these bad debt issues was held between petitioners' attorney and respondent on March 13, 1981. Petitioner, at trial, neither opposed respondent's235 motion, contradicted the statements made in the motion, nor claimed surprise in regard to the amended answer's allegations. Petitioner argues that under Rule 142(a), 3 the respondent has pleaded new matter in his amended answer and thus must bear the burden of proof. Respondent contends that he merely cleared up obvious confusion in the statutory notice and that petitioner is not surprised by the clarification; therefore petitioner, as is usual, should bear the burden of proof. We agree with respondent. Certainly, if the respondent had uniformly throughout the statutory notice and his pleadings disallowed the items in adjustment (b) of the statutory notice236 as not meeting the requirements for the deduction of "Schedule 'C' Bad debts," his words would have been sufficiently broad to entitle him to the presumption of correctness on each of the more specific theories of the amended answer. Mills v. Commissioner,399 F.2d 744">399 F.2d 744, 748 (4th Cir. 1968), affg. a Memorandum Opinion of this Court; Sorin v. Commissioner,29 T.C. 959">29 T.C. 959, 969 (1958), affd. per curiam 271 F.2d 741">271 F.2d 741 (2d Cir. 1959). Here, however, the respondent stated two different theories relating to adjustment (b) in the statutory notice: business bad debt and constructive dividend. These theories are obviously inconsistent, the first involving the disallowance of a deduction and the second involving the failure to report an income item. Respondent then compounded his mistake by admitting in his original answer that the erroneous theory (constructive dividend) was at issue. Respondent has since clarified his position by an amended answer in which he stated that the items in adjustment (b) were actually disallowed solely on business bad debt deduction grounds. Does respondent's conduct require that the burden of proof be shifted? We think237 not. While matters of pleading are certainly important and not to be taken casually, they also must not be taken overly literally. 4 There must be a certain amount of play in the joints of the pleading rules to cover obvious typographical errors which do not result in surprise when corrected sufficiently before trial. We think this is such a case. Petitioners were aware of respondent's bad debt deduction theory at the appellate level of the I.R.S., were aware that the sums of money and corporations involved in the detailed explanation of adjustment (b) corresponded to their claimed bad debt deductions, were aware that at least in part of the statutory238 notice adjustment (b) was denominated "Schedule 'C' Bad debts" and were aware of the true theory of respondent's case well in advance of the trial. Petitioners have cited us no case in which, on similar facts, this Court has shifted the burden of proof to respondent. Nor have they cited any policy reason why the burden of proof should shift in this case. Respondent in fact determined his deficiency on the bad debt theory, even if he did not articulate this very well in the statutory notice; this was not some theory thought up after the fact to justify a deficiency determined on some other basis. Compare Nicholls, North, Buse Co. v. Commissioner,56 T.C. 1225">56 T.C. 1225, 1241 (1971); Papineau v. Commissioner,28 T.C. 54">28 T.C. 54, 57 (1957); Tauber v. Commissioner,24 T.C. 179">24 T.C. 179, 185 (1955). Consequently, respondent has not pleaded new matter and need not bear the burden of proof. In connection with the claimed Damiano, Bryan and Battersea business bad debts, 5 respondent argues 1) that petitioners have failed to establish any money transfers which could be the basis of a debt, 2) that any transfers made could only be contributions to capital239 and not bona fide loans, 3) that petitioners have not shown these "debts" to have become worthless in the years claimed, and 4) that in no case were these "debts" business bad debts. Petitioners, on the other hand, contend 1) that transfers did occur, 2) that these were intended to be loans, 3) that they were treated accordingly on the various corporate and proprietorship books and 4) that these business-related debts were property deemed worthless in the years the corresponding deductions therefor were claimed. Petitioners also argue that respondent is estopped from recharacterizing the Battersea loans as capital contributions because petitioners reported interest income therefrom in 1974 and 1975 (which respondent has not recharacterized) and because respondent audited Battersea in 1973 and did not disallow any of that corporation's interest deductions. We will deal with each corporation separately: DamianoNotwithstanding respondent's objections, we were convinced by the testimony of petitioners' witnesses240 that transfers of money to Damiano, Bryan and Battersea did occur as petitioners allege. In the case of Damiano, however, we agree with respondent that such transfers could not give rise to business bad debt deductions because 1) the transfers were in the nature of capital contributions, not loans, and 2) in any case, if loans, petitioners have not shown the year of worthlessness to be 1975. A multitude of cases have attempted to set standards for determining the debt-equity issue. Among the factors courts generally consider are: (1) The intent of the parties; (2) The identity between creditors and shareholders; (3) The extent of participation in management by the holder of the instrument; (4) The ability of the corporation to obtain funds from outside sources; (5) The "thinness" of the capital structure in relation to debt; (6) The risk involved; (7) The formal indicia of the arrangement; (8) The relative position of the obligees as to other creditors regarding the payment of interest and principal; (9) The voting power of the holder of the instrument; (10) The provision241 of a fixed rate of interest; (11) A contingency on the obligation to repay; (12) The source of the interest payments; (13) The presence or absence of a fixed maturity date; (14) A provision for redemption by the corporation; (15) A provision for redemption at the option of the holder; and (16) The timing of the advance with reference to the organization of the corporation. See Fin Hay Realty Co. v. United States,398 F.2d 694">398 F.2d 694, 696 (3d Cir. 1968), and cases cited therein. As the Court of Appeals recognized in Fin Hay Realty, however, [t]he various factors which have been identified in the case are only aids in answering the ultimate question whether the investment, analyzed in terms of its economic reality, constitutes risk capital entirely subject to the fortunes of the corporate venture or represents a strict debtor-creditor relationship. [398 F.2d at 697 (footnote reference omitted).] See also Bittker & Eustice, Federal Income Taxation of Corporations and Shareholders, par. 4.04, p. 4-10 (4th ed. 1979). In the instant case, no extended analysis is necessary for us to reach the conclusion that the transfer herein was242 capital in nature. First, there was complete identity between the transferors and the stockholders of Damiano, a situation inviting special scrutiny. P.M. Finance Corp. v. Commissioner,302 F.2d 786">302 F.2d 786, 788-789 (3d Cir. 1962). Second, the transfer was evidenced by no note, had no specific terms of repayment, bore no interest and was totally unsecured. Third, Damiano was basically a non-income-producing corporate shell at the time of the transfer. Money transferred from L.P. and corporations controlled by petitioner was to be used by Damiano to purchase the rights to a film of the Ali-Frazier fight in the Philippines and to distribute that film. If the film was a box office success, no doubt L.P. would be repaid, but if the film was a box office failure Damiano would apparently have few valuable assets against which L.P., as a creditor, could levy. The L.P. money was clearly put at the complete risk of Damiano's sole speculative venture. See Gilbert v. Commissioner,248 F.2d 399">248 F.2d 399, 406-407 (2d Cir. 1957); Schnitzer v. Commissioner,13 T.C. 43">13 T.C. 43, 61-62 (1949), affd. per curiam 183 F.2d 70">183 F.2d 70 (9th Cir. 1950). Finally, the243 corporation was clearly inadequately capitalized. Damiano's initial capitalization was only $1,000. 6 By October 1975, due to transfers not only from L.P., but several other corporations owned by petitioner, Damiano showed loans payable of at least $235,500. By contrast petitioners argue that they intended the transfer to be a loan and that the books of both L.P. and Damiano reflect this understanding. While these are relevant factors in a debt-equity inquiry they are not in themselves sufficient to convert what by all objective standards would be considered a capital contribution into a loan (especially when Damiano's formal treatment of the transfer was a by-product of the control petitioners exercised over that corporation). See Gilbert v. Commissioner,supra at 402 ("the mere empty form of the transaction does not preclude further inquiry"). A second reason for disallowing petitioners' business bad debt deduction for the Damiano transfer is that, even if they had shown the transfer to have been a loan, petitioners have244 failed to show that that loan became wholly worthless by the end of 1975. Damiano's books reflected at least $235,500 of loans payable at the end of October, 1975. All this money had been received by the corporation in September or October of that year. Petitioner did not explain where all of the money went. At most, according to petitioner, $100,000 was paid for the film rights to the fight. This leaves a substantial amount which could have been used to pay back the L.P. loan, at least in part. In fact, petitioner admitted at trial that one loan on Damiano's books, a $55,000 loan from petitioner's individual funds, was eventually repaid in full. The year of this repayment was not stated. How Damiano could fully repay one debt to petitioner and yet not repay anything on another, almost simultaneously created, debt to petitioner doing business as L.P. was unexplained. Apparently, both such loans were equally unsecured. At most, then, we think the L.P. loan was rendered partially worthless by the box office failure of the fight movie in 1975. 7 But no deduction for partial worthlessness, even of a business debt, is allowable absent the consent of respondent. Section 166(a)(2); 245 section 1.166-3(a)(2), Income Tax Regs.Petitioners having failed to meet their burden of proof regarding the Damiano transfer, respondent's disallowance is upheld. 8246 BryanWe also agree with respondent's disallowance of business bad debt deductions of $15,500 in 1974 and $14,084.64 in 1975 relating to transfers by L.P. to Bryan and payments made by L.P. on behalf of Bryan. Petitioners have not shown these items to have been loans as opposed to capital contributions; nor have they shown these items to have been wholly worthless in the years claimed. We find these items to be equity contributions for much the same reasons we did in the case of the Damiano transfer. Petitioners wholly owned Bryan, the transfers and payments were evidenced by no notes, had no specific terms of repayment, bore no interest and were totally unsecured. Fin Hay Realty Co. v. United States,supra.Bryan was grossly undercapitalized with $1,000 on formation and used all the L.P. funds merely to meet its operating expenses in promoting its soundtrack albums and signing new artists. The money was put at the complete risk of speculative ventures. See Gilbert v. Commissioner,supra.With regard to the $7,959.64 of payments made by L.P. on Bryan's behalf in 1975, Bryan's books did not even contain a loan payable entry. 247 Petitioners have also failed to show that even if these items did constitute debts, they became totally worthless in 1974 and 1975. First, it is unclear that at the end of 1974 petitioners had no hope of recovering the amounts advanced. Although Bryan had experienced little success in promoting its Bryanston movie soundtracks, petitioner's accountant admitted at trial that the company had hopes of collecting some money owed to it by distributors. (Petitioners elicited no testimony regarding the size of these Bryan receivables.) Additionally, petitioners transferred $5,000 to Bryan on December 18, 1974. Petitioners seek to deduct this transfer as worthless only 13 days after it was made, though they presented no evidence that any intervening event made inevitable such uncollectability. We think it highly unlikely that a taxpayer would loan money to a wholly owned corporation which was defunct or soon to become defunct in a matter of days. Second, petitioners have presented insufficient evidence to show their 1975 transfers and payments, if creating debts, were worthless as of December 31, 1975. Petitioners made numerous transfers to Bryan and payments on behalf of Bryan248 between March and May, 1975. These items were all apparently connected to the recording and promotion of a film soundtrack to a Bryanston movie, "Lord Shango." Petitioners testified that "Lord Shango" was a critical success but a box office failure and that consequently Bryan could not repay L.P. the moneys at issue. Petitioners, however, gave no specifics about when this movie was first released, when its failure became apparent, what receivables, if any, Bryan possessed at the end of 1975 (both as to amount and likelihood of ultimate receipt) of the market value of the assets, if any, Bryan had on hand at that time. Petitioners merely testified that they satisfied themselves that they would never collect on these Bryan transfers and payments at the end of 1975. Such conclusory testimony, unsupported by objective facts, is insufficient to meet petitioners' burden of proof on the issue of worthlessness. BatterseaWe further agree with respondent that the 1973 transfers to Battersea are not deductible as business bad debts in 1974 because, whether or not these transfers were debts, they were not business-related debts and petitioners have failed to prove their worthlessness249 as of December 31, 1974. 9Battersea was in the business of lending money. Petitioner, concededly, was not. Neither was petitioner a promoter of corporations as items of inventory; see Whipple v. Commissioner,373 U.S. 193">373 U.S. 193 (1963); nor a salaried employee of Battersea. See United States v. Generes,405 U.S. 93">405 U.S. 93 (1972). Accordingly, even if the transfers constituted debts they were nonbusiness debts. Petitioners, however, have failed to show these purported loans were wholly worthless at the end of 1974. Battersea was still a functioning corporation at least as late as April, 1975. Interest was paid on the transfers during January, 1975. Its books reflected receivables of $320,000 at the end of 1974 and loans payable of $299,000. Although largely unsuccessful litigation involving seven debtors and $100,000 of receivables was eventually brought, petitioners have not indicated that these lawsuits were futile, or were even begun, by the end of 1974. The remaining receivables250 were apparently all collectible. On this record, therefore, it appears there was a significant chance that petitioners would recover all or part of their transfer to Battersea at the end of 1974. Accordingly, no bad debt deduction was allowable in that year. Negligence AdditionThe final issue for decision is whether petitioners are liable for an addition to tax under section 6653(a) for the year 1974. Petitioners have conceded their failure to report constructive dividends of $1,833 and other income of $5,336.36 in 1974. We have also found that they improperly deducted $70,500 as business bad debts in that year. Petitioners contend that they relied on their accountant to prepare their returns accurately from their books and that they set up the capital structures of their wholly owned corporations on the advice of an individual with extensive background in the music and film industries. This testimony might have been sufficient to absolve petitioners of negligence if the only items on which the addition was based were the bad debt deductions; see Hill v. Commissioner,63 T.C. 225">63 T.C. 225, 251-252 (1974), affd. without published opinion sub nom. Tenner v. Commissioner,551 F.2d 313">551 F.2d 313 (9th Cir. 1977);251 however it fails to explain the over $7,000 in unreported income on which the negligence addition was also based. Petitioners have simply failed to introduce any evidence on the subject of why these constructive dividends and other income items (described in the deficiency notice as improperly diverted receipts of Damiano) were not reported in 1974. They have not shown that their accountant was possessed of any information regarding these unreported income items. See Johnson v. Commissioner,74 T.C. 89">74 T.C. 89, 97 (1980), affd. on another issue 673 F.2d 262">673 F.2d 262 (9th Cir. 1982). Accordingly, petitioners have not met their burden of proof on this issue, and the addition should be imposed. Decisions will be entered under Rule 155.Footnotes1. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1954 as in effect during the years before the Court.↩2. The record is silent as to whether Haunted House was another one of petitioner's proprietorships or wholly owned corporations or whether it was an unaffiliated organization.↩3. All references to Rules are to the Tax Court Rules of Practice and Procedure.Rule 142(a) provides: (a) General: The burden of proof shall be upon the petitioner, except as otherwise provided by statute or determined by the Court; and except that, in respect of any new matter, increases in deficiency, and affirmative defenses, pleaded in his answer, it shall be upon the respondent. As to affirmative defenses, see Rule 39.↩4. Indeed, if we wanted to be excessively literal about the notice of deficiency and the pleadings, we could point out that respondent apparently asserted two different theories in connection with the items in adjustment (b) of the notice: constructive dividends and bad debts. Since the petition makes no mention of the bad debt theory and does not allege error in regard to that theory of the adjustment, it could be argued that petitioners had conceded the bad debt issue and no trial was necessary. We do not so hold, however.↩5. Petitioners have conceded the issue of the $1,000 Ridgeway, Inc. 1975 business bad debt also disallowed in respondent's adjustment (b) of the statutory notice.↩6. Petitioners introduced no evidence to show that Damiano's equity account was any higher at the time of the L.P. transfer.↩7. Petitioner's testimony regarding the circumstances of the fight and the box office failure of the movie left much to be desired. Petitioner's testimony in this regard could best be described as impressionistic: few facts were given, and at least one rather significant fact, the location of the fight, was incorrectly stated by petitioner. Petitioner testified that the film was to be of an Ali-Frazier fight in Zaire. Petitioner's attorney and accountant correctly noted that the fight was an Ali-Frazier fight in the Philippines ("the thrilla in Manila"). In fact, the heavyweight title fight that occurred in Zaire ("the rumble in the jungle") was between Ali and George Foreman and took place October 30, 1974. See M. Ali, The Greatest: My Own Story, 14 (1975).↩8. Petitioners argue that respondent's reliance merely on the cross-examination of petitioners' witnesses as his case in chief fails to meet the respondent's burden of going forward with evidence to rebut petitioners' evidence. This, they believe, entitles them to prevail herein. Petitioners confuse the burden of proof with the burden of going forward. Petitioners have the ultimate burden of proof to present sufficient credible evidence entitling them to a bad debt deduction. If petitioners, as they have here, present insufficient evidence on their own to entitle them to a deduction as a matter of law, respondent need not put in rebutting evidence to prevail. See Rockwell v. Commissioner,512 F.2d 882">512 F.2d 882 (9th Cir. 1975), affg. a Memorandum Opinion of this Court. In any event, rebutting evidence adduced by cross-examination may properly form the basis of respondent's case. This commonly occurs in fraud cases, where respondent, and not the taxpayer, bears the burden of proof.↩9. Holding as we do, we need not reach petitioners' argument that respondent is estopped from recharacterizing the transfers from loans to contributions to capital.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621673/	MICHAEL JOHN GARBER, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentGarber v. CommissionerDocket No. 7976-76.United States Tax CourtT.C. Memo 1978-220; 1978 Tax Ct. Memo LEXIS 294; 37 T.C.M. (CCH) 944; T.C.M. (RIA) 78220; June 12, 1978, Filed 294 Held, petitioner was not away from home when he incurred traveling expenses. Michael John Garber, pro se. Lawrence G. Becker, for the respondent. WILESMEMORANDUM FINDINGS OF FACT AND OPINION WILES, Judge: Respondent determined a $ 655.23 deficiency in petitioner's 1973 Federal income taxes. The only issue we must decide is whether petitioner had a tax home during 1973 from which he could be away when he incurred traveling expenses in pursuit of his trade or business. FINDINGS OF FACT Some facts were stipulated and are found accordingly. Petitioner timely filed his 1973 Federal income tax return with the Internal Revenue Service Center, Ogden, 295 Utah. When he filed his petition herein, petitioner was a resident of San Francisco, California. During 1967 petitioner lived with his parents in Baltimore, Maryland. After high school, in June 1967, petitioner left home and entered Calhoun School in Baltimore. Calhoun is a trade school for marine engineering that is run by the Marine Engineers Benefit Association (hereinafter the MEBA), a marine engineering trade union. During the entire time while attending Calhoun petitioner received room and board, and $ 200 a month from the school. Petitioner attended Calhoun for three months and then entered the Merchant Marine Academy in New York. After a year at the Merchant Marine Academy, petitioner returned to Calhoun. Upon his return to Calhoun petitioner attended classes for three months and then, as part of his academic curriculum, petitioner spent a year at sea. After his year at sea, petitioner in 1969 returned to Calhoun where he studied for six months, and subsequently passed a two-week United States Coast Guard test. On March 26, 1970, petitioner was licensed as a "temporary third assistant engineer of steam and motor vessels of any horsepower." Upon receiving his temporary296 license, petitioner shipped out at Maryland. Because of arguments on the ship, however, petitioner quit his job and flew to the West Coast. After arriving on the West Coast, petitioner visited Arizona and stayed in Nevada with his father who lived outside of Reno in a trailer home. During 1970 and the first part of 1971, petitioner traveled extensively, taking shipping jobs from New York, New Orleans, San Francisco, and Los Angeles. At one time he joined a ship in Japan where he was stationed for four months. In September of 1971, petitioner entered State University of New York Maritime College located in Bronx, New York, so he could take courses that would maintain and improve his skills as a marine engineer. After completing one academic year petitioner drove to Reno, Nevada, and then to San Francisco, where on August 4, 1972, he signed on with a new ship, the China Bear. Because of mechanical and automation problems on the China Bear petitioner was not discharged until November 11, 1972. As a result of his late return to the United States petitioner was unable to attend the 1972 fall semester at State University of New York Maritime College. Instead, he received permission297 from the College to attend the University of California, Santa Cruz, where he studied from January 1973 until June 1973. While living in Sata Cruz, petitioner lived in an apartment for which he paid $ 180 per month. Petitioner also spent approximately $ 4 per day on food. During weekends from January 26, 1973 through February 10, 1973, petitioner drove from Santa Cruz to San Francisco in an attempt to obtain work as a night engineer on ships docked in San Francisco. Once or twice during this period he visited Reno, Nevada. He obtained one night job during the weekend of February 9-10. From February 10, 1973 to April 2, 1973, petitioner received vacation pay from his union, the MEBA. From April 2, 1973 to June 1973, after petitioner exhausted his vacation benefits, he resumed driving to San Francisco each weekend in search of work as a night engineer. In June, upon completing his courses at the University of California, Santa Cruz, petitioner drove to Reno, Nevada, where he visited his father and did a little gambling. On June 25, 1973, petitioner signed on the ship Wyoming. He was discharged from the Wyoming on August 18, 1973, in San Francisco. After docking in San Francisco, 298 petitioner drove to New York and in September 1973, resumed his studies at State University of New York Maritime College. While attending school, petitioner went to New York City in an attempt to obtain weekend work as a night engineer on ships in New York ports. From September 1973 until the end of 1973, petitioner lived in an apartment in the Bronx for which he paid $ 100 per month. During this period he spent approximately $ 4 a day for food. In 1974, petitioner worked on ships from May 15 through June 28, and again from June 29 through July 10, 1974. He also continued his schooling in New York. During 1973 petitioner had a Nevada drivers license, his car was registered in Nevada, he listed Reno, Nevada, as his home address on his tax return, and he kept a few personal possessions in his father's mobile home outside of Reno. At no time has petitioner maintained a personal residence in Nevada. On his 1973 Federal income tax return, petitioner deducted $ 3,592.37 as an employee business expense consisting of meals and lodging while in California and New York; expenses of commuting between school and his apartment; and expenses of traveling between New York to his place299 of employment in California. Petitioner also deducted $ 641.68 in educational expenses. Respondent, in his notice of deficiency, disallowed all of petitioner's claimed employee business expenses, and petitioner's education expenses. At trial and on brief, respondent conceded that all of petitioner's educational expenses were deductible. Respondent has also conceded that petitioner's automobile expenses of driving from Santa Cruz, California, to San Francisco, California, in search of weekend employment, and petitioner's expenses of driving from Bronx, New York, to New York City, also in search of weekend employment were deductible employment seeking expenses. Finally, respondent has conceded that petitioner's cost of driving from California to the Bronx so that he could return to school was also a deductible expense. OPINION Section 162(a) (2) 1 allows a deduction for all ordinary and necessary business expenses including "traveling expenses * * * while away from home in the pursuit of a trade or business." The parties agree petitioner incurred traveling expenses -- consisting of meals and lodging in Santa Cruz, California, and Bronx, New York -- in pursuit of his trade or300 business as a marine engineer. The only issue we must decide is whether petitioner was away from home when he incurred these expenses. Petitioner alleges his tax home during 1973 was Reno, Nevada. As support for his contention petitioner points to several contacts he had with Reno in 1973: his father lived near Reno; petitioner visited Reno at least twice during 1973; he had a Nevada driver's license, and registered his car in Nevada; he kept a few possessions in his father's trailer in Reno; and he listed Reno, Nevada, as his home address on his 1973 Federal income tax return. Petitioner's contentions may be summarized as follows: in his trade or business a great deal of travel is involved, yet as petitioner phrased it, "you've got to be from some place * * you've got to have a home," and Reno, Nevada, was the city with which he had the most contacts in 1973. Consequently, petitioner claimed Reno, Nevada, as his tax home, and concluded that meals and lodging purchased elsewhere, in pursuit of his trade or business, were deductible. Respondent contends petitioner was an itinerant during 1973, 301 had no permanent tax home, and therefore was not entitled to deduct his meals and lodging in Santa Cruz, California, and Bronx, New York. For a taxpayer to deduct traveling expenses they must be reasonable and necessary, incurred while away from home, and incurred in pursuit of business. . Normally, a taxpayer's home is his principal place of business. If, however, he has no principal place of business, his tax home may be his residence. Cf. . A taxpayer without a primary place of business, and without a permanent residence may, however, be without a tax home from which he can be away. ; . In the case before us, petitioner had no principal place of business. He worked out of various ports in the United States, including New York, San Francisco, and New Orleans. Petitioner also had no permanent residence. He lived in Bronx, New York, and Santa Cruz, California. When not in either of these two cities, petitioner was302 either working on a ship or traveling. Although petitioner contends Reno, Nevada, was his residence during 1973, the facts do not support this contention. Petitioner never maintained an abode in Reno, he incurred no living expenses in Reno, and he only visited the area a few times, presumably to see his father. Having no duplicate living expenses, petitioner is hard-pressed to justify why we should allow him to deduct his meals and lodging in Santa Cruz, California, and Bronx, New York. See, e.g., . Because petitioner had no principal place of business and had no permanent residence, we conclude petitioner had no tax home during 1973 from which he could be away. Accordingly, he is not entitled to deduct his meals and lodging in Santa Cruz, California, or in Bronx, New York. To reflect respondent's concessions, 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/4621674/	THE CHRONICLE PUBLISHING COMPANY AND SUBSIDIARIES, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentChronicle Pub. Co. v. CommissionerDocket No. 18740-90United States Tax Court97 T.C. 445; 1991 U.S. Tax Ct. LEXIS 92; 97 T.C. No. 31; October 29, 1991, Filed 92 P is the publisher of a daily newspaper. During 1983 and 1984, P claimed a charitable deduction for the contribution of its newspaper clippings library to a sec. 170(c)(2), I.R.C., charitable organization. Held, the newspaper clippings library is property similar to a letter or memorandum which was prepared or produced for P and is excluded from the definition of a capital asset under sec. 1221(3), I.R.C.Robert C. Livsey, for the petitioner. Ann M. Murphy, for the respondent. TANNENWALD, Judge. TANNENWALD445 OPINION Respondent determined deficiencies in petitioner's 1983, 1984, and 1985 Federal income taxes in the following amounts: YearDeficiency1983$ 691,835.001984211,121.001985441,625.00The sole issue for decision is whether the newspaper clippings library (clippings library) contributed by petitioner to the California Historical Society, a section 170(c)(2)1 charitable organization, is ordinary income property under section 1221(3) and therefore subject to the limitation of section 170(e)(1)(A). This issue has been severed from other issues in the case and has been submitted to the Court under Rule 122. 93 446 All of the facts have been stipulated, and the stipulation of facts and attached exhibits are incorporated herein by reference. Petitioner's principal place of business is in San Francisco, California. Included within petitioner's numerous media-related interests is a daily newspaper, the San Francisco Chronicle (Chronicle). During 1983 and 1984, petitioner contributed its clippings library to the California Historical Society, a qualifying charitable organization under section 170(c)(2). The clippings library, which contained approximately 7,800,000 clippings, was compiled from all editions of the Chronicle newspaper dating as far back as 1906. Clippings collected prior to 1906 were destroyed in an earthquake. The library also contained materials from other newspapers, magazines, press releases, brochures, and unpublished materials. Non-Chronicle clippings and materials constituted approximately 20 percent of the library's total content. All clippings and other materials were mounted on a paper backing for protection and cataloged by subject matter in over 200,000 file envelopes which were arranged in alphabetical order. Most clippings were cataloged in several envelopes. 94 For example, a newspaper story covering an election would be filed under the particular election, the office, and the candidates' names. Access to clippings contained in the library was facilitated by a master-card file which listed all the envelopes alphabetically by subject matter. The Chronicle clippings library was open to the general public through the late 1960s, at which time physical access to the library was strictly limited to curtail the volume of public traffic and occasional loss of clippings. Physical access to the library continued to be available for persons demonstrating "significant research needs" such as authors, professors, graduate students, and journalists. At all times since the clippings library's inception, the library staff answered requests for information that could be obtained from information contained in the library, both over the phone and through written correspondence. In addition to public use of the library, Chronicle writers and reporters 447 utilized the clippings library to conduct research and to verify facts for Chronicle newspaper stories. In addition to the clippings library, petitioner has maintained a complete collection of the final95 editions of each daily paper published by the Chronicle dating back to 1865. This collection of final editions was at all relevant times located in a separate storage facility from that housing the clippings library and was not included in the contribution to the California Historical Society. The entire clippings library was reproduced on approximately 80,000 microfiche before the donation was made to the California Historical Society. This microfiche has been retained by the Chronicle. Petitioner expended in excess of $ 10 million creating the clippings library. These costs were deducted by petitioner as ordinary and necessary business expenses during the years petitioner operated the library. Petitioner's basis in the clippings library at the time of contribution was zero. Petitioner claimed a charitable deduction in respect of its contributions of the clippings library for the years 1983, 1984, and 1985 in the amounts $ 1,503,988, $ 458,957, and $ 891,873. Respondent, in a notice of deficiency dated May 31, 1990, disallowed the claimed deductions in their entirety. Section 170(a) allows a deduction for charitable contributions to organizations described in section 170(c)(2). 96 Where the charitable contribution consists of property other than money, the amount of the gift is governed by section 170(e)(1)(A), which provides as follows: (e) Certain Contributions of Ordinary Income And Capital Gain Property. -- (1) General Rule. -- The amount of any charitable contribution of property otherwise taken into account under this section shall be reduced by the sum of -- (A) the amount of gain which would not have been long-term capital gain if the property contributed had been sold by the taxpayer at its fair market value (determined at the time of such contribution), * * Thus, section 170(e)(1)(A) operates to limit any charitable contribution deduction for property, which if sold would produce ordinary income, to the taxpayer's cost or basis in 448 the contributed property. 2 Whether such limitation applies herein depends upon whether the clippings library falls within the category of assets encompassed by section 1221(3), which excludes the following properties from the definition of a capital asset: (3) a copyright, a literary, musical, or artistic composition, a letter or memorandum, or similar property, held by -- (A) a taxpayer whose personal97 efforts created such property, (B) in the case of a letter, memorandum, or similar property, a taxpayer for whom such property was prepared or produced, or (C) a taxpayer in whose hands the basis of such property is determined, for purposes of determining gain from a sale or exchange, in whole or part by reference to the basis of such property in the hands of a taxpayer described in subparagraph (A) or (B).Petitioner asserts that: (1) The clippings library is not an asset described in section 1221(3) and (2) even if it is such an asset, section 1221(3) does not apply to a corporate taxpayer. Respondent disputes both assertions. For the reasons hereinafter set forth, we disagree with petitioner and sustain respondent's determination that petitioner is not entitled to any deduction for its contribution 98 of the clippings library to the California Historical Society. We deal first with the question of the proper characterization of the clippings library. Clearly, it is not, in and of itself, a copyright, literary, musical, or artistic composition, and respondent does not argue that it is. Thus the characterization of the library depends upon whether it falls within the category of a "letter or memorandum, or similar property." The regulations state that the phrase "similar property": includes, for example, such property as a draft of a speech, a manuscript, a research paper, an oral recording, a transcript of an oral interview or of dictation, a personal or business diary, a log or journal, a corporate archive, including a corporate charter, office correspondence, a financial record, a drawing, a photograph, or a dispatch. A letter, memorandum, or property similar to a letter or memorandum, addressed to a taxpayer shall be considered as prepared or produced for him. * * * [Sec. 1.1221-1(c)(2), Income Tax Regs.]449 On two previous occasions, we have considered and sustained the foregoing regulation, albeit in somewhat different factual settings. Thus, in Glen v. Commissioner, 79 T.C. 208">79 T.C. 208 (1982),99 we held that tapes of interviews conducted by the taxpayer constituted "similar property" because they fell within the characterization of "an oral recording" set forth in the regulation. See 79 T.C. at 214. Similarly, in Morrison v. Commissioner, 71 T.C. 683">71 T.C. 683 (1979), affd. per curiam 611 F.2d 98">611 F.2d 98 (5th Cir. 1980), we held that letters, copies of letters to or from a taxpayer and third person, and memoranda dealing with problems associated with his service as a Congressman fell within the proscription of section 1221(3) and the foregoing regulation.3The parties have focused their arguments primarily on the categories of "corporate archive," "log or journal" or "office correspondence" embodied in the regulation. 4 Petitioner seeks to confine the meaning of the phrase "corporate archive" to corporate records such as minutes, financial statements, and possibly a chronological file of the100 newspaper and points to the fact that such a file is separately maintained. "Archive" is defined in Webster's Third New International Dictionary (1981) as follows: 1 * * a: a place in which public or institutional records (as minutes, correspondence, reports, accounts) are systematically preserved b: a respository for any documents or other materials esp. of historical value (as diaries, photographs, private correspondence) * * * c: any repository or collection esp. of information * * * 2:public or institutional records, historic documents and other materials that have been preserved. * * * [Emphasis added.]While the first101 category of this definition is limited as petitioner suggests, there is no such limitation in the remaining portions of the definition nor is there any indication that the definition is limited to materials presented in chronological sequence or that an institution can have only one form of archive. Clearly, the clippings library is a "collection of information" as well as an "institutional record" that has been preserved. Furthermore, we think it 450 significant that "archive" is considered to include "library." See Webster's New Dictionary of Synonyms (1968). Our examination of the legislative history, which we discuss in another context, see infra page 10-11, reveals nothing which would cause us to conclude that the use of the word "archive" in the regulation constitutes an unwarranted extension of section 1221(3)(B) nor does petitioner advance any such contention. We are satisfied that copies of petitioner's newspaper maintained in topical, as well as chronological, form fall within the scope of the ordinary meaning of "archive." We also note that the phrase "similar property" is not limited in any way by the statute and that the regulations state that the specific categories102 set forth therein are merely examples of some types of materials which are included within this phrase. 5We now turn to petitioner's second argument, namely, that section 1221(3) does not apply to corporations. Petitioner's argument rests almost entirely on the fact that the legislative history of section 1221(3) and its predecessor section 117(a)(1)(C) of the Internal Revenue Code of 1939, added by section 210(a) of the Revenue Act of 1950, ch. 994, tit. II, 64 Stat. 932, speaks of individuals and does not once mention a corporation as falling within the "taxpayer" category. Concededly, the objective of these statutory provisions was to insure that individuals who disposed of the product of their personal efforts should be treated as having realized ordinary income and not capital gain. This objective is clearly revealed by the legislative history of section 514(a) of 103 the Tax Reform Act of 1969, Pub. L. 91-172, 83 Stat. 643, which amended section 1221(3) to exclude a letter, memorandum, or similar property whether held by the taxpayer whose personal efforts created such property or a taxpayer for whom such property was prepared or produced. The report of the House Ways and Means Committee dealing with this amendment reveals its thrust as well as the thrust of the earlier provision: Present law. -- Under present law, copyrights and literary, musical or artistic compositions (or similar property) are not treated as capital 451 assets if they are held by the person whose personal efforts created the property (or by a person who acquired the property as a gift from the person who created it). Thus, any gain arising from the sale of such a book, artistic work or similar property is treated as ordinary income, rather than as capital gain. Collections of papers and letters prepared and collected by an individual (including papers prepared for the individual), however, are treated as capital assets. Therefore, a gain from the sale of papers of this nature is treated as a capital gain, rather than as ordinary income.General reasons 104 for change. -- * * * Your committee believes that collections of papers and letters are essentially similar to a literary or artistic composition which is created by the personal effort of the taxpayer and should be classified for purposes of the tax law in the same manner. In the one case, a person who writes a book and then sells it is treated as receiving ordinary income on the sale of the product of his personal efforts (i.e., compensation for personal services rendered). On the other hand, one who sells a paper or memorandum written by or for him is treated as receiving capital gain on the sale, even though the product he is selling is, in effect, the result of his personal efforts. Explanation of provision. -- Your committee's bill provides that letters, memorandums, and similar property (or collections thereof) are not to be treated as capital assets, if they are held by a taxpayer whose personal efforts created the property or for whom the property was prepared or produced (or by a person who received the property as a gift from such taxpayer). For this purpose, letters and memorandums addressed to an individual are considered as prepared for105 him. Gains from the sale of these letters and memorandums, accordingly, are to be taxed as ordinary income, rather than as capital gains. [H. Rept. 91-413 (Part I) (1969), 3 C.B. 200">1969-3 C.B. 200, 293; emphasis added.]The report of the Senate Finance Committee contains almost identical language. S. Rept. 91-552 (1969), 3 C.B. 423">1969-3 C.B. 423, 549. See also Staff of Joint Comm. on Taxation, General Explanation of the Tax Reform Act of 1969, at 171 (Comm. Print 1970). 6We are not disposed to adopt petitioner's position. The structure and language of section 1221(3), see supra page 6, belies any such restrictive interpretation. Thus, subparagraph (A) is clearly limited to a taxpayer 106 "whose personal efforts created such property." However, subparagraph (B) is not so limited and equally clearly covers a taxpayer who did not create the property. Similarly, 452 subparagraph (C) is also not limited, covering any taxpayer whose basis is determined by reference to the basis of the property in the hands of a taxpayer described in subparagraph (A) or (B). In light of the foregoing and the fact that the word "taxpayer" is broadly defined by section 7701(a)(14) as "any person subject to any internal revenue tax" and "person" is defined by section 7701(a)(1) to include a corporation, we have no hesitancy in concluding that petitioner's corporate status does not preclude it from being covered by section 1221(3). Petitioner makes no claim that the 20 percent of the materials derived from non-Chronicle sources should be treated differently from the materials prepared for petitioner by its staff. Nor has petitioner sought to avoid the impact of section 1221(3) by arguing that its newspaper and therefore the clippings library represented the product of a business enterprise in its totality because it was derived from personal efforts (for which full value was paid and also from107 other elements not involving personal efforts -- an argument as to which we express no opinion). Cf. Rev. Rul. 55-706, 2 C.B. 300">1955-2 C.B. 300, superseded by Rev. Rul. 62-141, 2 C.B. 182">1962-2 C.B. 182, and the comment thereon in Priv. Ltr. Rul. 8042121 (July 25, 1980). See also Commissioner v. Ferrer, 304 F.2d 125">304 F.2d 125, 132 (2d Cir. 1962), revg. in part and remanding on other grounds 35 T.C. 617">35 T.C. 617 (1961). It may well be that a library of the clippings of a newspaper's articles in the hands of the publisher of the newspaper ought not to be included within the scope of section 1221(3) and ought to be considered a capital asset. But this involves a question of policy and is not for us to decide given the ordinary meaning of the language used in section 1221(3)(B). Cf. Hanover Bank v. Commissioner, 369 U.S. 672">369 U.S. 672, 687, 8 L. Ed. 2d 187">8 L. Ed. 2d 187, 82 S. Ct. 1080">82 S. Ct. 1080 (1962); Kern Co. Electrical Pension Fund v. Commissioner, 96 T.C. 845">96 T.C. 845, 853 (1991), on appeal (9th Cir., Aug. 16, 1991). We conclude that, by virtue of section 1221(3)(B) and the regulation thereunder (see supra pages 6 and 7), the clippings library was not 108 a capital asset and that, consequently, section 170(e) prevents petitioner from obtaining a charitable 453 deduction for its contribution to the California Historical Society. An appropriate order will be issued.Footnotes1. All statutory references are to the Internal Revenue Code as amended and in effect for the years in issue, and all Rule references are to the Tax Court Rules of Practice and Procedure.↩2. The parties agree that if the limitation of sec. 170(e)(1)(A)↩ applies, petitioner is not entitled to the claimed charitable contribution for any of the years at issue in respect of the clippings library.3. See also Forrer v. Commissioner, T.C. Memo. 1981-418↩.4. This focus finds expression in Technical Advice Memorandum 9037001 (April 30, 1990), in which a newspaper morgue was considered to be "similar property" within the meaning of sec. 1221(3). We note that a Technical Advice Memorandum has no precedential value. Sec. 6110 (j)(3); Estate of Jalkut v. Commissioner, 96 T.C. 675">96 T.C. 675, 684↩ (1991).5. Our analysis renders unnecessary any discussion of the possible application of the categories "log or journal" or "office correspondence."↩6. The pertinent legislative history of sec. 210(a) of the Revenue Act of 1950 is set forth in H. Rept. 2319, 81st Cong., 2d Sess. 54, 92-93 (1950); S. Rept. 2375, 81st Cong., 2d Sess. 83-85 (1950); Staff of Joint Comm. on Taxation, Summary of H.R. 8920, "The Revenue Act of 1950," at 15 (Sept. 1950).↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621677/	RICHARD J. BORCHERS and JANE E. BORCHERS, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentBorchers v. CommissionerDocket No. 3576-86.United States Tax CourtT.C. Memo 1988-349; 1988 Tax Ct. Memo LEXIS 374; 55 T.C.M. (CCH) 1469; T.C.M. (RIA) 88349; August 4, 1988Bernie H. Beaver, for the petitioners. Gail K. Gibson, for the respondent. RAUMMEMORANDUM OPINION RAUM, Judge: The Commissioner determined a $ 13,322 deficiency in the 1982 income tax of petitioners, husband and wife. The issue before us is whether they are entitled to an investment tax credit under section 38, I.R.C. 1954, with respect to computer equipment leased by the husband (petitioner) to their wholly owned corporation. The case was submitted on the basis of a stipulation of facts and attached exhibits. At the time the petition herein was filed, petitioners resided in Minnesota. During 1982 petitioner owned 90375 percent of the stock of Decision Systems, Inc. (hereinafter sometimes referred to as Decision or Decision Systems or the corporation), and his wife owned the remaining 10 percent of the stock. He was its president, with a salary of $ 169,400, and she was its secretary, with a salary of $ 5,000. They were its only officers. Both were directors. Decision Systems was incorporated in Minnesota in 1974, and is engaged in the business of providing a variety of computer related services. In 1982, it reported $ 115,313 taxable income. In 1982, petitioner leased computer equipment to Decision Systems. He leased only to that corporation in 1982. Lease payments made to him by Decision in that year amounted to $ 49,299. 1A portion of the equipment leased to Decision in 1982 had been purchased by petitioner in 1982. Other pieces leased to Decision that year had been purchased by petitioner before 1982. However, the issue before us, petitioner's entitlement to an376 investment tax credit, relates only to the computer equipment purchased by petitioner and then leased to Decision in 1982. In 1982 petitioner purchased the following used equipment for $ 124,968 which it then leased to Decision: LeaseEquipmentCostDateIBM Key/Diskette$ 3,0004-1-82 Three Teleray 10 N CRT3,8914-1-82 Two Honeywell Disk Drives9,9004-1-82 Alpha L62 CPU38,9909-15-82 DPS 16 & Printer43,18712-15-822-390 Disk Drives26,00012-28-82$ 124,968The parties agree for the purpose of this case that the useful life of the foregoing equipment was not less than three years. On brief, petitioner contends and the Government concedes that the useful life of the property is six years. 2 On his 1982 return, petitioner claimed an investment tax credit in the amount of $ 12,497 in respect of the above equipment. The following pieces of equipment were first leased by petitioner to Decision in 1981 and then were re-leased to it in 1982: OriginalLeaseRe-leaseEquipmentCostDateDateNorth Star MicroProcessor$ 6,540.756-11-81 7-12-82 HIS Computer System29,000.006-11-81 7-12-82 Four Telerays; Oneprinter7,288.0012-23-8112-23-82Four IBM 374212,200.0012-23-8112-23-82One ECRM, Scanner16,500.0012-23-8112-23-82$ 71,528.75377 All of the equipment purchased in 1982 and originally leased to Decision in 1982 was leased again to it on the same date one year later in 1983. Of the equipment which was first leased in 1981 and re-leased in 1982, the pieces which were leased again in 1983 are listed below: Original1983LeaseLeaseEquipmentDateDateNorth Star Micro Processor6-11-817-12-83HIS Computer System6-11-817-12-83In all cases in which equipment was re-leased, the rental fee required under the new lease was not the same as that in the original lease. The 1981, 1982, and 1983 equipment leases were all effectuated by the execution of form lease documents. These form leases allowed for the insertion of a description of the property leased, its "total cost" to the lessor, the "term in months" of the lease, the periodic rental required, the "number of installments" covered by the lease, and the "total rent" due under the lease. In each of the leases executed in 1981, 1982, and 1983 the "term in months" indicated was 12 months. The leases did not include provisions governing renewal thereof. The standard contact language of the form leases provided that378 "Title to the equipment shall at all times remain in Lessor". It further provided that the "Lessee * * * shall protect and defend the title of Lessor". In addition, the lessee was obligated to "promptly pay when due all sales, use, property, excise and other taxes and all license and registration fees". It was also obligated to "maintain the Equipment in good repair, condition and working order * * * at its expense" and to maintain insurance on the equipment. Moreover, if the equipment was "lost, stolen, destroyed, damaged beyond repair or rendered permanently unfit", on payment of certain amounts to the lessor, the equipment would "become the property of Lessee". Each lease described itself as "a completely net lease" in which the "Lessee's obligation to pay the rent and other amounts payable by Lessee hereunder is unconditional". In the leases, the "Lessor makes no warranty with respect to the equipment" and the "Lessee agrees to make the rental and other payments required hereunder without regard to the condition of the Equipment and to look only to persons other than Lessor * * * should any item of equipment for any reason be defective". Although in each lease a specific379 rental payment was inserted into the space therefor in the form document, the standard language of the lease made provision for the adjustment of that amount under certain conditions. It provided that: If the actual cost of the Equipment is more or less than the Total Cost as shown above, the amount of each installment of rent will be adjusted up or down to provide the same yield to Lessor as would have been obtained if the actual cost had been the same as the Total Cost. Adjustments of 10% or less may be made by written notice from Lessor to Lessee. Adjustments of more than 10% shall be made by the execution of a new lease reflecting the change in Total Cost and rent but otherwise being the same as this lease. Also during 1982 petitioner sold computer equipment, receiving $ 14,000 therefor. Of this $ 14,000 sold in 1982, $ 7,500 was sold to Extendicom, a company in Indianapolis, after having been placed on consignment in 1981. The record does not disclose either the purchaser of the remaining $ 6,500 equipment, or when or at what cost petitioner had acquired any of the $ 14,000 equipment or whether any of it had ever been leased to petitioner's corporation. On Form 3468, 380 "Computation of Investment Credit", filed with petitioners' 1982 Federal income tax return, a $ 12,497 "investment credit" was claimed with respect to the $ 124,968 computer equipment purchased in 1982. The Commissioner disallowed the credit "because it has not been established that the lease term entered into between you and Decision Systems, Inc. was for less than one-half the useful life of the equipment as required under section 46(e) of the Internal revenue Code". Section 46(e), headed "Limitations with Respect to Certain Persons", provides in pertinent part that: (3) Noncorporate lessors. -- A credit shall be allowed by section 38 to a person which is not a corporation with respect to property of which such person is the lessor only if -- * * * (B) the term of the lease (taking into account options to renew) is less than 50 percent of the useful life of the property, and for the period consisting of the first 12 months after the date on which the property is transferred to the lessee the sum of the deductions with respect to such property which are allowable to the lessor solely by reason of section 162 (other than rents and reimbursed amounts with respect to381 such property) exceeds 15 percent of the rental income produced by such property. [Emphasis supplied.]The parties have stipulated that the latter of the two conditions contained in subparagraph (B) is satisfied, i.e., that "the deductions * * [to petitioner] by reason of section 162 exceeded 15% of the rental income produced by such property during the first 12 months after the date of transfer of the equipment to the lessee, Decision Systems, Inc." Thus, the question presented to us is whether under section 46(e)(3)(B), I.R.C. 1954, "the term of the lease (taking into account options to renew) is less than 50 percent of the useful life of the property". The leases before us provide, on their face, for 12-month lease terms with no provision for renewal. These terms are clearly less than 50 percent of the six year useful life of the computer equipment leased. The Government does not dispute that the literal terms of the 12-month leases cover less than half of the equipment's life, but, instead, argues that the leases were really for an indefinite term. In deciding whether a lease is of indefinite duration or limited to the definite term specified in the lease, all382 the facts and circumstances are considered. Owen v. Commissioner,T.C. Memo. 1987-375; Harvey v. Commissioner, T.C. Memo. 1986-38l; Sanders v. Commissioner,T.C. Memo. 1984-511, affd. without published opinion 770 F.2d 174">770 F.2d 174 (11th Cir. 1985). See G. W. Van Keppel Co. v. Commissioner,295 F.2d 767">295 F.2d 767, 77l (8th Cir. 1961); Highland Hills Swimming Club, Inc. v. Wiseman,272 F.2d 176">272 F.2d 176, 179 (10th Cir. 1959); Buddy Schoellkopf Products, Inc. v. Commissioner,65 T.C. 640">65 T.C. 640, 656 (1975) (dealing with the same factual issue in the context of the determination whether depreciation is to be taken over the lease term or over the useful life of an improvement to leased property). The duration of the lease is decided based on the "'realistic contemplation' of the parties at the time the lease was entered into". Harvey v. Commissioner,T.C. Memo. 1986-381, quoting Hokanson v. Commissioner,730 F.2d 1245">730 F.2d 1245, 1248 (9th Cir. 1984), affg. a Memorandum Opinion of this Court. Consequently, if it appears that the substance of the transaction is that the lessee will383 continue leasing the property beyond the period stated in the lease, then the specified lease term is disregarded and the lease is considered to be of indefinite length. Harvey v. Commissioner,T.C. Memo. 1986-381; Sanders v. Commissioner,T.C. Memo. 1984-511; Peterson v. Commissioner,T.C. Memo. 1982-442; See G. W. Van Keppel Co. v. Commissioner,295 F.2d at 771. The types of facts and circumstances which have in the past aided us in determining whether a lease term was indefinite are as follows: (1) an established practice on the part of the lessor of buying equipment for lease in order to meet the special needs of the lessee ( Connor v. Commissioner,T.C. Memo. 1987-224, affd. 847 F.2d 985">847 F.2d 985 (1st Cir. 1988): Harvey v. Commissioner,T.C. Memo. 1986-381; Sanders v. Commissioner,T.C. Memo. 1984-511; Peterson v. Commissioner,T.C. Memo 1982-442">T.C. Memo. 1982-442); (2) the lessor has control of the lessee (Harvey v. Commissioner, supra; Peterson v. Commissioner, supra); (3) the lessor leased only to the controlled lessee (Harvey v.384 Commissioner, supra; Sanders v. Commissioner, supra); (4) the lessee leased only from the lessor ( Sanders v. Commissioner, supra;Peterson v. Commissioner, supra); (5) the leases were renewed either automatically or without renegotiation ( Sanders v. Commissioner, supra); (6) the equipment was sold once the lessee no longer needed it ( Sanders v. Commissioner, supra); (7) the purpose of the leasing arrangement was tax avoidance ( Sanders v. Commissioner, supra;Peterson v. Commissioner, supra); and (8) the leasing was a "financing arrangement" (Harvey v. Commissioner, supra). In a recent Court-reviewed case, Sauey v. Commissioner,90 T.C. 824">90 T.C. 824 (1988), on the facts before it in a stipulated record, the Court thought that the stipulated facts, involving a lease by an individual to his solely controlled corporation, were insufficient to establish that the lease was in fact for an indefinite period. In a strong dissent, five judges disagreed with the majority opinion. The majority opinion regarded it as incumbent upon the Commissioner to present evident385 (beyond what appeared in the stipulation) to support his position that the term of the lease was really indefinite. The posture of the present case, also submitted on the basis of a stipulated record, is comparable to that in Sauey,3 and, under the compulsion of that case, we must hold for petitioner. Decision will be entered under Rule 155.Footnotes1. Only $ 47,649 lease payments were reported on petitioner's 1982 return. Petitioner has not challenged the Commissioner's adjustment in his notice of deficiency increasing petitioner's lease income by $ 1,650. ↩2. Petitioner, however, listed the $ 124,968 equipment purchased in 1982 as "5 yr property" for the purpose of depreciation. ↩3. As was noted in Sauey v. Commissioner,90 T.C. 824">90 T.C. 824, 830 n. 4 (1988), the result reached therein is supported by McNamara v. Commissioner,827 F.2d 168">827 F.2d 168, 172 (7th Cir. 1987). However, the First Circuit has since rejected McNamara in Connor v. Commissioner,847 F.2d 985">847 F.2d 985↩ (1st Cir. 1988).	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621678/	R. GOLDEN DONALDSON, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Donaldson v. CommissionerDocket No. 30943.United States Board of Tax Appeals18 B.T.A. 230; 1929 BTA LEXIS 2092; November 18, 1929, Promulgated 2092 Certain amounts determined and allowed as ordinary and necessary expenses, the amounts being expenses of an individual in the operation of an automobile in connection with his business. Jesse I. Miller, Esq., for the petitioner. C. H. Curl, Esq., for the respondent. MURDOCK 231 For the years 1923 and 1924 the Commissioner determined deficiencies in the petitioner's income tax of $3,957.52 and $2,207.44, respectively. The only issue relates to certain deductions claimed by the petitioner as expenses incident to the maintenance and operation of an automobile in his business. FINDINGS OF FACT. The petitioner is an individual who resides in Washington, D.C. During the taxable years he was president of the Commercial National Bank, chairman of the board of directors of the Mount Vernon Savings Bank, vice president of the District Securities Co. and a member of the law firm of Donaldson & Johnson, which also did a general brokerage business in the way of securing large loans on real estate. During these years the petitioner owned two automobiles, one of which was used by the members of his family and by him for purposes not connected2093 with his business. The other he had for his exclusive use for trips in connection with his business. He suffered from arthritis and he found it necessary to have a car always available to him during his business day. He had an office in the same building with the Commercial National Bank, and when his car was not in use it stood in front of this building. In the course f a day the petitioner usually had to make several trips to the Mount Vernon Savings Bank and several trips to inspect various pieces of property in various parts of the city in connection with loans to be made either by one of the banks in which he was interested or by clients of his law firm. In making these trips he used his business car with the chauffeur and it was for the purpose of making these trips as expeditiously as possible that he maintained the business car and chauffeur. He employed a chauffeur for each car. The chauffeur for the business car during the taxable years was paid a salary of at least $125 a month for the 24 months here involved. Storage charges on this car for each year amounted to $360. At least $1,860 (the yearly total of the above two items) was paid by the petitioner in each2094 of the taxable years in connection with the operation of his business automobile and such payments were ordinary and necessary expenses paid during the taxable years in carrying on his business. The Commissioner did not allow any deductions for automobile expenses for either of the years involved. OPINION. MURDOCK: The petitioner, when asked on cross-examination whether during the taxable years he or any member of his family 232 had ever used his business car for some purpose not connected with his business, admitted that it was possible that one or two such short trips might have been made in the car in each year, but from the evidence as a whole we are satisfied that any such use was so inconsequential as to require no further consideration in this case. The petitioner also admitted that in the morning he rode in the car from his residence to his place of business and made the return trip at night. This Board has held that where an automobile is used for such purposes, the expenses incident thereto are not ordinary and necessary expenses of a trade or business. However, the present case is distinguished from those cases by the fact that here it so happens that the2095 petitioner's automobile was stored in a public garage close to his residence, which garage was not a great distance from the petitioner's place of business, and in riding to and from his place of business he did not thereby increase the amount of the expenses of the automobile which he otherwise would have been entitled to deduct. Cf. . He undoubtedly had additional expenses, the amount of which he would be entitled to deduct, and he would also be entitled to deduct some amount for depreciation on this automobile, but from the evidence we are unable to determine the amount of the additional expenses or a proper allowance for depreciation of the automobile. Judgment will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/1170453/	123 Utah 172 (1953) 256 P.2d 706 GIBBONS & REED CO. v. GUTHRIE et al. No. 7850. Supreme Court of Utah. Decided May 7, 1953. Grover A. Giles, Salt Lake City, for appellant. Clyde & Mecham, Salt Lake City, for respondent. 173 WADE, Justice. Gibbons & Reed Company, respondent herein, filed suit against S.Y. Guthrie, Adam K. Grafe and Robert I. Ludwig to recover for monies expended under an oral agreement to do exploratory work on certain uranium mining claims for them and to furnish the equipment and personnel for the project. By their answer defendants admitted the oral agreement but sought to avoid liability on the ground of substantial non-performance by respondent and counterclaimed for damages because of respondent's failure to supply usable equipment and parts resulting in failure to perform in accordance with a written report or estimate of costs submitted by respondent to appellants thereby necessitating 174 the termination of the contract and doing the work themselves. At the trial the action against Robert I. Ludwig was dismissed upon its being made to appear that he was not a partner but only an agent of Guthrie, Grafe and Bates and Son. Bates and Son were substituted as parties to the action but were not served with summons, so that only Guthrie and Grafe appeal from the judgment in favor of respondent and a dismissal of their counterclaim. The court as the trier of the facts found that respondent had bona fidely fulfilled its part of the agreement which was to supply heavy duty equipment, assume the payment of labor and other costs and do the preliminary and exploratory work necessary to start uranium mining, such as building certain roads and trails, establishing a camp for workmen and removing overburden but that appellants had refused to reimburse them for the expenses incurred in the performance of its agreement. Appellants contend that the court erred in making these findings of fact and its conclusions of law because the evidence is conclusive that respondent had failed to supply good, workable equipment and had failed to perform more than 10% of the work it had agreed to do after half the time in which the work was to be completed had elapsed, so that it became apparent that unless appellants took over the work themselves it would never be completed in time. It needs no citation of authority that this court will not redetermine facts found by the fact finder in the lower court in law cases if in the light most favorable to the respondent the evidence is sufficient to sustain such findings. The record discloses that about February 8, 1951, appellants were negotiating with a lessee of some uranium mining claims in the Henry Mountain area in Garfield County, Utah, for the possession of such claims but before they 175 committed themselves they wanted more information about the people with whom they were dealing and whether there would be sufficient ore to make it feasible for them to enter into the deal. Appellants, being non-residents of this state and having previously had some business dealings with respondent, called upon it to aid them in their investigation. Appellants allowed respondent to believe that if the project proved worthwhile they would construct an ore processing mill in Green River, Utah, which might result in some profitable work for respondent. Respondent was anxious to get in a favorable position to get the work which might eventuate and therefore cooperated to the fullest extent in investigating the people and the project and offered to provide equipment and do the necessary preliminary and exploratory work on the claims so that appellants could get the desired information. Appellants had advised respondent that they had an option until April 15, 1951 and would need the information by that time in order to determine whether or not they would exercise the option to mine the claims. After several discussions respondent on February 8th submitted a written estimate of costs at the request of the appellants, wherein it was set forth what they thought should be the type of work done, the amounts it would probably cost for equipment, labor and other items for a 60-day operation and which also contained the following statements: "The number of days the operation is continued is, of course, your option. The estimated performance for the three operations is: (1) Four 20-ft. deep holes drilled and checked per day, (2) Four 6-ft. deep holes stripped per day, and (3) One ton of material drilled, shot and moved per man per day. "The prices quoted above are our costs and are offered to help you determine the expediency of further work in the district at a minimum cost. If we can be of any assistance at any time please call on us." Upon receipt of this estimate by appellants they told respondent to proceed with the work. Appellants told respondent 176 a Mr. Harold Ecker should be in charge of the operation and respondent thereupon employed Mr. Ecker and he hired the other workmen with the exception of an engineer sent by appellants and a heavy equipment mechanic and operator sent by respondent. Work was begun by Mr. Ecker on February 9th although delivery of the heavy equipment was delayed until February 25th due to a threat of a trespass action by the lessee of the claims until a written agreement had been concluded between the lessee and appellants. After the equipment arrived the work of building roads, drilling test holes, stripping overburden, etc., progressed. Occasionally the equipment would break down and if parts were needed it was necessary to send to Salt Lake City for them. Respondent besides furnishing the equipment paid for all the labor, material, supplies and others costs of the project. On March 12th the appellants visited the claims and upon finding the heavy duty caterpillar broken down, the compressor out of order and only about 11 holes with an aggregate of about 250 feet drilled, decided to discontinue using respondent's services and equipment and took the job over themselves as of March 18th. Appellants retained all the men working on the project except the heavy duty mechanic and operator originally hired by respondent. Appellants exercised their option to mine the claims on April 15th, even though they did not get any heavy equipment on the job until April 8th and very little work was done from the time respondent was relieved of its responsibilities and the date they exercised their option. It also appeared that in the week between April 8th and 15th, appellants' equipment broke down several times, thus delaying work, and that such breakdowns are not unusual in that type of work. Since appellants by their pleadings and also in their testimony admitted that respondent's work was done under an oral agreement to do sufficient preliminary and exploratory *177 work to enable appellants to decide whether it would be feasible to take up their option and the writing submitted by respondent on February 8th was merely an estimate of the kind of work respondent thought would be necessary and the costs of same for a 60-day period and not the agreement for work to be done, and since in half the allotted time with very little more additional work enough had been done by respondent so that appellants were able to determine that they wanted to exercise their option, which was the object of the agreement, and since admittedly they did not pay respondent for the rental of the equipment and costs the evidence was more than sufficient to sustain the findings of fact and conclusions of law. Appellants contend that the judgment may include an item for $300 or $400 for airplane rides charged by respondents but which the trial court had indicated were not allowable. Respondent's evidence showed that appellants were charged with the sum of $15,383.82 for all items, including the charges for the airplane rides and other disputed items. The disputed items totaled less than $2,500 and the court awarded damages in the sum of $12,356.75. From this it is reasonable to assume that the court did not include charges for airplane rides as part of the damages. We have carefully considered all of appellants' other assignments of error and find no merit to them. Affirmed. Costs to respondents. WOLFE, C.J., and McDONOUGH, CROCKETT and HENRIOD, JJ., concur.	01-04-2023	10-30-2013
https://www.courtlistener.com/api/rest/v3/opinions/4475137/	OPINION. Arnold, Judge: Immediately prior to December 20,1943, the Lester Lumber Co. had authorized common capital stock of 5,000 shares, par value $100 each, of which 3,029 were outstanding and 1,971 were unissued, and it had a surplus of at least $94,268.54. The stock was held by 15 individuals, each of whom had an open account on the corporation’s books. As of December 20, 1943, there was credited to each stockholder’s account a 4 per cent dividend on his stock, interest on his credit balance at 6 per cent, and a share of the surplus, and, in some cases, an amount representing a gift from George T. Lester, Sr. Each account was charged with the par value of a part of the previously unissued stock then issued and allotted to these stockholders. Except for 30 shares issued to Victor Lester for his note, the entire 1,971 shares were issued and charged to the several accounts at par value. The individual petitioners contend that, to the extent of the surplus, this was a nontaxable stock dividend, the balance of the stock issued being purchased for cash. Eespondent contends that the crediting of the surplus to the stockholders was equivalent to a cash dividend and the 1,971 shares were all sold for cash. Eespondent relies upon the wording of the minutes of the meeting of the stockholders of December 20, 1943, to the effect that “all stock was bought by stockholders, increasing capital stock of Company to $500,000, all common stock. * * * The stock was all sold for cash to give the corporation more working capital.” Eespondent also points out that the surplus was credited to the stockholders’ open accounts and the stock was charged to such accounts without distinction as to what portion of the credit balance applied to the stock represented interest, wages, gifts, dividends, or surplus, and that there was ¡no declaration of a stock dividend. Eespondent argues that from the moment the surplus was credited to the stockholders it became their property; that each stockholder understood the corporation’s capital stock was to be increased and each stockholder’s account was to be charged with the par value; and that by leaving his share of the surplus in the account he had the benefit of offsetting against the stock the amount of the dividend constructively paid to, and received by, him. The individual petitioners introduced testimony to the effect that the stockholders agreed to have the corporation issue at par the remaining authorized stock, 1,971 shares, for the pro rata share of each stockholder in the surplus and other amounts to their credit on the books. The purpose, it was said, was to put the corporation in a better credit position by tying up the surplus in capital so it could not be withdrawn and by reducing the credit balances of the stockholders on which the corporation had been paying interest at 6 per cent. The witnesses said that, although generally the stockholders could draw upon their accounts at any time, the credits for surplus were not subject to withdrawal, as they were intended to be applied against the charges for new stock, and that none of the stockholders received, or could receive, cash for his share of the surplus. George T. Lester, Jr., testified also that he personally made the entries in the ledger accounts of the stockholders, posting the various credits and the debit for issued stock at the same time, and the stockholders at no time had the opportunity to draw upon their accounts for the credits entered as their shares of the surplus. Petitioners introduced as an exhibit a list of the stockholders, showing as to each the number of shares held prior to December 20, 1943, the distribution of surplus credited to his account on the books, and the face value of the new shares charged to his account, as shown in our findings of fact. The debit for new stock exceeded the credit for surplus in all cases except one. In that case George T. Lester Sr., received a credit for $6,317.77 of the surplus and was charged with $2,700 as the par value of the new stock issued to him. Why he did not receive stock to the full extent of his credit for surplus is not explained. We have pointed out the necessity of a declaration as requisite to a finding of a nontaxable stock dividend. J. Weingarten, Inc., 44 B. T. A. 798; Humphreys Manufacturing Co., 45 B. T. A. 114. Here we have no declaration, unless the understanding of the stockholders related by the witnesses will serve the purpose. There was no resolution of the board of directors on this subject, and under the Virginia Code (1919), sec. 3840, the directors have the sole power to declare dividends unless otherwise provided by the certificate of incorporation. The exact terms of the arrangement are left to conjecture, and upon the critical point, whether the stockholders, or any of them, could elect to receive cash, the petitioners’ own exhibit contradicts the oral testimony. Compare the two distributions involved in Southeastern Finance Co., 4 T. C. 1069, pp. 1090-1091. We have held in several cases that an agreement among stockholders to distribute surplus and use it to purchase stock is a private arrangement, is not imputed to or binding upon the corporation, and does not amount to a declaration of a nontaxable stock dividend, Eugene E. Paul, 2 B. T. A. 150; W. J. Hunt, 5 B. T. A. 356; Harry Mahranshy, 35 B. T. A. 395; F. Brody & Sons Co., 11 T. C. 298. There being no record of a resolution of the board of directors authorizing a stock dividend, we are unable to make a finding that such a dividend was declared. However, even if the individual petitioners’ oral testimony is accepted as satisfying the requirement that a stock dividend was declared, the evidence does not justify the conclusion that the issuance of stock for the surplus was a nontaxable distribution. The individual petitioners’ case depends upon the premise that the credits made for surplus to the accounts of the stockholders were not subject to withdrawal, but were required to be applied to the stock issued to capitalize this surplus. It is clear that the crediting of the surplus to the individual accounts would be a taxable dividend if there had been no concurrent issue of stock. Likewise, if all the stockholders had an election to take their shares in cash or in stock, the distribution would be taxable. While the individual petitioners contend they had no such election, the facts contradict this. George T. Lester, Sr., was entitled to a pro rata credit of $8,558.55 of the surplus. The amount credited to his account was $6,317.77, the difference representing a gift by him to his son, George W. Lester, to enable the latter to acquire more stock. Only $2,700 was charged to George, Sr.’s, account for new stock, and $3,617.77 remained to his credit and no more stock was available to absorb it. This balance was at his disposal and could be drawn in cash. The proportionate interest of each stockholder in voting power and net worth was thereby changed. Harry Makransky, supra. This stockholder exercised dominion and control over his pro rata share of the surplus, giving part of it to a son, using part to acquire stock, and retaining part as an open credit available for his use. If one stockholder had the right to dispose of his share of the surplus as he saw fit, all the stockholders had this right, as a corporation can not discriminate between stockholders as to their rights in a distribution of profits. Fletcher on Corporations, § 5352. The corporation could not authorize a cash dividend to one stockholder and a stock dividend to others. See Harry Makransky, supra. This is consistent with the minutes of the stockholders’ meeting, which state the stock was all sold for cash. Lack of cash, suggested by the witnesses as a reason for denying the existence of such a choice on the part of the stockholders, is not a sufficient ground, for it is clear the corporation’s credit was sufficient to enable it to borrow to the extent of the surplus. See Eugene E. Paul, supra. The evidence does not establish that the stockholders had no choice in the matter. Furthermore, even if the other stockholders had no choice, the fact that George T. Lester, Sr., had an election to receive stock or other property for his share of the surplus or a part thereof, requires a conclusion, pursuant to section 115 (f) (2) of the code,2 that the distribution of surplus constitutes a taxable dividend in the hands of all the stockholders. We conclude that the distribution of the surplus was a taxable dividend to the stockholders. In the case of Lester Lumber Co., Docket No. 17788, respondent issued a notice of deficiency as a protective measure in case the surplus distribution was held to be a nontaxable stock dividend. In that notice the respondent determined that the excess profits credit for the company for the year 1948, based on invested capital, should be adjusted to eliminate $142,757.05 representing cash constructively received for stock issued December 20,1943, and to restore to accumulated earnings and profits the distribution to its stockholders of $94,268.54. In view of our decision as to the dividend, decision will be entered for the petitioner in Docket No. 17788. In the case of George T. Lester, Sr., Docket No. 17486, respondent contends that the petitioner is liable for a 5 per cent penalty under the provisions of section 293 (a), Internal Revenue Code, for negligence in failing to report interest of $10,160 credited to his account on the company’s books and capital gain of $13,847.83 realized from the sale of land to the company. Petitioner was aware that the interest was credited to his account. His explanation as to that item is that his return was prepared by an attorney, as he considered the income tax law too complicated to undertake its preparation himself. As to the sale of land, he testified that, wishing to make a gift to members of his family, he deeded the land to the company in exchange for stock to be issued to members of his family, and considered that he did not realize gain from the transaction. Section 293 (a) provides that: * * * If any part of any deficiency is due to negligence, or intentional disregard of rules and regulations but without intent to defraud, 5 per centum of the total amount of the deficiency (in addition to such deficiency) shall be assessed, collected, and paid in the same manner as if it were a deficiency * * . While petitioner had his return prepared by an attorney, he did not explain whether he informed the attorney of the interest item or the sale of the land. Petitioner was aware of the crediting of interest and the omission from his return of $10,160 on this account was negligence. Since some part of the deficiency was due to negligence, the assertion of the penalty must be approved, and it is not necessary to decide whether the failure to report capital gain was negligent. Reviewed by the Court. Decision will be entered for the petitioner in Docket No. 17788. Decision will be entered for the respondent in the other dockets. (f) Stock Dividends.— (1) Generad rule. — A distribution made by a corporation to its shareholders in its stock or in rights to acquire its stock shall not be treated as a dividend to the extent that it does not constitute income to the shareholder within the meaning of the Sixteenth Amendment to the Constitution. (2) Election op shareholders as to medium op payment. — Whenever a distribution by a corporation is, at the election of any of the shareholders * , payable either (A) in its stock * , of a class which if distributed without election would be exempt from tax under paragraph (1), or (B) in money or any other property * *, then the distribution shall constitute a taxable dividend in the hands of all shareholders, regardless of .the medium in which paid.	01-04-2023	01-16-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621753/	WILLIAM ROY HAWKINS, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentHawkins v. CommissionerDocket No. 33091-88United States Tax CourtT.C. Memo 1990-341; 1990 Tax Ct. Memo LEXIS 368; 60 T.C.M. (CCH) 56; T.C.M. (RIA) 90341; July 9, 1990, Filed 368 Decision will be entered under Rule 155. William Roy Hawkins, pro se. Ruud L. Duvall, for the respondent. COHEN, Judge. 369 COHENMEMORANDUM FINDINGS OF FACT AND OPINION Respondent determined deficiencies in and additions to petitioner's Federal income taxes as follows: Additions to TaxSec. 6653(a)(1)Sec. 6653(b)Sec.Sec.YearDeficiency(A)(B)(1)(2)665466611984$ 41,293.00-- --$ 20,646.50* --$ 10,323.25198539,387.55$ 1,969.38----$ 2,257.06 9,846.89198620,170.501,008.53----975.92 5,042.63Unless otherwise indicated, all section references are to the Internal Revenue Code, as amended and in effect for the years in issue. After concessions, the issues for decision are whether petitioner received $ 23,000 in unreported commission income in 1984, whether he is entitled to various business expenses in 1985 and 1986, and whether370 he is liable for the additions to tax determined by respondent for 1985 and 1986. FINDINGS OF FACT Some of the facts have been stipulated, and the stipulated facts are incorporated in our findings by this reference. Petitioner resided in Detroit, Michigan, at the time he filed his petition. In 1984, petitioner received not less than $ 23,000 in commissions from an oriental rug dealer in St. Louis, Missouri. Commission checks were deposited in petitioner's bank account and honored in 1984. Petitioner withdrew those funds from his bank account in 1984. Beginning in 1985, petitioner was engaged in litigation with the bank and with the oriental rug dealer, which litigation was resolved when the dealer paid the bank $ 15,000 in 1988. At all material times, however, petitioner had unrestricted use and benefit of at least $ 23,000 received in 1984. Petitioner did not report the commission income from the rug dealer on his Federal income tax return for 1984. In 1985 and 1986, petitioner was an outside salesman selling debt collection services of North American Collections, Inc. (NACO), and was paid on a commission basis. Petitioner received 60 percent of all contracts sold for371 NACO. From time to time, petitioner would contract with "canvassers," who would find leads and assist petitioner in closings of transactions. NACO's head office was in St. Louis, Missouri. Petitioner's tax home was in Detroit, Michigan. In relation to his work for NACO, petitioner traveled to St. Louis and to various locations in Michigan and Indiana. During 1985 and 1986, petitioner traveled to Washington, D.C., for personal reasons. In relation to his work for NACO, petitioner incurred expenses for food, meals, entertainment, gasoline, auto repairs, auto rental, air fares, telephone, and other items. He failed to keep adequate records of these expenses. On his tax returns for 1985 and 1986, petitioner deducted as business expenses amounts that were nondeductible personal expenses and other amounts for which he did not have receipts or other substantiation. OPINION Petitioner has the burden of proving that respondent's determinations are erroneous. New Colonial Ice Co. v. Helvering, 292 U.S. 435">292 U.S. 435 (1934); Rockwell v. Commissioner, 512 F.2d 882">512 F.2d 882 (9th Cir. 1975),372 affg. a Memorandum Opinion of this Court; Rule 142(a), Tax Court Rules of Practice and Procedure.At trial, an oriental rug dealer testified that he had paid commissions to petitioner by checks in 1984 and subsequently had stopped payment on those checks. Petitioner's bank, however, had credited the payments to petitioner's account in 1984, and petitioner withdrew the funds and received the benefit of those checks in 1984. Petitioner testified that he had earned the commissions in 1984 and was entitled to them, and there is no evidence that he ever repaid the amounts made available to him by his bank in 1984. Petitioner has presented no evidence that he recognized an obligation to repay the amounts received in 1984 or that he made provision for repayment. Thus, the commissions represented taxable income during that year. See Nordberg v. Commissioner, 79 T.C. 655">79 T.C. 655, 665 (1982), affd. without published opinion 720 F.2d 658">720 F.2d 658 (1st Cir. 1983); Hope v. Commissioner, 55 T.C. 1020">55 T.C. 1020, 1030 (1971), affd. 471 F.2d 738">471 F.2d 738 (3d Cir. 1973). He could not postpone reporting of the income until a final determination was made concerning373 his entitlement to the disputed amounts. See Estate of Etoll v. Commissioner, 79 T.C. 676">79 T.C. 676, 679 (1982); Downing v. Commissioner, 43 B.T.A. 1147">43 B.T.A. 1147, 1152-1154 (1941). Respondent's determination that petitioner had unreported commission income of $ 23,000 in 1984 must be sustained. During an audit of petitioner's tax liabilities for 1985 and 1986, prior to trial, and in his post-trial brief, respondent conceded that petitioner was entitled to various substantiated business deductions. We have examined the record and find no basis for allowing further deductions for any travel expense, including meals and lodging while away from Detroit, or any entertainment or other expense subject to the substantiation requirements of section 274(d) that have not been allowed by respondent. Specifically, petitioner's testimony compels the conclusion that his trips from Detroit, Michigan, to Washington, D.C., were not for business purposes. Respondent has not, however, allowed any deductions for business telephone expense. Respondent contends that it is impossible to distinguish between business and personal use of petitioner's telephone. Considering the nature374 of petitioner's business, however, we are convinced that he incurred business telephone expense. We conclude that he is entitled to deduct business telephone expense of $ 100 in 1985 and $ 100 in 1986. See Cohan v. Commissioner, 39 F.2d 540">39 F.2d 540 (2d Cir. 1930). Petitioner is not entitled to deduct any other expenses incurred in maintaining his home in Detroit. See section 280A. Respondent's post-trial brief set out in great detail the reasons for respondent's disallowance of various categories of deductions. Petitioner failed to file a brief as ordered by the Court and required by Rule 151, Tax Court Rules of Practice and Procedure. We infer that he has conceded or abandoned his claims. In any event, the evidence does not support any further allowance. The record does support imposition of the additions to tax under section 6653(a) for negligence and under section 6661 for substantial underpayment of income tax for 1985 and 1986. (Petitioner has conceded the additions to tax for 1984 as a result of other settled issues.) The evidence supports our findings that he deducted personal expenses and failed to maintain adequate records of his expenses in 1985 and 1986. 375 Either finding supports the additions to tax for negligence. Petitioner has not shown that he qualifies for any exception to the additions to tax under section 6661. The addition to tax under section 6654 is mandatory absent exceptions not applicable here. Grosshandler v. Commissioner, 75 T.C. 1">75 T.C. 1, 20-21 (1980). Decision will be entered under Rule 155. Footnotes*. 50 percent of the interest due on $ 41,293.00, $ 39,387.55, and $ 20,170.50 for the taxable years 1984, 1985, and 1986, respectively.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621756/	YAKIMA HOP CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Yakima Hop Co. v. CommissionerDocket No. 9527.United States Board of Tax Appeals8 B.T.A. 441; 1927 BTA LEXIS 2880; October 3, 1927, Promulgated 2880 Cost of repairing trellis on hop ranch held deductible as a necessary expense. Alfred P. Dobson, Esq., and R. T. Jacob, Esq., for the petitioner. Warren F. Wattles, Esq., for the respondent. ARUNDELL441 This is a proceeding for the redetermination of a deficiency in income and profits taxes in the amount of $2,231.93 for the calendar year 1921. The only question involved is whether petitioner is entitled to a deduction of the amount spent in repairing a hop trellis. FINDINGS OF FACT. The petitioner is a Washington corporation with its principal office at Portland, Oreg. It owns two hop ranches and is engaged in the business of growing and selling hops. In 1913 petitioner acquired on 80-acre hop ranch known as the Moxee Ranch. Substantially all of the ranch was covered with a hop trellis erected in 1912, consisting of wires running at right angles and supported by cedar poles set about 30 feet apart. The poles at the end of each row are braced by means of guy wires fastened to so-called dead men. The entire purchase price of the ranch was entered on the books of petitioner without segregation for the cost of the trellis. 2881 From the time of acquisition of the ranch it was the practice of the petitioner to repair in each year, by replacing broken poles and wires, any damage suffered by the trellis. The costs of such repairs were entered on the books as expenses. By means of such annual repairs the useful life of the trellis may be maintained indefinitely. In 1920 the hop vines on the Moxee Ranch bore an extraordinarily large crop. At about harvesting time in that year, due to the heavy 442 crop, rainfall, and wind, a number of guy wires broke and about one-half of the trellis collapsed, carrying with it many of the poles. As a result of the collapse it was necessary to cut some of the cross wires in harvesting the crop. In 1921 petitioner repaired the damage suffered by the trellis in 1920 by setting in new poles where necessary, salvaging and using such wire as could be utilized, and stringing new wire where necessary. In making such repairs petitioner expended $5,549.89, which included labor and materials. The repairs so made in 1921 added nothing to the value of the ranch over its value prior to the collapse of the trellis. Respondent disallowed as a deduction from income the amount*2882 so expended. OPINION. ARUNDELL: The expenditures made by petitioner in 1921 added no capital asset to its property. Repairs such as were made in 1921, except for the extent thereof, were made every year and were necessary to keep the property in condition to operate. The cost of the repairs made was, in our opinion, a necessary expense and a proper deduction from income. . Judgment will be entered on 15 days' notice, under Rule 50.Considered by LANSDON and GREEN.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621757/	Stanley J. Klein, Petitioner, v. Commissioner of Internal Revenue, RespondentKlein v. CommissionerDocket No. 3906United States Tax Court4 T.C. 1195; 1945 U.S. Tax Ct. LEXIS 181; April 26, 1945, Promulgated 181 Decision will be entered for the respondent. Petitioner was president and sole stockholder of X corporation. The dividends on X's preferred stock had not been paid for several years before 1939. In that year X intended to pay current dividends and dividends in arrears on the preferred stock. Prior to such payment petitioner created a trust to which he conveyed the preferred stock. He and a close business associate were named as cotrustees, with the power in petitioner to remove that or any other cotrustee and appoint a successor. That trust was to terminate on the death of settlor or his wife or any beneficiary named by him, whichever was latest. The income of the trust was to be accumulated for 20 years, or until the death of petitioner or his wife. At the end of the period of accumulation if petitioner was alive (petitioner was 37 years old in 1939) the income was to be paid to petitioner's wife, or to any other beneficiary who might be selected by petitioner from time to time. Upon termination of the trust the corpus (including accumulated income) was to be paid to those persons designated by petitioner by will or otherwise. The trust was otherwise irrevocable. 182 Held, income of trust for year 1941 was properly taxable to petitioner under section 22 (a) of the Internal Revenue Code. Leonard M. Rieser, Esq., for the petitioner.Edward C. Adams, Esq., for the respondent. Kern, Judge. KERN 1195 Respondent has determined a deficiency of $ 6,173.60 in petitioner's income tax for the year 1941 by reason of his including in petitioner's income during the taxable year the income of a certain trust created by petitioner in 1939.FINDINGS OF FACT.The parties have filed a partial stipulation of fact and we find the facts to be as stipulated. The stipulated facts which are material to an understanding of the issue herein, and facts found from the evidence adduced at the hearing, are as follows:Petitioner filed his income tax return183 for the year 1941 with the collector of internal revenue for the district of New Jersey. This return showed a net income of $ 104,641.60 subject to tax.In 1939 petitioner was the owner of all of the outstanding common and preferred stock of the Empire Box Corporation and was president and a director of that corporation. He was 37 years old in that year.In December 1939 the corporation was about to declare current and arrearage dividends upon its 7 percent preferred stock, of which petitioner held 1,497 shares. On December 8, 1939, the petitioner, knowing of the corporation's intention to pay current dividends of 1196 $ 3.50 per share and arrearage dividends in the amount of $ 60,756.50, created the trust hereinafter described. This he did after conferring with his personal attorney and a tax advisor. His purpose in creating the trust was to prevent himself from immediately putting back into the business of the corporation the proceeds of the anticipated dividends, a practice indulged in by him in the past which subjected his entire personal fortune to the full risks of one business, to avoid as much as possible taxation incident to the receipt of these dividends, and 184 to minimize his future income taxes.On December 9, 1939, petitioner was married but had no children. His wife, Anne Klein, was then 33 years old. Prior to December 9, 1939, petitioner and his wife had discussed the adoption of a son, and they did adopt a child in a later year. The life expectancy of both petitioner and his wife was in excess of 20 years in 1939.On December 9, 1939, petitioner conveyed to himself and to Charles W. Stiefel, Jr. (a friend, a business associate, and counsel for a corporation in which petitioner had a 30 percent interest), as trustees, all of the preferred stock of the Empire Box Corporation. The trust agreement was introduced in evidence and is incorporated herein by reference. The second article thereof, divided into 21 paragraphs, granted to the trustees broad and detailed powers of management. Other provisions of the trust agreement which are here pertinent are as follows:* * * ARTICLE III.The income received by said Trustees upon the principal of said Trust shall be accumulated and added to the principal of said Trust until the first to occur of the following events:(a) The death of the Trustor.(b) The death of Anne Klein, wife of Trustor. 185 (c) The arrival of the 8 day of December, 1959.During such period in which the income shall be accumulated and added to the principal of said Trust, the Trustees shall invest and reinvest and keep the Trust Fund invested in any kind of property real or personal, including by way of illustration but not of limitation, common and preferred stocks, voting trust certificates, bonds, notes, debentures, mortgages, shares or interests in investment trusts, shares or interest in common trust funds, single or annual premium endowment or life insurance contracts upon the life of any beneficiary hereunder, (but expressly excluding investment in any such contract issued upon the life of, or payable to, or for the benefit of the Trustor), investments that yield a high rate of income or no income at all and wasting investments without regard to the proportion any such investment or investments of a similar character may bear to the total corpus of the Trust or whether or not such investments are in new issues or in new or foreign enterprises and without being limited to the classes of investments in which Trustees are or may be authorized by statute or case or rule of Court to invest trust funds; 186 intending hereby to authorize the Trustees to act in such manner as they shall believe to be for the best interest of the trust, regarding it as a whole, even though particular investments might not otherwise be proper.1197 Upon the termination of the period during which the income shall be accumulated, the Trustees shall pay the entire net income of the Trust Fund thereafter received by them and until the termination of this Trust, such payments to be made at such convenient intervals, but not less frequently than annually, as the Trustees may in their discretion deem best, in manner following: (a) To Anne Klein so long as she may live, or(b) To such other beneficiaries, including or excluding Anne Klein, in such proportions as the Trustor shall have at any time or from time to time hereafter designated in manner hereinafter provided, or(c) In the event of the death, either prior or subsequent to the termination of such period, of Anne Klein or of any other beneficiary who may hereafter be named by the Trustor (if at the time of such death such decedent is a beneficiary hereof) and the Trustor fails to designate a substitute beneficiary or beneficiaries thereof within187 ninety (90) days after such death or within ninety (90) days after the termination of such period, whichever is the later, then the share of income which such decedent would have received, if living, shall be paid to Paul C. Klein, of Chicago, Cook County, Illinois, brother of Trustor.Provided, however, that no part of such income shall at any time or under any circumstances be paid to or for the benefit of the Trustor.After the period has terminated during which the income shall be accumulated and added to the principal of the Trust Fund, the Trustees may continue to hold, until the termination of this Trust, the property, real or personal, at that time in the trust estate or payable to the trust estate by reason of the occurrence of the event terminating such period of accumulation, but all investments and reinvestments by them made thereafter shall be limited to investments in bonds of the United States of America or any State of the United States or political sub-division thereof, first mortgages on or secured by income producing real estate (provided that the entire debt secured by such mortgage is held by said Trustees, and further provided that not more than twenty-five188 percent (25%) of the entire corpus of said trust shall be invested in such first mortgages), bonds, notes, debentures, mortgages or preferred stock of any corporations which are listed upon the New York Stock Exchange and which have paid the entire interest or dividend therein provided without interruption for five (5) years preceding such investment, and single or annual premium endowment or life insurance contracts upon the life of any then beneficiary hereunder but expressly excluding any such insurance contract issued upon the life of, or payable to or for the benefit of, the Trustor.ARTICLE IV.If the first to occur of the foregoing events, the happening of which terminates the period of accumulation, is the arrival of December 8th, 1959, and if prior to that date the Trustor has designated some person or persons other than Anne Klein, wife of Trustor, beneficiary of the income, or some part thereof, thereafter to be distributed by said Trustees, such other beneficiary or beneficiaries shall have the right and option with respect to such beneficiaries' respective proportions of that part of the trust estate as may at such time be invested in or represented by endowment or life189 insurance contracts, to require said Trustees to leave the then principal sums, proceeds or values of such insurance contracts at interest with the insurance company, which interest shall be distributed by such Trustees when received by them to the then beneficiary or beneficiaries or to require said Trustees to have the then principal sums or values of such insurance contracts paid in one lump sum to said Trustees to be invested by said 1198 Trustees and the income therefrom distributed to such beneficiary or beneficiaries in manner hereinbefore provided. If Anne Klein, wife of Trustor, is the beneficiary or one of the beneficiaries at said time, however, she shall not have such right and option with respect to her proportionate share but said Trustees may thereafter deal with such insurance contracts or the proceeds or values thereof as they deem to be for the best interests of the trust estate.Upon the death of Trustor (irrespective of whether such death terminates or is subsequent to the period of accumulation) and provided that the Trustor has not, in manner hereinafter provided, appointed any person or persons to the exclusion of Anne Klein to be the beneficiary or beneficiaries190 of the entire income of said trust, Anne Klein, wife of Trustor, shall have the right and option, with respect to her proportion of that part of the Trust Fund then invested in or represented by endowment or life insurance contracts, to require the Trustees to have the then principal sums, proceeds or values of any such policies paid in installments certain for such number of years as she shall elect, which installments shall be distributed when received by said Trustees to Anne Klein, or to exercise either of the options hereinabove granted to beneficiaries other than Anne Klein with respect to endowment or life insurance policies, and upon the exercise by her of either of such options, the income therefrom or from the reinvestment thereof shall be distributed to Anne Klein upon receipt thereof by the Trustees until the termination of the Trust.ARTICLE V.This Trust shall terminate upon the first to occur of the following events: (a) The death of the last surviving of the Trustor and Anne Klein, his wife.(b) The death of the Trustor, if at the time of his death Anne Klein is not one of the beneficiaries of the income thereafter to be distributed by the Trustees.Upon the termination191 hereof the principal and accumulated income, if any, of said Trust shall be distributed by said Trustees to such persons and in such proportions as the Trustor may hereafter in writing appoint in manner hereinafter provided, or may by his last Will and Testament appoint, or, in default of such appointment by Trustor, to Paul C. Klein.ARTICLE VI.This indenture and agreement is intended to be, and is hereby declared to be irrevocable, provided, however, that the Trustor reserves the right and shall have the power at any time during his life by an instrument in writing delivered to the Trustees or upon his death by his last Will and Testament, to modify or alter this agreement by removing his then co-trustee and appointing another individual or trust company as co-trustee in the place and stead of the co-trustee so removed, by disposing of the distributable income of the trust estate as originally constituted, or as it may exist from time to time, otherwise than as originally provided in this indenture, by altering the proportion or amount of income to be paid to, or applied to the use of any one or more of the beneficiaries upon the termination of the period of accumulation, by cancelling192 any benefaction to any one or more of the beneficiaries, by substituting another beneficiary or beneficiaries in the place of any one or more of them, by adding to the number of beneficiaries, by providing for the proportion or amount of income to be paid or applied to the use of such additional or substitute beneficiaries upon the termination of the period of accumulation; provided, however, that in no event shall any such modification or alteration direct that 1199 the said income or any part thereof be accumulated for, paid to or applied to the use or benefit of the Trustor.* * * ARTICLE X.If and as often as the Trustees deem the same advantageous to the trust they may, by an instrument in writing, appoint as successor Trustees hereunder any two individuals or a trust company wherever situate. Such successor Trustee or Trustees so appointed, upon its or their written acceptance of such appointment, shall have all the titles, powers, rights and duties of the original Trustees but shall exercise the same under the supervision and in accordance with the directions of the Trustees herein named who shall act as Advisors to the successor Trustee or Trustees so appointed. 193 The Advisors may in their discretion remove any such successor Trustee or Trustees hereunder, such removal to be evidenced by a writing sent by the Advisors and delivered to the Trustees. Upon the removal or resignation of any such successor Trustee so appointed the Advisors shall have the power to reappoint themselves or to appoint two other individuals or a trust company, wherever situate, successor Trustee or Trustees hereunder. If the Advisors shall reappoint themselves as Trustees they shall thereupon have all the titles, powers, rights and duties they originally had as Trustees; if the Advisors shall appoint other individuals or a trust company as Trustee or Trustees, such successor Trustee or Trustees so appointed shall have all the titles, rights, powers and duties of the original Trustees but shall exercise the same under the supervision and in accordance with the directions of the Advisors, provided, however, that any successor Trustee or Trustees so appointed by the Trustees, other than themselves, shall make no sale, investment or reinvestment of any property or money at any time constituting a portion of the trust estate, nor perform any discretionary power herein given194 the Trustees, except upon the written direction of the Advisors and the Advisors shall be solely responsible for all sales, investments and reinvestments made upon and in compliance with any such direction.ARTICLE XI.In the event of the death, (prior to the termination of the trust), resignation, removal or inability of Stanley J. Klein to act as Trustee hereunder, then William Felstiner of New Rochelle, Westchester County, New York, shall be and hereby is appointed as successor Trustee to Stanley J. Klein. In the event of the death, resignation, removal or inability of Charles W. Stiefel, Jr., to act as Trustee, then Joseph L. Lyons of Chicago, Cook County, Illinois, is hereby appointed as his successor Trustee.Each and every act and deed of the Trustees named herein and their successors named herein, shall be by their joint act and neither shall exercise or perform any power or act alone, except, however, in the event that by reason of the death, resignation, refusal or inability of his co-Trustee to act Stanley J. Klein is the sole Trustee hereunder then Stanley J. Klein shall have full power and authority to exercise alone all the powers and rights granted to the Trustees 195 named herein and their named successors until the appointment and acceptance of such appointment by his co-Trustees but such co-Trustee shall in all events be appointed within four (4) months of the occurrence of such vacancy.The Trustees and any successor Trustee appointed and acting hereunder shall be entitled to reasonable compensation for their services.The trust hereby created shall be deemed to be an Illinois trust and shall be in all respects governed by the laws of the State of Illinois.In Witness Whereof the Trustor and the Trustees have hereunto set their hands and seals and the Trustees hereby acknowledge receipt from the Trustor 1200 of Certificate Nos. Eleven (11) duly endorsed by the holder thereof as therein designated, evidencing the ownership of One Thousand Four Hundred Ninety-seven (1,497) shares of the One Hundred ($ 100.00) Dollar par value Seven Per Cent Cumulative Preferred stock of Empire Central Box Corporation, a Delaware corporation, the day and year first above written. * * The successor trustees named in article XI were business associates and friends of petitioner. One was his personal attorney and the other was an officer of a corporation196 in which petitioner held a 30 percent interest.On or about December 27, 1940, the trustees exchanged the 7 percent preferred stock of Empire (1,497 shares) held by them for 6 percent debentures of that corporation having a face value of $ 149,700. The preferred stock was canceled and the corporate charter of Empire was amended so that the common stock, all of which was owned by petitioner, was thereafter the sole authorized and outstanding stock of the corporation. A sinking fund for the payment of the debentures was set up, but the debentures were made subordinate to the claims of creditors in an amount equal to the principal amount of the debentures outstanding.The income of the trust for the taxable year was $ 8,947.24. Petitioner was, in reality, the owner of this income during the taxable year and it was properly included by respondent in petitioner's taxable income for the year.OPINION.We have set out in some detail the provisions of the trust instrument here involved, since it is most ingenious and presents a question which is both novel and difficult. As to the difficulties incident in general to the class of cases represented by the one now before us, see the concurring197 opinion of Sanborn, J., in Stockstrom v. Commissioner, 148 Fed. (2d) 491.The respondent has determined and now contends that the income of the trust created by petitioner is taxable to him under section 22 (a) of the Internal Revenue Code as interpreted by Helvering v. Clifford, 309 U.S. 331">309 U.S. 331, and other cases.The petitioner, while implicitly conceding that the trust income would be taxable to him after 1959, under the rule of Commissioner v. Buck, 120 Fed. (2d) 775, contends that during the taxable year, on account of the requirement that the income of the trust be accumulated rather than distributed, he had no such powers over the trust income as to warrant a conclusion that he was the owner of it for tax purposes.While no cases are cited by either party which are directly in point, the petitioner relies heavily on the case of Commissioner v. Bateman, 127 Fed. (2d) 266. Briefly stated, the facts in that case were that 1201 the settlor granted a considerable sum in trust to three independent trustees, with full powers of management, 198 and provided that 5 percent of the trust income was to be accumulated during the existence of the trust (which was to last during the settlor's life) and that upon her death the corpus, including the accumulated income, was to go to those persons designated by her will or to her heirs. The question whether the 5 percent of the trust income thus accumulated during the life of the settlor was taxable to her under section 22 (a) and the doctrine of the Clifford case was considered at length by the Circuit Court. The distinguished jurist who wrote the opinion on behalf of that court, Judge Magruder, was quite evidently troubled by the problem posed by that case, but reached the conclusion that section 22 (a) was not applicable.However, that case, it is apparent, was much stronger for the taxpayer than is the one which is now before us. In this case the settlor is also one of two cotrustees having broad administrative powers; he has the absolute power to remove his cotrustee; the original cotrustee and his designated successor were close business associates of petitioner; the corpus of the trust consisted of securities of a corporation completely dominated by petitioner; and the199 petitioner settlor not only had the power to provide for the disposition of the accumulated income upon his death, but also had the power to designate the beneficiary or beneficiaries who should enjoy the income after 1959, if the trust should last that long (and that date was well within petitioner's life expectancy).We are of the opinion that the facts here present are more analogous to Commissioner v. Buck, supra, than to the Bateman case.One of the peculiarities of the trust before us is that, despite the manifold provisions of the exquisitely drawn trust agreement, there is no beneficiary with a vested indefeasible equitable interest. Petitioner's wife or brother may be the actual beneficiary, but it rests in petitioner's power at all times to determine who shall be the beneficiary of the trust, and for how long and in what amounts, and who shall receive the corpus upon the termination of the trust. The net effect of the arrangement here is that petitioner devoted securities in a business controlled by him to a trust controlled by him for the purpose of accumulating a fund which will ultimately go to such persons as he may decide upon, *200 and the income from which shall ultimately be paid to those beneficiaries whom he may choose, such accumulation to be made without the payment of those taxes which would have been paid if he had himself made the accumulations without the benefit of the trust device. Cf. Morsman v. Commissioner, 90 Fed. (2d) 18.We conclude that respondent did not err in taxing to petitioner the income of the trust in question during the taxable year.Decision will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621758/	WALLACE BARNES CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Wallace Barnes Co. v. CommissionerDocket No. 3653.United States Board of Tax Appeals10 B.T.A. 1304; 1928 BTA LEXIS 3907; March 12, 1928, Promulgated 3907 1. The petitioner and the Bristol Machine Tool Co. were affiliated during the year 1919. 3. Amounts expended by the petitioner in the year 1919 in rearranging its plant for peace-time production held not to be proper deductions in computing the petitioner's net war income for that year. Dwight C. Buffum for the petitioner. J. Harry Byrne, Esq., for the respondent. MARQUETTE 1304 This proceeding is for the redetermination of a deficiency in income and profits taxes for the year 1919 in the amount of $94,588.59. FINDINGS OF FACT. The petitioner is a corporation organized under the laws of the State of Connecticut, prior to the year 1914, with its principal office 1305 and place of business at Bristol, Conn. Its capital stock consisted of 5,100 shares of the par value of $100 each. During the year 1919 the capital stock was owned by the following persons: SharesC. F. Barnes3,353Fuller F. Barnes700H. C. Barnes670L. F. Barnes170J. S. Barnes85H. I. Arms5J. E. Andrews5L. D. Adams5R. W. Cook5A. H. Wilcox85William Muir17Total5,100C. F. Barnes was president, 3908 Fuller F. Barnes, treasurer, H. C. Barnes, secretary, and H. I. Arms, assistant treasurer of the corporation. L. F. Barnes was the wife of C. F. Barnes, Fuller F. Barnes and H. C. Barnes were his sons, and J. S. Barnes was his nephew. Arms, Andrews, Adams, Cook, Muir and Wilcox had been employed by the corporation for many years and held positions of responsibility and trust. Their stock was held by them under written agreements, indorsed on the faces of the certificates, that they would not sell or transfer their stock without the written consent of the corporation's board of directors. In addition the corporation actually held the stock of Arms, Adams, Andrews and Cook as collateral for notes given to it in payment for the stock. J. S. Barnes also held his stock under a written agreement, duly indorsed on the certificate, that it was not transferable without the written consent of the corporation's board of directors. C. F. Barnes, Fuller F. Barnes, L. F. Barnes and H. C. Barnes had an oral agreement among themselves that none of them would sell his or her stock without first offering it to the board of directors. During the years 1917 and 1918 the petitioner was engaged3909 in the manufacture of metal springs and other metal pieces, principally as a subcontractor on war work, and during the year 1918 more than 90 per cent of its facilities were used for that purpose. In order to carry out its contracts it required many special machines, tools, and dies, most of which it had to make for itself in its own machine department. This machine department became in 1917 and 1918 inadequate for the petitioner's needs and it therefore in February, 1918, bought control of the C. G. Garrigus Machine Co., a Connecticut corporation organized in the year 1908 with a capital stock of 500 shares of the par value of $100 each, and with its principal office and plant at Bristol. In May, 1918, the name of this corporation was changed to the Bristol Machine Tool Co. It will hereinafter be referred to as the Tool Company. 1306 During the year 1919 the capital stock of the Tool Company was held as follows: SharesThe Wallace Barnes Co343C. F. Barnes52Fuller F. Barnes10H. C. Barnes10H. I. Arms5J. E. Andrews5L. D. Adams10R. W. Cook2F. B. Tibbits10L. K. Lasher2C. H. Tiffany40W. S. Bennett5John F. Chidsey5A. F. Rockwell1Total5003910 H. I. Arms, assistant treasurer of the petitioner, had acquired his stock in the Tool Company at the request of C. F. Barnes, prior to February, 1918; Barnes had acquired 52 shares of the stock prior to that time and wanted Arms to represent him on the board of directors. He therefore sold Arms five shares of the stock, or purchased that amount for him, and had him placed on the board of directors and made secretary of the Tool Company. Although Arms owned and held his stock in his own right, he did not feel free to sell it or to vote it without first consulting the petitioner's officers, because of his interest in the petitioner. Andrews, Adams, and Cook, who were factory manager, mill manager, and foreman, respectively, of the petitioner, also owned and held their stock in their own right, but because of their interests in the petitioner, did not feel free to sell or vote it except in accordance with the desires of the petitioner's board of directors. Adams was a director of the Tool Company and was also made secretary and manager. During the year 1919 he devoted more than three-fourths of his time to the Tool Company for which he was paid a salary of $1,000. For the remainder3911 of his time the petitioner paid him several times the amount he was paid by the Tool Company. The petitioner was not reimbursed for his inequality in salary. F. B. Tibbits and L. K. Lasher were respectively New England sales manager and New York sales manager of the petitioner. They acquired their stock in the Tool Company at the request of and from the petitioner. They voted their stock in accordance with the wishes of the petitioner's board of directors and because of their connection with the petitioner they did not feel free to sell or vote their stock except as the board of directors desired. C. H. Tiffany was a retired business man and a friend of C. F. Barnes. Bennett was also a friend of C. F. Barnes; Tiffany and Bennett were stockholders of the Tool Company prior to February, 1918, and they chose to remain stockholders because of their friendship for and confidence in Barnes. They took no active interest in the affairs of the corporation. 1307 J. F. Chidsey was a close personal friend and business associate of C. F. Barnes and he acquired his stock in the Tool Company at the request of Barnes shortly after Barnes had invested in the stock of one of his, 3912 Chidsey's, companies. Chidsey was made a director of the Tool Company by Barnes and he considered that he was there to represent the petitioner's interest. Rockwell was a stockholder of the Tool Company prior to February, 1918. During the year 1919 he did not attend any stockholder's meeting or vote his stock. Immediately after acquiring control of the Tool Company the petitioner secured the resignation of the old board of directors, put its own officers and employees on the board, and elected Fuller F. Barnes, president, H. C. Barnes, treasurer, L. D. Adams, secretary, and H. I. Arms, assistant treasurer. From that time the policies of the Tool Company were decided and controlled in the office of the petitioner by the petitioner's officers. None of the Tool Company's officers received any salary from the Tool Company except L. D. Adams, who, as above stated, received $1,000 per year. Only two meetings of the stockholders of the Tool Company were held during the year 1919. Three hundred and seventy-three shares of the capital stock were voted at one meeting and 391 at the other. The Tool Company sold its products to the petitioner at less than the prices that were charged3913 other customers. It also borrowed from the petitioner in 1919 the amount of $15,000 for which no interest was charged. In addition the petitioner loaned the Tool Company its credit by indorsing the Tool Company's note for $50,000. No charge was made for this service. During the years 1917 and 1918 the petitioner, in order to handle its war contracts, was compelled to enlarge and rearrange its plant. New buildings were constructed and new machinery and equipment purchased and installed at a cost of about $420,000. As thus enlarged, rearranged and equipped, the plant was not suited to the petitioner's regular peace-time business and in the year 1919 the petitioner rearranged and revamped the plant by removing the special war-time machinery and reinstalling the peace-time machinery and putting the plant back as nearly as practicable to its prewar condition, at a cost of $16,499.60. The petitioner and the Tool Company filed a consolidated return of income and invested capital for the year 1919, and in computing the net income from Government contracts deducted the amount of $16,499.60 expended for rearranging the petitioner's plant for peace-time production. The respondent3914 determined that the two corporations were not affiliated during the year 1919 and that the amount of $16,499.60 should be taken as a general deduction and not as a deduction 1308 from war income, and that as to the petitioner there is a deficiency in tax in the amount of $94,588.59. At the hearing respondent filed an amendment to his answer contending that the above expenditure should be capitalized. OPINION. MARQUETTE: The record in this proceeding raises two questions for determination, namely: (1) Were the petitioner and the Tool Company affiliated during the year 1919 within the meaning of section 240(b) of the Revenue Act of 1918 and entitled to file a consolidated return of income and invested capital?, and (2) Is the petitioner, in computing its net income from war contracts for 1919, entitled to deduct the amount expended in that year in rearranging and adapting its plant to peace-time production. The questions will be discussed in the order in which they are set forth: The evidence which has been presented to us shows that the petitioner was a close corporation owned or controlled by C. F. Barnes, his wife, and their two sons. They owned outright more than3915 95 per cent of the capital stock and the remainder, which was owned by Barnes' nephew and by certain old and trusted employees of the corporation, was controlled by the Barnes family through written agreements that it would not be sold or transferred without the consent of the petitioner's board of directors which was dominated by the Barnes family. As to the Tool Company, we find that about 69 per cent of its stock was owned by the petitioner and that more than 21 per cent was owned by the petitioner's officers, stockholders and employees. These officers, stockholders, and employees, other than the members of the Barnes family, held their stock at the request of the Barnes and voted it in accordance with their interests and desires. The main interests of these stockholders were with the petitioner and not in the Tool Company, and they willingly supported, furthered, and carried out the policies determined and laid down by the Barnes for the operation of the Tool Company. If they were not directly under the control of the Barnes family, they were, and so considered themselves, closely affiliated with it and with the petitioner. Of the shares of stock in the Tool Company owned3916 by persons who were not officers of the petitioner, 5 shares were owned by Chidsey, who was a close personal friend and business associate of C. F. Barnes and who became a stockholder and director at his request and considered that he was there to represent the Barnes interest; 45 shares were owned by Tiffany and Bennett, who were also close personal friends of C. F. Barnes. They, however, took no active part in the affairs of the corporation but were content to let the Barnes family manage and direct it as they saw fit. It appears 1309 that they were quiescent stockholders and that the only stock usually voted at stockholder's meetings was that owned or controlled by the Barnes family. We think that it is clear that the petitioner owned or controlled, through closely affiliated interests, substantially all of the capital stock of the Tool Company during the year 1919 and that the two corporations are entitled to file a consolidated return. See . The evidence relative to the second issue establishes that during the years 1917 and 1918, the petitioner enlarged, equipped, and rearranged its manufacturing plant, 3917 in order to handle Government war contracts. The cost thereof presumably was capitalized. Upon the conclusion of the war and the termination of the contracts, the petitioner found itself with a plant not suited to its normal peace-time activities. It was, therefore, in 1919, compelled to again rearrange the plant, as set forth in the findings of fact, to conform to peace-time requirements, at a cost of $16,499.60, which it seeks to deduct from its income derived from Government contracts in computing its war income for that year. The respondent now contends that the expenditure should be capitalized. Section 301(c) of the Revenue Act of 1918 reads as follows: For the taxable year 1919 and each taxable year thereafter there shall be levied, collected, and paid upon the net income of every corporation which derives in such year a net income of more than $10,000 from any Government contract or contracts made between April 6, 1917, and November 11, 1918, both dates inclusive, a tax equal to the sum of the following: (1) Such a portion of a tax computed at the rate specified in subdivision (a) as the part of the net income attributable to such Government contract or contracts3918 bears to the entire net income. In computing such tax the excess-profits credit and the war-profits credit applicable to the taxable year shall be used; (2) Such a portion of a tax computed at the rates specified in subdivision (b) as the part of the net income not attributable to such Government contract or contracts bears to the entire net income. For the purpose of determining the part of the net income attributable to such Government contract or contracts, the proper apportionment and allocation of the deductions with respect to gross income derived from such Government contract or contracts and from other sources, respectively, shall be determined under rules and regulations prescribed by the Commissioner with the approval of the Secretary. The regulation promulgated by the Commissioner for the allocation of income from Government contracts as set forth in article 715 of Regulations 45, is as follows: Whenever it is necessary to determine the portion of net income derived from or attributable to a particular source, the corporation shall allocate to the gross income derived from such source, and to the gross income derived from each other source, the expenses, losses, 3919 and other deductions properly appertaining thereto, and shall apply any general expenses, losses, and deductions (which can not properly be otherwise apportioned) ratably to the gross income 1310 from all sources. The gross income derived from a particular source, less the deductions properly appertaining thereto and less its proportion to any general deductions, shall be the net income derived from such source. The corporation shall submit with its return a statement fully explaining the manner in which such expenses, losses, and deductions were allocated or distributed. The petitioner relies upon this regulation as authorizing the deduction from its income derived from Government contracts, of the cost of rearranging its plant to conform to its peace-time requirements. We are of opinion that the facts do not bring the petitioner within either the regulation or the intendment of the statute. Even should we assume, in the first instance, that the cost of the change was properly deductible as an expense from income generally, it appears to us that while such cost may have been occasioned by war contracts, it is not cost "appertaining thereto," but rather appertains to3920 the production of future income and is thus a capital item. We think, therefore, that the Commissioner was correct in refusing to deduct this expenditure from war income but that he erred in allowing the amount as a general deduction from income. The amount of the expenditure should be capitalized. Other errors on the part of the respondent are alleged in the petition, but they were abandoned at the hearing. Reviewed by the Board. Judgment will be entered on 15 days' notice, under Rule 50.PHILLIPS PHILLIPS: I dissent from the prevailing opinion so far as it holds that the amounts expended by the petitioner in rearranging its plant for peace-time production may not be deducted as an ordinary and necessary expense of its business in the year when the plant was rearranged. In the instant case it appears from the findings of fact that the plant of the petitioner was enlarged and rearranged for the purpose of handling war contracts; that new buildings were constructed and new machinery and equipment purchased and installed. The emergency having ended, petitioner found it necessary to restore its plant to the condition in which it was prior to the emergency. 3921 The cost of so doing appears to me to be not only an ordinary and necessary expense of the business but, in my opinion, added nothing to the capital value of the plant as it already appeared in the financial structure of the petitioner. The Board has heretofore held, and it seems to me properly so, that the cost of installing machinery is properly to be capitalized as a part of the cost of such machinery and recovered by an allowance for the exhaustion thereof, or otherwise, as are other costs. To require the petitioner to include in its capital, as a part of the cost of its plant, the original cost of installing the machinery, the cost of taking 1311 this same machinery out or rearranging it for war-time production, and the cost of reinstalling the same machinery or rearranging it for peace-time production appears to me to be not only a misapprehension of the situation but a distortion of asset values which is contrary to the facts and which can not be justified. While it may be that in some circumstances the cost of rearranging an entire plant is an extraordinary rather than an ordinary expense, we must look to all of the surrounding circumstances in each particular3922 case. What may be an extraordinary expense under ordinary circumstances may well be an ordinary expense under extraordinary circumstances. The situation which arose out of the war called upon the industries of the country to abandon peace-time production for the manufacture of the necessities of war. It was generally recognized that production under war-time contracts would be temporary. The expense to which a manufacturer, such as the petitioner, was put in rearranging its machinery to meet the situation and in restoring its plant after the emergency for its normal peace-time pursuits, seems to me properly to be classified, in view of all the circumstances, as an ordinary and necessary expense of the business properly chargeable against the income from war contracts. I can conceive of no basis upon which such expenses can properly be considered as adding to the capital value.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621759/	GERALDINE E. FARRELL, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentFARRELL v. COMMISSIONERDocket Nos. 1425-86; 44249-86United States Tax CourtT.C. Memo 1989-662; 1989 Tax Ct. Memo LEXIS 662; 58 T.C.M. (CCH) 979; December 20, 1989; As amended December 21, 1989 Harry D. Martin and664 Thomas J. Minarcik, for the petitioner. Donna J. Pankowski and Edward F. Peduzzi, Jr., for the respondent. MEMORANDUM FINDINGS OF FACT AND OPINION SHIELDS, Judge: In these consolidated cases respondent determined the following deficiencies in and additions to petitioner's Federal income taxes: Addition to TaxDocket No.YearDeficiencySection 6661 101425-861982$ 20,064.00--44249-861983 73,535.58$ 7,353.55In his answer in docket No. 44249-86, respondent increased the claim for the addition to tax under section 6661 for 1983 by $ 11,030.34 to $ 18,383.89. The issues are: (1) whether two payments of $ 50,000 and $ 150,000 received by petitioner in 1982 and 1983, respectively, were alimony and thus includable in her gross income under section 71; and (2) whether petitioner is liable for an addition to tax under section 6661 for a substantial understatement of her income tax in 1983. 665 FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulation of facts and exhibits associated therewith are incorporated herein by this reference. Petitioner resided in Woodmere, Pennsylvania, when she filed her petitions in these cases. She married Carl Farrell on March 10, 1961. At the time of their marriage, Mr. Farrell had four children by a previous marriage, ranging in ages from 5 to 15, and petitioner had three children from a previous marriage, ranging in ages from 5 to 11. During their marriage two children were born, the first in 1962 and the second in 1964. For the first several years of the marriage, Mr. and Mrs. Farrell and all of the children lived in a house petitioner owned on Pagan Road in Erie County. Throughout the marriage petitioner did not work outside the home. She was a housewife and mother to the nine children. About 1962, Mr. Farrell went into business, creating a company named Tool-All, Inc., a subchapter S corporation, which built plastic molds. He later acquired an interest in several other businesses, namely, Acuform, Inc., Acumatic, Inc., C.A.F. Enterprises, C & F Partnership, and Precise Plastics, Inc.666 The Farrells experienced some financial difficulties in the first few years of their marriage. However, after about five years, Mr. Farrell's businesses began to prosper; and from about 1967 until their divorce in 1982, they lived quite comfortably. In the late 1970's they purchased a house in an affluent section of Erie, Pennsylvania. It was a southern ranch style house with an in-ground swimming pool situated on an acre lot. The new residence was well furnished since one of Mr. Farrell's hobbies was the collection of antiques. He also collected guns and wine making equipment. The Farrells did not have any serious financial worries during the later years of their marriage. In 1979, 1980, and 1981 their declared joint incomes were $ 295,875, $ 391,008, and $ 520,884, respectively. However, in February of 1980 they separated and in May of 1982 petitioner filed an action for divorce in the Court of Common Pleas of Erie County. To represent her in the divorce action she employed Jay S. Nedell, a local attorney. Mr. Farrell was represented by Michael J. Visnosky, another local attorney. At the time the divorce action was filed, petitioner was generally aware of Mr. Farrell's667 business interests and investments but knew nothing about their value. A copy of their joint 1981 Federal income tax return was available to her; but even though he had full authority to act on her behalf, her attorney to her knowledge, never obtained any information about the value or success of Mr. Farrell's businesses or investments, never requested copies of his individual or business tax returns, and never undertook any type of discovery regarding Mr. Farrell's assets or income. In August of 1982, Mr. Farrell's assets included a 50-percent interest in Tool-All, Inc., a 50-percent interest in Acuform, Inc., a 50-percent interest in Acumatic, Inc., a 100-percent interest in C.A.F. Enterprises, Inc., a 25-percent interest in Precise Plastics, Inc., and a 50-percent interest in a partnership called Czulewicz and Farrell, or C & F. As of August 1982, Tool-All was a profitable company with approximately 30 employees. For the fiscal year ended September 30, 1981, Tool-All had sales of $ 2,402,025 and paid a total of $ 879,855 in equal salaries to its two stockholder-officers, Mr. Farrell and Mr. Czulewicz. As of September 30, 1981, Tool-All had loans payable to them in the approximate668 amount of 1.6 million dollars of which 50 percent belonged to Mr. Farrell. During its fiscal year ended June 30, 1982, Acuform had approximately 50 employees and gross sales of $ 4,555,314 and paid a total of $ 521,000 in equal salaries to its two stockholder-officers, Mr. Farrell and Mr. Czulewicz. On June 30, 1982, Acuform had loans payable to its two stockholders in the amount of $ 890,000 of which 50 percent belonged to Mr. Farrell. Shortly after Mr. Visnosky was retained by Mr. Farrell an offer to settle the divorce action was made by Mr. Nedell. Using Mr. Nedell's offer as a guide, Mr. Visnosky drafted a document entitled "Property Settlement Agreement" (hereinafter Agreement) and forwarded it to Mr. Nedell. By a letter dated July 28, 1982, Mr. Nedell replied in part, as follows: I am sorry that I didn't get back to you, but Mrs. Farrell was in the hospital for a few days. She has learned that she is presently suffering from a heart condition, known as angina. She is not feeling very well, and has been reconsidering your offer, as it reflects her health. We would be willing to sign your Agreement as written, but my client has made an additional demand of $ 300,000.00669 in cash. At the present time, she thinks her life expectancy has been shortened considerably, and as a result does not feel that she would ever get the full benefit of the Agreement that you sent over. In addition, she would request that your client maintain her on a hospitalization program. I don't like to change agreements in midstream, but this is being done only because of the change of my client's status as a healthy individual, and her feelings as to her life expectancy. After telephone negotiations in early August 1982 between Mr. Nedell and Mr. Visnosky, it was informally agreed by the lawyers that Mr. Farrell would pay petitioner an additional $ 200,000 of which $ 50,000 was payable on or before August 31, 1982, and $ 150,000 was payable after December 31, 1982, but before August 13, 1983. It was also agreed that these amounts would be reflected in an addendum to the Agreement. During the week of August 16, 1982, Mr. Nedell prepared and submitted to Mr. Visnosky a document entitled "Property Settlement Agreement Addendum" (hereinafter Addendum) in which the $ 50,000 and $ 150,000 payments were referred to as " additional property settlement." The labeling of the payments670 as "additional property settlement" was disputed by Mr. Visnosky because he believed that in the informal agreement reached with Mr. Nedell the payments were to be referred to as "additional alimony." Consequently, Visnosky refused to recommend the Addendum to Mr. Farrell unless the language was changed to read "additional alimony." Nedell agreed to the change and the Addendum was revised accordingly. Since the demand by petitioner's attorney for the additional payments was not made until after an agreement had been reached with respect to the division of the marital property, there was no further discussion of the marital property at the time the Addendum was negotiated and agreed to by Nedell and Visnosky. Mr. Farrell approved the Addendum after being advised by his accountant and by Mr. Visnosky that the additional payments would be deductible by him as alimony. On August 24, 1982, petitioner and Mr. Farrell signed the Agreement which had been negotiated in June and July as well as the separate Addendum which was negotiated in August. The Agreement provided, in pertinent part, as follows: 5. Alimony: The husband shall pay to the wife for her separate maintenance and671 support the sum of $ 4,000.00 per month for a total of $ 48,000.00 per year, beginning September 1, 1982. 6. Termination of Alimony: The provision made herein for the support and separate maintenance of the wife at paragraph 5 shall not terminate on the death of the husband but terminate on the death of the wife, the remarriage, should the parties become divorced, of the wife, or co-habitation by the wife with a person of the opposite sex who is not a member of her immediate family within the degrees of consanguinity prohibiting marriage, and whenever any of such event occurs, the husband's obligation to pay such support and separate maintenance, as described in paragraph 5, shall cease absolutely. In the event the husband predeceases the wife, the wife shall receive the proceeds of a life insurance policy on the life of the husband in the amount of $ 250,000.00. Said payment shall discharge and act as a full acquaintance of the husband's estate and its personal representative for the alimony payment set forth in paragraph 5. * * * 7. Wife's Sole and Separate Property, Real and Personal: The following property, both real and personal, shall be the sole and separate672 property of the wife, free and clear of any claim on the part of the husband. A. The parties hereto are the owners as tenants by the entireties with the right of survivorship all that certain piece or parcel of land commonly known as 4141 State Street, Erie, Pennsylvania which is more specifically described by Deed recorded in Erie County Deed Book 1134 at page 519. The husband shall hereby transfer and assign to the wife as her sole and separate property all of his right, title and interest in the premises described in Erie County Deed Book 1134 at page 519 by Quitclaim Deed to be executed at the time of signing of this agreement. Said Quitclaim Deed shall be held in Escrow by Michael J. Visnosky, Esquire, attorney for the husband, until such time as final Divorce Decree is entered at No. 2051-A-1982 in the Court of Common Pleas of Erie County, Pennsylvania. B. All household goods, furnishings, furniture, fixtures, appliances, linens, silverware, dishes and all other personal property presently located in the marital home shall be the sole and separate property of the wife free and clear of any claim on the part of the husband. C. All cash presently in the possession of673 the wife shall be and remain her separate property free and clear of all claim whatsoever on the part of the husband. D. All bank accounts or accounts in a savings, building and loan or savings and loan association held in the name of the wife shall be the sole and separate property of the wife, free and clear of any claim on the part of the husband. E. The wife shall be the sole owner free and clear of any claim on the part of the husband of the 1982 Mercedes Benz station wagon. F. Any stocks, bonds or other types of securities held in the name of the wife alone shall be the sole property of the wife free and clear of any claim on the part of the husband. G. Any and all property, real or personal, acquired by the wife after February 20, 1980, shall not be considered marital property and subject to distribution under this agreement and shall remain the sole and separate property of the wife. 8. Husband's Sole and Separate Property, Real and Personal: The following property, both real and personal, shall be the sole and separate property of the husband, free and clear of any claim on the part of the wife. A. The husband is the owner of all that certain piece or674 parcel of land commonly known as 625 Montroyal Drive, Erie, Pennsylvania, which is more specifically described by Deed recorded in Erie County Deed Book 1400 at page 407 which is subject to a first mortgage. The premises shall be the sole property of the husband and free and clear from any claim on the part of the wife. B. All household goods, furnishings, furniture, fixtures, appliances, linens, silverware, dishes and all other personal property presently located at 625 Montroyal Drive, Erie, Pennsylvania shall be the sole and separate property of the husband free and clear of any claim on the part of the wife. C. All cash presently in the possession of the husband shall be and remain his separate property free and clear of all claim whatsoever on the part of the wife. D. All bank accounts or accounts in savings, building and loan or savings and loan associations held in the name of the husband shall be the sole and separate property of the husband free and clear of any claim on the part of the wife. E. Any stocks, bonds, or other types of securities, including but not limited to all stock held by the husband in Too-All, Inc., Precise Plastic, Inc., Accu-Form, Inc., and675 Erie Rubber, Inc., shall be the sole and separate property of the husband free and clear of any claim on the part of the wife. F. Any and all real property owned by the husband in partnership with other individuals, partnerships or corporations shall be the sole and separate property of the husband free and clear of any claim on the part of the wife. G. Any and all property, real or personal, acquired by the husband after February 20, 1980, shall not be considered marital property and subject to distribution under this agreement and shall remain the sole and separate property of the husband. The Addendum provided, in pertinent part, as follows: 2. Additional Alimony: The husband shall pay to the wife for her separate maintenance and support as additional alimony the sum of $ 200,000.00 in accordance with the following schedule: (a) The sum of $ 50,000.00 shall be due and payable on or before August 31, 1982; and (b) The sum of $ 150,000.00 shall be due and payable after December 31, 1982 and before August 13, 1983. The provisions of paragraph 6 of the Property Settlement Agreement are incorporated herein by reference as if stated in full and are equally applicable676 to the husband's responsibility for the foregoing payments. On August 24, 1982, a Decree in Divorce was also entered by the Court of Common Pleas of Erie County. The decree specifically incorporated the Agreement and the Addendum entered on the same date by petitioner and Mr. Farrell. The Decree in Divorce also provided that the provisions of the Agreement and Addendum are subject to enforcement in accordance with the Pennsylvania Divorce Code of 1980, Act 26 of 1980, and any other applicable legislation of the Commonwealth of Pennsylvania. The decree and its incorporated documents have not been vacated or modified in any way. Pursuant to the Agreement, petitioner received monthly payments of $ 4,000 from Mr. Farrell for the months of September of 1982 through December of 1983. Pursuant to the Addendum she also received from him a payment of $ 50,000 on August 24, 1982, and a payment of $ 150,000 on or about August 15, 1983. On her individual returns for 1982 and 1983 petitioner reported the monthly payments as alimony but did not mention the other payments. On the 1983 return the income tax reported by her was $ 11,045. In a notice of deficiency mailed to petitioner on677 November 8, 1985, respondent determined that the $ 50,000 received by petitioner in 1982 was additional alimony. In a notice of deficiency mailed to petitioner on October 22, 1986, respondent determined that the $ 150,000 received by petitioner in 1983 was additional alimony. Respondent also determined that for 1983 petitioner was liable for an addition to tax under section 6661 in the amount of $ 7,353.55. In his answer filed in docket No. 44249-86 respondent claimed an increase in the addition to tax of $ 11,030.34 to $ 18,383.89. On his individual returns for 1982 and 1983, Mr. Farrell deducted as alimony the payments of $ 50,000 and $ 150,000 made to petitioner. In deficiency notices sent to Mr. Farrell, respondent disallowed these deductions and determined deficiencies in his income tax for 1982 and 1983. Mr. Farrell paid the determined deficiencies and filed claims for refund which at the time of trial had been disallowed or had not been acted upon by respondent. At the time of trial of these cases, a suit by petitioner and certain other former clients of Jay S. Nedell was pending against Mr. Nedell in the Court of Common Pleas of Erie County. The suit contains allegations678 of malpractice. Mr. Nedell was not practicing law in Erie County at that time. OPINION Payments Received by Petitioner Pursuant to AddendumThe principal issue presented in these cases is whether the payments of $ 50,000 and $ 150,000 received by petitioner from her former husband pursuant to the Addendum are alimony and thus includable in her gross income under section 71, 2 as respondent contends, or payments made in consideration of petitioner's relinquishment of an interest in property retained by her husband, as petitioner contends. 679 Under section 71(a)(1), as in effect for the years in question, a divorced "wife's gross income includes periodic payments (whether or not made at regular intervals) received after such decree in discharge of * * * a legal obligation which, because of the marital relationship, is imposed or incurred by the husband under the decree." It is apparent, therefore, that in order for the disputed payments to be includable in petitioner's income as alimony under section 71(a)(1), two requirements must be met: (1) the payments must have been periodic and (2) the payments must have been made to discharge a legal obligation arising out of the marital relationship between petitioner and Mr. Farrell. In section 71(c)(1) there is set forth the general rule that "installment payments discharging a part of an obligation the principal sum of which is, either in terms of money or property, specified in the decree * * * shall not be treated as periodic payments." But section 71(c)(2) goes on to provide that if the principal sum specified in the decree is to be paid or may be paid over a period ending more than 10 years from the date of the decree, then the installment payments shall be treated as680 periodic. In the cases before us, the Addendum, which is incorporated into the divorce decree, specifies that the sum of $ 200,000 is to be paid to petitioner in two payments, one of $ 50,000 due and payable on or before August 31, 1982, and one in the amount of $ 150,000 due and payable after December 31, 1982, but on or before August 13, 1983. Further the Addendum specifically states that these amounts are to be paid to petitioner as "additional alimony" and "for her separate maintenance and support." Since the sum of the payments designated additional alimony is stated, and since the payments are not extended over a period ending more than ten years from the date of the decree, petitioner argues that the payments are not periodic payments and are thus not includable in her income as alimony. The above argument of petitioner is contrary to section 1.71-1(d)(3)(i), Income Tax Regs., which provides as follows: Where payments under a decree, instrument, or agreement are to be paid over a period ending 10 years or less from the date of such decree, instrument, 681 or agreement, such payments are not installment payments discharging a part of an obligation the principal sum of which is, in terms of money or property, specified in the decree, instrument, or agreement (and are considered periodic payments for the purposes of section 71(a)) only if such payments meet the following two conditions: (a) Such payments are subject to any one or more of the contingencies of death of either spouse, remarriage of the wife, or change in the economic status of either spouse, and (b) Such payments are in the nature of alimony or an allowance for support. [Emphasis added.] The Addendum, which placed on Mr. Farrell the obligation to make the $ 200,000 in payments designated additional alimony, incorporated paragraph 6 of the Agreement which included the contingencies applicable to the $ 4,000 monthly payments provided for in the Agreement, which payments petitioner admits constitute alimony. The contingencies placed upon the monthly payments by paragraph 6 included the death or remarriage of petitioner. Since these contingencies are identical to the contingencies set forth in section 1.71-1(d)(3)(i)(a), Income Tax Regs.682 , the payments of $ 50,000 and $ 150,000 constitute periodic payments under the regulation. This conclusion is not affected by the fact that the $ 50,000 payment was made on August 24, 1982, the date the decree was entered, because that payment was not due under the terms of the Addendum until August 31, 1982. Consequently, if petitioner had died or remarried before August 31, 1982, Mr. Farrell would have been under no obligation to pay the $ 50,000. Thus under the terms of the Agreement and Addendum, which were incorporated into the divorce decree, both of the payments designated additional alimony were subject to contingencies and hence, the first part of the test established by section 1.71-1(d)(3)(i)(a), Income Tax Regs., was met. The second part of the test set out in section 1.71-1(d)(3)(i)(b), Income Tax Regs., is whether such payments are in the nature of alimony or an allowance for support. This part of the test is the same as the requirement under section 71(a) that to be considered alimony payments must be made in discharge of a legal obligation imposed by the marital relationship. See Mirsky v. Commissioner, 56 T.C. 664">56 T.C. 664, 672 n.2 (1971).683 Consequently, the disposition of this issue, as posed by the regulation, will not only dispose of the requirement that the payments be periodic, but it will also dispose of the requirement that the payments be made in discharge of a legal obligation arising because of the marital relationship. Petitioner next argues that we should reject the application of the "periodic payment" test of section 1.71-1(d)(3)(i), Income Tax Regs., because it is contrary to the plain language of the statute and is therefore invalid. She contends that the regulation broadens the term "periodic payment" beyond acceptable limits because it uses the words "alimony" and "contingencies" which do not appear in section 71. We find no merit in petitioner's argument. The term "alimony" is an integral part of section 71. The use in the regulation of the terminology "in the nature of alimony or an allowance for support" does not broaden the scope of section 71. Cf. Bishop v. Commissioner, 55 T.C. 720">55 T.C. 720, 724 (1971). Likewise, the use of the word "contingencies" does not broaden684 the scope of the statute. Even petitioner argues that the payments in question are not periodic because there was a "fixed principal sum," when the word "fixed" does not appear in the statute, but is clearly implied by the statutory language which provides for "discharging a part of an obligation the principal sum of which is * * specified in the decree." Sec. 71(c)(2). The identification of contingencies is certainly not inconsistent with the statute. The regulation here in question has been accepted and applied for many years. Its validity has been addressed and upheld by this Court and others. Salapatas v. Commissioner, 446 F.2d 79">446 F.2d 79, 81-82 (7th Cir. 1971), affg. a Memorandum Opinion of this Court; Martin v. Commissioner, 73 T.C. 255">73 T.C. 255, 259-261 (1979); and Kent v. Commissioner, 61 T.C. 133">61 T.C. 133, 137-138 (1973). Petitioner's next argument is that the characterization of the payments in the Addendum should not be binding on her for tax purposes because she had inadequate legal representation in the divorce proceeding. While inadequate legal representation may be persuasive in a malpractice action against her former attorney, 685 it cannot serve as a basis for rewriting an agreement several years after the entry of the divorce decree. This is especially true when the result may be a significant, and unbargained for, tax cost to the other party to the agreement. The terminology adopted by petitioner and Mr. Farrell was negotiated by their individual attorneys, each of whom was independently retained, had full authority to act for their client, and bargained at arm's length for the provisions and the terminology used in the Agreement and the Addendum. Under these circumstances petitioner is bound by the result of her counsel's negotiations. If she has a claim for inadequate legal representation, her proper remedy is to proceed with the malpractice action in the Court of Common Pleas. Respondent contends that since petitioner did not challenge in the Court of Common Pleas the validity of the divorce decree, which incorporated the Agreement and Addendum, she is estopped from collaterally attacking the decree for Federal tax purposes in this Court. This contention has been repeatedly rejected because it is well settled that 686 the determination of whether payments are in the nature of alimony or a part of a property settlement does not necessarily turn on the labels assigned to the payments by the divorce court, in the divorce decree, or by the parties in their agreement. Hesse v. Commissioner, 60 T.C. 685">60 T.C. 685, 691 (1973), affd. without published opinion 511 F.2d 1393">511 F.2d 1393 (3d Cir. 1975); Beard v. Commissioner, 77 T.C. 1275">77 T.C. 1275, 1283-1284 (1981). While state law controls the creation of a property right, Federal law controls the tax consequences. Schottenstein v. Commissioner, 75 T.C. 451">75 T.C. 451, 462 (1980). Further, while the parties agree that the characterization of the two disputed payments is essentially a question of fact to be determined from a consideration of all of the facts and circumstances involved in these cases, they each vigorously contend that when appropriate consideration is given to all such facts and circumstances they prevail. Respondent argues that such consideration leads to the conclusion that the payments were clearly alimony with petitioner contending that the conclusion is just as clear that the payments represented a further687 division of the marital property. We agree with the parties to the extent that the characterization of the payments is essentially a question of the parties' intent, which in turn, is to be resolved from all of the facts and circumstances. Hesse v. Commissioner, 60 T.C. at 691 (1973). On this issue the burden of proof is on petitioner to show that respondent's determination is in error. Rule 142(a). In these cases, petitioner's burden includes for all practical purposes establishing by a preponderance of the evidence that the Agreement and Addendum do not mean what they say. In determining the intent of the parties, in these cases we use for guidance the seven factors enumerated in Beard v. Commissioner, 77 T.C. at 1284-1285. Each of the Beard factors and their bearing upon these cases are discussed below. (1) Did the parties in their agreement express or imply an intention to effect a division of their assets with the disputed payments? The disputed payments were made pursuant to the Addendum which clearly labeled the payments as additional688 alimony. The Agreement which was incorporated into the Addendum specifically provided that the payments were for petitioner's separate maintenance and support. The payments were also subject to the same contingencies which would have terminated the undisputed alimony payments of $ 4,000 per month. The labels used by the parties in the structure of the agreement have to be given weight in determining the parties' intent. The probative value of the labels is greater when, as here, the labels were the subject of negotiations and each party was represented by independent counsel, and where the agreement contains separate provisions for support and for the division of marital property. Schottenstein v. Commissioner, 75 T.C. at 457. Fashioning a divorce settlement agreement in accordance with its tax consequences is an appropriate and legitimate practice. Fox v. United States, 510 F.2d 1330">510 F.2d 1330, 1334 (3d Cir. 1975). The use of the term "additional alimony," and the specification that the payments were for petitioner's "separate maintenance and support," cannot689 be considered an oversight. The parties, through their respective counsel, negotiated such terminology. They also negotiated the contingencies which would result in termination of the obligation to make the additional payments. The division of the marital property was negotiated and incorporated into the Agreement which was drafted prior to August 16, 1982. The division of property appeared in paragraphs 7 and 8 of the Agreement. In the Agreement separate and distinct provisions were used for alimony and for support. Paragraphs 7 and 8 were not disturbed by the Addendum. Placing the division of property in a separate part of the Agreement from the alimony provision and failing to refer to the property division in the Addendum which provides for the disputed payments as additional alimony, are all clear indications that the parties did not consider the payments as a further division of marital property. Warnack v. Commissioner, 71 T.C. 541">71 T.C. 541, 553-554 (1979). Petitioner was obviously aware of the provision contained in the Agreement prior to having her counsel demand the additional payments which were inserted in the Addendum, and she reviewed both documents on690 the day she signed them. Therefore, she knew, or should have known, that in the documents the additional payments were not referred to as being in exchange for her surrender of property but for her support and maintenance. Cf. Gammill v. Commissioner, 73 T.C. 921">73 T.C. 921, 927 (1980), affd. 710 F.2d 607">710 F.2d 607 (10th Cir. 1982). In this respect, the Agreement reads as follows: Representation of Parties by Counsel: Each party has been represented by an attorney who was selected by the party whom he represents, in the negotiation and preparation of this agreement. This agreement has been fully explained to each party by that [party's] attorney. Each party has carefully read this agreement and understands that it is the entire agreement between the parties and is completely aware, not only of its contents but of its legal effect. Consistent with the additional alimony label arrived at by the attorneys in the drafting of the Agreement and Addendum is the absence of any indication that property rights of petitioner were the subject of the negotiations leading to the Addendum. Furthermore, the record contains no evidence of any change in circumstances which691 would have caused her to renegotiate the property division as set out in the Agreement drafted prior to August 16, 1982. Such changes would have included the discovery of new or hidden assets or a substantial change in the nature or value of the property which she was to receive under the Agreement. In fact, there is no indication in the record that petitioner demanded the additional payments in exchange for any real or perceived right to additional marital property. To the contrary, the only indication of the reason for the Addendum is contained in the letter from Mr. Nedell to Mr. Visnosky and Mr. Visnosky's testimony as to their telephone conversations regarding this matter. Correspondence between the attorneys during the negotiation is probative as to the intent of the parties to the Addendum. Gerlach v. Commissioner, 55 T.C. 156">55 T.C. 156, 168 (1970). The letter and the testimony clearly show that her demand for the additional payments was made as a result of a change in petitioner's health which she discovered after the Agreement was drafted and which she believed might reduce her chances of receiving the maximum benefit from the alimony payments of $ 4,000 per month. 692 These were the representations used by petitioner's counsel in order to obtain Mr. Farrell's agreement to make the additional payments. We think it is also significant that Mr. Farrell did not agree to the additional alimony of $ 200,000 until he was advised that as alimony it was deductible by him. Even though the tax consequence intended or expected by a party to an agreement does not control the consequence, the party's belief as to what the consequence will be is a circumstance which has to be considered in determining their intent. Still another indication that the parties did not consider the disputed payments as being in exchange for a property interest is the absence of any interest during the deferral of the second payment. If petitioner viewed the payments as being in satisfaction of her property rights, interest on a deferred payment would have been a logical demand. Schottenstein v. Commissioner, 75 T.C. at 460. The record before us is devoid of any reliable evidence that petitioner and Mr. Farrell intended the additional payments as a further division of their marital property. In fact, the record as a whole clearly establishes an intent to693 increase petitioner's alimony by the amount of the payments. (2) Did the recipient surrender valuable property in exchange for the payments, i.e., did she surrender property interests recognizable under state law for the payments? In cases of this nature arising with respect to divorce decrees or agreements entered prior to 1985, the distinction 3 between a payment pursuant to a marital obligation and a payment in satisfaction in whole or part of a property settlement is vital because "Payments which are part of a property settlement are capital in nature and, therefore, are not subject to the provision of section 71." Gammill v. Commissioner, 73 T.C. at 926. However, if the recipient of a payment made pursuant to a divorce decree does not have any property rights under applicable state law to relinquish in return for the payment, then the payment is treated as alimony under section 71. Schottenstein v. Commissioner, 75 T.C. at 460-462. Hence to prevail in these cases, it is incumbent upon petitioner to show what property rights she had and which of694 those rights were surrendered in consideration for the additional payments. One of the factors used by the courts in characterizing a payment as either alimony or property settlement is whether the payment must be taken into consideration in determining whether the total property awarded to the recipient is approximately equal to one half of the property accumulated by the parties during their marriage. This factor is particularly significant where the taxpayers reside in a community property state because, generally speaking, in community property states both spouses have an equal interest in the marital property. Pennsylvania, however, is not a community property state and Section 401(d), 23 Pa. Cons. Stat. Ann., Pennsylvania Divorce Code of 1980 provides as follows: 695 In a proceeding for divorce or annulment, the court shall, upon request of either party, equitably divide, distribute or assign the marital property between the parties without regard to marital misconduct in such proportions as the court deems just after considering all relevant factors including: (1) The length of the marriage. (2) Any prior marriage of either party. (3) The age, health, station, amount and sources of income, vocational skills, employability, estate, liabilities and needs of each of the parties. (4) The contribution by one party to the education, training, or increased earning power of the other party. (5) The opportunity of each party for future acquisitions of capital assets and income. (6) The sources of income of both parties, including but not limited to medical, retirement, insurance or other benefits. (7) The contribution or dissipation of each party in the acquisition, preservation, depreciation or appreciation of the marital property, including the contribution of a party as a homemaker. (8) The value of property set apart to each party. (9) The standard of living of the parties established during the marriage. (10) The economic circumstances696 of each party at the time the division of property is to become effective. Under the foregoing section an equal distribution of property is not required in order for the distribution to be considered equitable. Morschhauser v. Morschhauser, 357 Pa. Super 339, 516 A.2d 10">516 A.2d 10, 15-16 (1986). In fact, the divorce court or master is not permitted to use as a starting point an equal division in arriving at an equitable distribution. Fratangelo v. Fratangelo, 360 Pa. Super 487, 520 A.2d 1195">520 A.2d 1195 (1987). Therefore, petitioner's interest under Pennsylvania law in the marital property may or may not be 50 percent of the total value of the marital estate as of the date of the divorce. Furthermore, in determining whether alimony is necessary and, if so, its nature, amount, duration, and manner of payment, the divorce courts in Pennsylvania are required to consider the marital property as well as the relative assets and liabilities of the parties and their respective contributions. 697 Section 501(b), 23 Pa. Cons. Stat. Ann., Pennsylvania Divorce Code of 1980. 4698 It should be noted that the list of factors to be considered by the Pennsylvania courts in awarding and determining the amount of alimony includes substantially all of the factors that are to be considered in arriving at an equitable distribution of marital property. Although the record is not clear, it appears that all property, except the marital residence which was held as tenants by the entirety, was titled in Mr. Farrell's name at the time the divorce action was filed. It also appears that petitioner entered the marriage with some property of her own. However, the record contains no indication of the value of the separate property brought into the marriage by petitioner or what happened to that property during the marriage. Consequently, petitioner's rights to property are limited to those set forth in the equitable distribution provisions of section 401(d) of the Pennsylvania Divorce Code. The record, however, does not reflect that any attempt was ever made to calculate the amount of property to which petitioner might have been entitled under section 401(d) of the Divorce Code. The absence of such a calculation plus the presence of certain other factors, such as petitioner's699 age at the date of the divorce, the natural concern over her health problems discovered after the Agreement was negotiated, as well as the lack of any evidence of employment experience gained by her either before or during the marriage, clearly indicate that the logical aim of all parties at the time the disputed payments were negotiated, agreed to, and inserted in the Addendum, would have been to provide petitioner with continued maintenance and support, i.e., alimony. Further support for this conclusion is the fact that a substantial property settlement had already been negotiated, agreed to by Mr. Farrell and the lawyers for both parties, and inserted in the Agreement before petitioner discovered her health problem and demanded the additional payments. Finally, since the elements for an equitable distribution of property under section 401(d) and the elements for an award of alimony under section 501(b) of the Divorce Code are very similar, any ambiguity concerning the purpose of the payments which remains after a consideration of all the facts and circumstances must be resolved against petitioner, the party with the burden of proof. (3) Were the payments fixed in amount and not700 subject to contingencies such as death or remarriage of the recipient? The payments were contingent and would have terminated upon the death or remarriage of petitioner. They were not a fixed sum payable in all events. (4) Were the payments secured? In paragraph 6 of the Agreement, Mr. Farrell was required to maintain an insurance policy on his life in the amount of $ 250,000. The policy was payable to petitioner and upon his death the payment of the policy would have discharged his estate from any further liability for the alimony payments of $ 4,000 per month. This provision was incorporated into the Addendum and made applicable to the additional payments of $ 50,000 and $ 150,000. There was no other security for the disputed payments by lien or otherwise. (5) Did the total property awarded to the recipient equal approximately one half of the property accumulated by the parties during marriage, with or without consideration of the payments at issue? This factor was fully discussed under (2) above. (6) Was the need of the recipient taken into consideration in determining the amount of the payments? Petitioner's current needs were not taken into consideration in determining701 the additional payments set forth in the Addendum. As indicated by the testimony of counsel for Mr. Farrell and as supported by correspondence from Mr. Nedell to Mr. Visnosky, the additional payments in the Addendum amounted to an acceleration of part of the alimony which petitioner was to receive under the terms of the Agreement. In the negotiations leading to the Addendum, it was never contended by petitioner's counsel that her current financial needs were justification for the additional payments. (7) Was there a separate provision for support elsewhere in the decree or agreement? In the Agreement, provision was made for monthly payments of $ 4,000 to petitioner for her support. The Agreement also contained a division of marital property. The additional payments of $ 50,000 and $ 150,000 were required under the Addendum and were referred to as support and additional alimony. Both the monthly payments in the Agreement and the additional payments in the Addendum were subject to the same contingencies and had the same security, i.e., the $ 250,000 insurance policy on Mr. Farrell's life. In support of her argument that the payments in question were for a property settlement and702 not alimony petitioner relies upon our decisions in Mirsky v. Commissioner, 56 T.C. 664">56 T.C. 664 (1971); Westbrook v. Commissioner, 74 T.C. 1357">74 T.C. 1357 (1980); and Norton v. Commissioner, 16 T.C. 1216">16 T.C. 1216 (1951), affd. 192 F.2d 960">192 F.2d 960 (8th Cir. 1951). We have considered these decisions and find many factual differences. They are clearly distinguishable and of no benefit to petitioner. In conclusion we are satisfied from a review of all of the facts and circumstances that the additional payments of $ 50,000 and $ 150,000 received by petitioner in 1982 and 1983, respectively, constitute alimony, and therefore, are includable in petitioner's gross income under section 71. In view of this conclusion, we need not consider respondent's contention that the rule in Commissioner v. Danielson, 378 F.2d 771">378 F.2d 771 (3d Cir. 1967), vacating 44 T.C. 549">44 T.C. 549 (1965), is applicable here. Addition to Tax Under Section 6661Under section 6661(a) an addition to tax is imposed on a substantial understatement of income tax. The addition703 to tax is 25 percent of the understatement. Section 6661(a) is applicable to all assessments made after October 21, 1986. On her Federal income tax return for 1983 petitioner reported an income tax of $ 11,045. However, we have found that petitioner failed to report the $ 150,000 in alimony which she received in 1983. As a result, she understated her income tax for 1983 by $ 73,535.58 which is in excess of ten percent of the tax of $ 84,580.58 required to be shown on the return. Therefore, the understatement of tax meets the statutory definition of "substantial understatement" contained in section 6661(b)(1)(A). In the Addendum, the additional payment of $ 150,000 in 1983 was clearly identified additional alimony and was intended for petitioner's separate maintenance and support. It is clear that monies received pursuant to a divorce decree as alimony or as maintenance and support are includable in the recipient's gross income under section 71. Petitioner not only failed to report the $ 150,000 payment but she also failed to disclose on her 1983 return, or in a statement accompanying the return, the facts relevant to the payment. Hence the substantial understatement cannot704 be reduced under the provisions of section 6661(b)(2)(B). Therefore, petitioner is liable for the addition to tax under section 6661(a) in the amount of $ 18,383.89. Decisions will be entered for the respondent. Footnotes1. All 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. Section 71 as amended and in effect for the years 1982 and 1983 reads in pertinent part as follows: Alimony and separate maintenance payments (a) General rule. -- (1) Decree of divorce or separate maintenance. -- If a wife is divorced or legally separated from her husband under a decree of divorce or of separate maintenance, the wife's gross income includes periodic payments (whether or not made at regular intervals) received after such decree in discharge of (or attributable to property transferred, in trust or otherwise, in discharge of) a legal obligation which, because of the marital or family relationship, is imposed on or incurred by the husband under the decree or under a written instrument incident to such divorce or separation. * * * (c) Principal sum paid in installments. -- (1) General rule. -- For purposes of subsection (a), installment payments discharging a part of an obligation the principal sum of which is, either in terms of money or property, specified in the decree, instrument, or agreement shall not be treated as periodic payments. (2) Where period for payment is more than 10 years. -- If, by the terms of the decree, instrument, or agreement, the principal sum referred to in paragraph (1) is to be paid or may be paid over a period ending more than 10 years from the date of such decree, instrument, or agreement, then (notwithstanding paragraph (1)) the installment payments shall be treated as periodic payments for purposes of subsection (a), but (in the case of any one taxable year of the wife) only to the extent of 10 percent of the principal sum. For purposes of the preceding sentence, the part of any principal sum which is allocable to a period after the taxable year of the wife in which it is received shall be treated as an installment payment for the taxable year in which it is received. (d) Rule for husband in case of transferred property. -- The husband's gross income does not include amounts received which, under subsection (a), are (1) includible in the gross income of the wife, and (2) attributable to transferred property. (e) Cross references. -- (1) For definitions of "husband" and "wife", see section 7701(a) (17). (2) For deduction by husband of periodic payments not attributable to transferred property, see section 215. (3) For taxable status of income of an estate or trust in case of divorce, etc., see section 682.↩3. The distinction was substantially, if not entirely, eliminated with respect to divorce decrees or agreements entered after December 31, 1984, by amendments to section 71↩ by Pub.L. 98-369 (Tax Reform Act of 1984).4. Section 501(b) provides: In determining whether alimony is necessary, and in determining the nature, amount, duration, and manner of payment of alimony, the court shall consider all relevant factors including: (1) The relative earnings and earning capacities of the parties. (2) The ages, and the physical, mental and emotional conditions of the parties. (3) The sources of income of both parties including but not limited to medical, retirement, insurance or other benefits. (4) The expectancies and inheritances of the parties. (5) The duration of the marriage. (6) The contribution by one party to the education, training or increased earning power of the other party. (7) The extent to which it would be inappropriate for a party, because said party will be custodian of a minor child, to seek employment outside the home. (8) The standard of living of the parties established during the marriage. (9) The relative education of the parties and the time necessary to acquire sufficient education or training to enable the party seeking alimony to seek appropriate employment. (10) The relative assets and liabilities of the parties. (11) The property brought to the marriage by either party. (12) The contribution of a spouse as homemaker. (13) The relative needs of the parties. (14) The marital misconduct of either of the parties during the marriage; however, the marital misconduct of either of the parties during separation subsequent to the filing of a divorce complaint shall not be considered by the court in its determinations relative to alimony.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621750/	Abbott Hoffman and Anita Hoffman, Petitioners v. Commissioner of Internal Revenue, RespondentHoffman v. CommissionerDocket No. 7616-74United States Tax Court63 T.C. 638; 1975 U.S. Tax Ct. LEXIS 183; March 12, 1975, Filed 1975 U.S. Tax Ct. LEXIS 183">183 Rules 22 and 60(a), Tax Court Rules of Practice and Procedure. -- A notice of deficiency was sent to petitioners on Apr. 24, 1974. A letter signed by petitioners' accountant, who is not admitted to practice before the Tax Court, was mailed in an envelope postmarked July 10, 1974, addressed to the United States Tax Court, 26 Federal Plaza, New York City, where the Court maintains courtroom facilities. The envelope containing the letter-petition was found by a deputy trial clerk when a trial session began in the New York facilities on Sept. 9, 1974, and was sent to the Tax Court in Washington, D.C., and filed on Sept. 11, 1974. Respondent moved to dismiss the case for lack of jurisdiction on the ground that the letter-petition was not timely filed by the proper party. Held: The petition was not timely filed. Sec. 7502(a)(2), I.R.C. 1954, is not applicable because the envelope containing the petition was not properly addressed to the Court in Washington, D.C., as required by Rule 22, Tax Court Rules of Practice and Procedure. In addition, the petition was not filed by a person shown to be authorized to take such action on behalf of the petitioners under Rule 60(a). Thomas E. Bulleit, for the respondent. Dawson, Judge. DAWSON63 T.C. 638">638 OPINIONThis motion to dismiss for lack of jurisdiction was assigned to and heard by Commissioner Randolph F. Caldwell, Jr. The Court agrees with and adopts his opinion which is set forth below. 163 T.C. 638">639 OPINION OF THE COMMISSIONERThe case is presently before the Court on respondent's motion to dismiss for lack of jurisdiction, filed on October 24, 1974, and called for hearing on November 27, 1974. Respondent appeared by his counsel who argued in support of his motion. There was no appearance by or on behalf of petitioners. At the conclusion of the hearing the motion was taken1975 U.S. Tax Ct. LEXIS 183">186 under advisement. The motion is predicated upon two grounds: (1) The petition was not filed within the time prescribed by statute, and (2) the petition was not filed by a proper party.A statutory notice of deficiency was mailed to Abbott and Anita Hoffman, for the taxable year 1970, on April 24, 1974. Thereafter, on September 11, 1974, there was filed, as a petition of Abbott and Anita Hoffman, a letter from Noah Kimerling, an accountant who is not admitted to practice in the Tax Court. His letter reads, in part, as follows:I am an accountant who prepared the personal income tax return (1040) for Abbott and Anita Hoffman, PO Box 213, Cooper Station, New York, N.Y. 10003, for the calendar year ended December 31, 1970. My clients have received a Notice of Deficiency dated April 24, 1974, reference AU:R:90 D. S. Croton, which I am now contesting for the following reasons.I have attempted to investigate the underlying facts pertaining to the deduction claimed on the above taxpayers return for 1970 on Schedule A, Miscellaneous Deductions (business bad debt). However, I have been unsuccessful in locating Abbott Hoffman and am left with no other conclusion than that the taxpayer 1975 U.S. Tax Ct. LEXIS 183">187 is missing and is either a fugitive or dead. I have not had any contact with him nor heard from him since February 1974.The business bad debt in question deals specifically with Abbott Hoffman and his business relationship with Richard Moore, who incurred the bad debt. Since I cannot contact Mr. Hoffman, I am, at the present time, totally incapable of mounting a contest, although I believe a meritorious contest could be made.The date of September 11 on which that document was filed was 140 days after the mailing of the notice of deficiency. However, it was received by the Court at its principal office in Washington, D.C., in an envelope which had been sent by registered mail and which bore a postal meter date of July 10, 1974, a date 77 days after the mailing of the notice of deficiency. That envelope was addressed as follows:63 T.C. 638">640 United States Tax Court26 Federal PlazaNew York, N.Y.Twenty-six Federal Plaza is the location of a Federal office building in New York City. The Tax Court has, since 1968, occupied space in that building, consisting of courtrooms, chambers, office facilities, and conference rooms. The Tax Court conducts trial sessions in those facilities 1975 U.S. Tax Ct. LEXIS 183">188 at various times during the months of September through June, but generally not during the months of July and August. When sessions are being conducted in those facilities, there is present, in addition to the Judge or Commissioner of the Court conducting the session, one of the Court's deputy trial clerks. At other times there is no Judge or Commissioner, or member of the staff of the Clerk of the Court, or any other Court personnel at the New York facilities.What apparently happened with the petition in the instant case is that it was found in the room assigned for the deputy trial clerk's use at the time of the trial session which began in the New York facilities on September 9, 1974. The deputy trial clerk promptly forwarded the document to the office of the Clerk of the Court in Washington, D.C. (its principal office, as provided in section 7445, I.R.C. 1954), where it was received on September 11, 1974, and filed that same day. A copy was served upon respondent on September 16, and he filed his motion to dismiss for lack of jurisdiction on October 24, 1974.Section 6213(a) of the Code provides that where a notice of deficiency, as authorized by section 6212, has been mailed1975 U.S. Tax Ct. LEXIS 183">189 to a taxpayer, he may file a petition with the Tax Court. If he does so, it must be filed within 90 days after the notice is mailed (or within 150 days, if the notice is addressed to a person outside the United States). If the petition is not filed within those time limits, this Court has no jurisdiction. Baker L. Axe, 58 T.C. 256">58 T.C. 256 (1972); Earl H. C. Lurkins, 49 T.C. 452">49 T.C. 452 (1968). The Court can only file a document when it is received, and in this case, where the petition was received and filed 140 days after the notice of deficiency was mailed, it is clear that if only section 6213(a) is considered, the petition was late. However, section 7502 must also be considered. It was enacted as part of the Internal Revenue Code of 1954 to correct the inequities and hardships to taxpayers 63 T.C. 638">641 whose petitions were delayed in being delivered to the Court through no fault of their own, but rather to the mails not functioning properly. For an example of such a situation, see Arkansas Motor Coaches v. Commissioner, 198 F.2d 189">198 F.2d 189 (C.A. 8, 1952).Section 7502(a)(1) provides that if any document required1975 U.S. Tax Ct. LEXIS 183">190 to be filed within a prescribed period under authority of any provision of the internal revenue laws is, after such period, delivered by the United States mails to the office with which such document is required to be filed, the date of the United States postmark stamped on the cover in which such document is mailed shall be deemed to be the date of delivery of the document. Section 7502(a)(2) requires that the postmark date be a timely one and that the document have been "deposited in the mail in the United States in an envelope or other appropriate wrapper, postage prepaid, properly addressed to the agency, officer, or office with which the return, claim, statement, or other document is required to be filed."Rule 22, Tax Court Rules of Practice and Procedure, provides that "Any pleadings or other papers to be filed with the Court must be filed with the Clerk in Washington, D.C., during business hours, except that the Judge presiding at any trial or hearing may permit or require documents pertaining thereto to be filed at that particular session of the Court, or except as otherwise directed by the Court." In the instant case neither exception mentioned in the rule is applicable. 1975 U.S. Tax Ct. LEXIS 183">191 The only way for the letter-petition in this case to be regarded as having been timely filed is for the postmark date of July 10, 1974, which falls within the 90-day period, to be treated as the date of delivery of the petition to the Court under section 7502. But that section is not operative unless the envelope in which the petition was mailed was "properly addressed." The clear mandate of Rule 22 is that the envelope should have been addressed to the Court in Washington, D.C., 2 and that such address must be 63 T.C. 638">642 regarded as the proper address for petitions to be filed with the Tax Court within the intendment of section 7502(a)(2).1975 U.S. Tax Ct. LEXIS 183">192 Accordingly, we conclude that the requirements of section 7502(a)(2) have not been met, and that section cannot be applied in this case. It follows that the filing of the petition with the Court on September 11, 1974, the date on which it was delivered to the Court in Washington, was untimely. Therefore, the Court is without jurisdiction, and the respondent's motion to dismiss will be granted on the ground of untimely filing.A second reason for dismissing this case for lack of jurisdiction is that the petition was not filed by the proper party. See Rule 60(a), Tax Court Rules of Practice and Procedure. The case was not brought by the persons against whom the Commissioner determined the deficiency. Mr. Kimerling, the accountant who is not admitted to practice before this Court, was obviously acting as a volunteer, and his actions have not been ratified by Abbott and Anita Hoffman. See Percy N. Powers et al., 20 B.T.A. 753">20 B.T.A. 753, 20 B.T.A. 753">756 (1930); Soren S. Hoj, 26 T.C. 1074">26 T.C. 1074 (1956). This situation is clearly distinguishable from Norris E. Carstenson, 57 T.C. 542">57 T.C. 542 (1972).An appropriate order will1975 U.S. Tax Ct. LEXIS 183">193 be entered. Footnotes1. Since this is a preliminary jurisdictional motion, the Court has concluded that the posttrial procedures of Rule 182, Tax Court Rules of Practice and Procedure↩, are not applicable in these particular circumstances.2. In this connection, we note that the statutory notice of deficiency, Form L-21B (Rev. 2-74), utilized by the Internal Revenue Service, contains the following paragraph:"If you decide not to sign and return the statement, the law requires that after 90 days from the date of mailing this letter (150 days if this letter is addressed to you outside the United States) we assess and bill you for the deficiencies. However, if within the time stated you contest this determination by filing a petition with the United States Tax Court, Box 70, Washington, D.C. 20044, we may not assess any deficiencies and bill you until after the Tax Court has decided your case. The time in which you may file a petition with the Court (90 or 150 days, as the case may be) is fixed by law, and the Court cannot consider your case if your petition is filed late. [Emphasis supplied.]" (Note↩: The address of the United States Tax Court since Jan. 20, 1975, is 400 Second Street, N.W., Washington, D.C. 20217.)	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621751/	JOSEPH W. ROBINSON, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Robinson v. CommissionerDocket No. 33096.United States Board of Tax Appeals21 B.T.A. 907; 1930 BTA LEXIS 1770; December 26, 1930, Promulgated 1930 BTA LEXIS 1770">1770 In 1915 the petitioner was permitted by the principal stockholder of the Libbey Glass Co. to purchase from him 200 shares of the capital stock of the company, which was his employer, at a price less than its real value. In 1922 the petitioner received stock in another corporation in exchange for his shares of stock in the Libbey Glass Co., which had a value greatly in excess of the price actually paid for the Libbey Glass Co. stock when acquired by him in 1915. Held, that the evidence does not support the contention of the petitioner that the difference between the purchase price in 1915 and its real value at that date was a gift to the petitioner, but that the purchase price is the basis for the determination of the profit realized in 1922 upon the disposition of the stock. Thomas O. Marlar, Esq., for the petitioner. P. M. Clark, Esq., and C. C. Holmes, Esq., for the respondent. SMITH 21 B.T.A. 907">908 This is a proceeding for the redetermination of a deficiency in income tax for 1922 of $5,635.60. The petitioner alleges that in the determination of the deficiency the Commissioner committed the following errors: (a) Addition to income of $32,1051930 BTA LEXIS 1770">1771 as profit on liquidation of 200 shares of Libbey Glass Co. stock; (b) Disallowance of fair market value of Libbey Glass Co. stock at the time received for the purpose of computing gain or loss on liquidation. FINDINGS OF FACT. Upon his graduation from college the petitioner, in 1911, became an employee of the Libbey Glass Co. His employment was at the instance of E. D. Libbey, the principal stockholder, who had been an intimate friend of his father for many years and a lifelong friend of the petitioner. Petitioner received no salary from the company in 1911. In 1912 his compensation was at the rate of $35 per month. Libbey desired the petitioner to learn the business thoroughly. He was, therefore, employed in many different departments of the company in different capacities for that purpose. In 1914 he had an offer of employment from the Owens Bottling Co. at a large increase in salary. He talked about this offer with Libbey, who told him that he would like to have him stay with the Libbey Glass Co. He further told him that if he would do so he would make arrangements to let the petitioner have 200 shares of stock in the company at a price of $200 per share and that1930 BTA LEXIS 1770">1772 in payment therefor he would accept the petitioner's promissory note secured by the shares; that the note would bear 5 per cent interest and that probably the dividends would eventually pay off the note. The stock was worth more than $200 per share, but not in excess of $396.52 per share. In 1915 the petitioner secured the 200 shares at the price and upon the terms stated by Libbey. The petitioner took up the note before it had been matured by the application of dividends and eventually became the owner of the 200 shares in question. The petitioner continued on intimate terms with Libbey during the balance of his life. Libbey died in January, 1925, and shortly thereafter the petitioner became the active head of the Libbey Glass Co. The Libbey Glass Co. was a close corporation. There were but few stockholders. There were no sales of the stock in or about 1915 to the knowledge of the petitioner. In 1922 the petitioner exchanged his 200 shares of stock in the Libbey Glass Co. for shares of stock in a successor corporation of a fair market value of $72,105. In his income tax return for 1922 the petitioner reported no gain from this transaction. Upon the audit 21 B.T.A. 907">909 1930 BTA LEXIS 1770">1773 of this return the Commissioner increased the income reported by $32,105, the difference between the cost to the petitioner of the 200 shares of stock in question and the admitted value of the shares received in exchange. OPINION. SMITH: The question presented by this proceeding is the proper basis for the determination of the gain upon the exchange of petitioner's 200 shares of stock in the Libbey Glass Co. in 1922 for shares of stock which had an admitted value of $72,105. The respondent contends that the basis is the cost of the property. (Section 202(a) of the Revenue Act of 1921.) The petitioner contends, on the other hand, that the basis is the fair market value of the stock at the date that he received it in 1915. What this fair market value is is not disclosed by the record except that it was in excess of $200 per share and not in excess of $396.52. The petitioner contends that Libbey made him a gift of part of the market value of the shares of stock received in 1915; that the amount of this gift was the difference between $40,000 and the fair market value of the shares. In making this contention the petitioner places chief reliance upon the decision of the Board1930 BTA LEXIS 1770">1774 in , wherein we held that the difference between the fair market value of land conveyed to Robertson and the amount paid therefor constituted a gift and that the taxable gain arising from the sale of the land was the difference between the fair market value at the time received and the selling price. In that case the facts were that Robertson's mother-in-law, who lived with him, offered to sell him land of a fair market value of $300 per acre at $165 per acre; that Robertson protested that the land was worth much more than that and that he would pay his mother-in-law $200 an acre for the land; that the purchase was therefore made at a price of $200 per acre. We were of the opinion that Robertson's mother-in-law made him a gift of the difference between the fair market value of the land and the amount which he paid for it. We think that the facts in the Robertson case were substantially different from those which obtain in the instant proceeding. The stock of the Libbey Glass Co. was closely held. The petitioner knew of no sales of the stock in or about 1915. If the market value was only slightly in excess of $200 per share1930 BTA LEXIS 1770">1775 there would seem to be no basis for a contention that Libbey intended to make a gift. Libbey did not state to the petitioner that he intended to make the petitioner a gift. Upon this point the petitioner deposed that, when he discussed with Libbey the offer which he had received from the Owens Bottling Co., Libbey "* * * told me he wished I would stay where I was and we talked about the future, about my future 21 B.T.A. 907">910 with that company [Libbey Glass Co.] and it was during that conversation that he told me that he would make arrangements to let me have stock in the company, which I did not own at that time." Asked as to what, in the petitioner's opinion, the stock was worth in 1915, the petitioner stated: Well, I could not say exactly what it was worth, but I recall distinctly that Mr. Libbey told me he was letting me have it at a much lower figure than it's real value but that he was doing it as a personal favor to me. He was doing it in a way to make it more attractive for me to stay there. The petitioner further testified: Q Did you or did you not consider yourself a representative of Mr. Libbey at the plant? A I always thought so. Q Did you advise him of1930 BTA LEXIS 1770">1776 the conditions at the plant? A Always during his life. The basis for the determination of the gain or loss upon the sale or other disposition in 1922 of property acquired by gift prior to 1921 is "the fair market price or value of such property at the time of such acquisition." (Section 202(a)(3), Revenue Act of 1921). Where it is clear from the evidence that a vendor of property intends to make a gift of a part of the value of the property sold, we see no objection to adding the value of the gift to the purchase price of the property for the purpose of determining the actual gain realized by the vendee upon a subsequent sale of the property. That was the principal applied by the Board in the Robertson case, supra. In all such cases, however, the facts must be closely scrutinized. As we said in : * * * Whether such difference [difference between the fair market value and purchase price] could be added to the purchase price to arrive at the basis to be used in computing gain or loss, where the alleged gift was made prior to January 1, 1921, is a question which we find it unnecessary to discuss; certainly it could be1930 BTA LEXIS 1770">1777 done, if at all, only where the evidence of a gift and its value is most convincing. We are of the opinion that in the instant proceeding the evidence does not warrant a finding that Libbey intended to make or did make a gift to the petitioner in 1915. At most, he sold shares of stock in a closely held corporation at a bargain price and a gift of a part of the market value can not be predicated upon such slight evidence of an intention to make a gift. The determination of the respondent that the petitioner realized a profit of $32,105 upon the disposition of the 200 shares of stock in question in 1922 is sustained. Reviewed by the Board. Judgment will be entered for the respondent.21 B.T.A. 907">911 STERNHAGEN, concurring: I agree that the evidence does not prove a gift and that the basis for determining the gain is the cost of $200 a share irrespective of the value of the shares when purchased. But I can not accept the dicta that a transfer of title to a single piece or lot of property for a price may be treated as part gift and part sale because the price is less than the value of the property, - that "there is a gift of a part of the value of the property." The transaction1930 BTA LEXIS 1770">*1778 is no less a single purchase or sale merely because the price is inadequate any more than it would be if the price were excessive; in which case, I take it, the seller could not escape tax on the theory that the gain was really a gift. And, in my opinion, the violation of accepted legal concepts is not softened by a bland distinction based on a family or friendly relation between the parties which makes it easy or hard to believe that such a "gift" was intended. MORRIS, VAN FOSSAN, MURDOCK, and MATTHEWS agree with this concurring opinion.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621752/	CARL AND RACHEL FISHER, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentFisher v. CommissionerDocket No. 28033-86United States Tax CourtT.C. Memo 1994-434; 1994 Tax Ct. Memo LEXIS 442; 68 T.C.M. 599; August 25, 1994, Filed 1994 Tax Ct. Memo LEXIS 442">442 An appriate order will be entered denying petitioners' motion to restrain collection of additions to tax under section 6653(a) and increased interest under section 6621(c) as moot, denying respondent's motion for entry of decision, and granting petitioners' motion for entry of decision in that a decision reflecting the foregoing and concessions herein shall be entered pursuant to Rule 155. For petitioners: Ron B. Barber, Richard K. Gradel, and James Stamper (specially recognized). For respondent: Mary P. Hamilton and William T. Hayes. FAYFAYMEMORANDUM FINDINGS OF FACT AND OPINION FAY, Judge: This case was assigned to Special Trial Judge Norman H. Wolfe pursuant to the provisions of section 7443A(b)(4) and Rules 180, 181, and 183. 1 The Court agrees with and adopts the opinion of the Special Trial Judge, which is set forth below. 1994 Tax Ct. Memo LEXIS 442">443 OPINION OF THE SPECIAL TRIAL JUDGE WOLFE, Special Trial Judge: This case is before the Court on petitioners' motion to restrain collection under Rule 55 and on motions for entry of decision filed by both petitioners and respondent. Respondent has administratively restrained collection procedures during our consideration of this matter, so petitioners' motion to restrain collection has become moot. Petitioners assert that respondent improperly assessed additional income tax, additions to tax, and interest under the peculiar circumstances of this case. The underlying issue involves the proper interpretation and enforcement of a Stipulation of Settlement (the piggyback agreement) executed by petitioners and respondent. The interpretation of the Stipulation of Settlement is the only issue remaining in dispute in this case. Respondent determined the following deficiencies in and additions to petitioners' Federal income taxes: Additions to Tax UnderYearDeficiencySec. 6653(a)(1) Sec. 6653(a)(2) 1980$ 11,573$ 578.65--19814,277213.851198218,473923.651Additions to Tax UnderYearSec. 6659 Sec. 6621(c)1980$ 3,471.90219811,283.10219825,541.9021994 Tax Ct. Memo LEXIS 442">444 The deficiencies above result from respondent's disallowance of claimed partnership losses which occurred in taxable year 1982. The deficiencies and related additions to tax for taxable years 1980 and 1981 result from respondent's disallowance of the claimed carrybacks from the taxable year 1982 to those taxable years. Petitioners dispute only respondent's assessment of the additions to tax under section 6653(a) and increased interest under section 6621(c). Petitioners contend that they are not liable for the disputed additions to tax and increased interest under the terms of a piggyback agreement executed by counsel and filed with this Court, and we agree. FINDINGS OF FACT Some of the facts have been stipulated and are so found. The stipulated facts and attached exhibits are incorporated by this reference. At the time the petition was filed, petitioners resided in Tulsa, Oklahoma. This case is part of a litigation project designated as the Plastics Recycling cases. In 1982, petitioner Carl Fisher acquired a 2.91-percent limited partnership interest in Esplanade Associates, a partnership which is part of the Plastics Recycling group. See Provizer v. Commissioner, T.C. Memo. 1992-177,1994 Tax Ct. Memo LEXIS 442">445 affd. without published opinion 996 F.2d 1216">996 F.2d 1216 (6th Cir. 1993), a decision on the merits with respect to a Plastics Recycling case for a pre-TEFRA year. Esplanade Associates purported to lease six Sentinel EPE Recyclers. Petitioners claimed their pro rata share of partnership losses and tax credits on their 1982 joint Federal income tax return. Respondent disallowed petitioners' claimed losses and investment credit related to Esplanade Associates for taxable year 1982. On June 9, 1987, this Court conducted a pretrial conference with counsel for the parties to Plastics Recycling cases for the purpose of setting guidelines for disposition of this group of cases. Petitioners' case was identified as part of the Plastics Recycling project in January of 1987. Petitioners' counsel was, therefore, invited to participate at the pretrial conference. In lieu of making an appearance at the pretrial conference, petitioners' counsel filed a written statement with the Court. At the pretrial conference, counsel for numerous taxpayers and respondent's counsel discussed selection of test cases for the Plastics Recycling group. Counsel discussed the common issues and1994 Tax Ct. Memo LEXIS 442">446 distinguishing factors of various Plastics Recycling cases. The attorneys present at the pretrial conference agreed that two cases involving an owner of recycling equipment would be test cases. One of those cases concerned taxable year 1981 and the other concerned taxable year 1982. In addition, the attorneys agreed that probably at least one case involving a taxpayer who was a partner in one of the partnerships which leased the recycling equipment would be chosen as another test case. On June 12, 1987, this Court ordered that the lead counsel for taxpayers in Plastics Recycling cases and respondent designate test or lead cases which would present all issues involved in the Plastics Recycling cases. In a letter dated August 14, 1987, respondent notified the Court that lead counsel for taxpayers and respondent had selected the following docketed cases as the lead cases in the Plastics Recycling group: (1) Fine v. Commissioner, docket No. 35437-85; (2) Miller v. Commissioner, docket No. 10382-86; and (3) Miller v. Commissioner, docket No. 10383-86. In early 1988, the Fine case was concluded without trial. The parties, thereafter, selected, and the Court designated, 1994 Tax Ct. Memo LEXIS 442">447 the case of Provizer v. Commissioner, docket No. 27141-86 as a lead case along with the two Miller cases. In the letter of August 14, 1987, respondent stated: The Court already has identified the two Miller cases as lead cases. Those two cases should serve as lead cases for all petitioners who were involved as owners of equipment in Plastics Recycling investments and along with the Fine case, as lead cases for all issues common to the project. The Fine case raises issues from petitioners' involvement in the Phoenix Recycling Group partnership and should serve as the lead case for all petitioners who were involved as lessees of equipment in Plastics Recycling investments and, along with the two Miller cases, as the lead case for all issues common to the project.The letter was designated by respondent's counsel as a joint report to the Court and was mailed to all taxpayers or their representatives involved in the Plastics Recycling project, including petitioners' counsel. At the pretrial conference, respondent was asked to prepare Stipulation of Settlement agreements (piggyback agreements) with respect to the Plastics Recycling project, so that taxpayers1994 Tax Ct. Memo LEXIS 442">448 who did not wish to litigate their cases individually could agree to be bound by the results of the lead cases. After the lead counsel for taxpayers and respondent had agreed upon the lead cases, respondent's counsel prepared piggyback agreements and offered them to petitioners and other taxpayers. The piggyback agreement, which is the underlying subject of this motion, was signed by counsel for petitioners and respondent and filed with the Court on September 12, 1988. In the piggyback agreement, petitioners agreed to be bound by the results of the three test cases. The piggyback agreement provided: STIPULATION OF SETTLEMENT FOR TAX SHELTER ADJUSTMENTS With respect to all adjustments in respondent's notice of deficiency relating to the Plastics Recycling tax shelter, the parties stipulate to the following terms of settlement: 1. THE ABOVE ADJUSTMENT IS THE ONLY ISSUE IN THIS CASE; 2. The above adjustments, as specified in the preamble, shall be determined by application of the same formula as that which resolved the same tax shelter adjustments with respect to the following taxpayers: Names: Harold M. Provizer and Joan Provizer v. Commissioner of Internal Revenue1994 Tax Ct. Memo LEXIS 442">449 Tax Court Docket No.: 27141-86Names: Elliot I. Miller v. Commissioner of Internal RevenueTax Court Docket No.: 10382-86Names: Elliot I. Miller and Myra K. Miller v. Commissioner of Internal RevenueTax Court Docket No.: 10383-86(hereinafter the CONTROLLING CASE); 3. All issues involving the above adjustments shall be resolved as if the petitioners in this case was/were the same as the taxpayers in the CONTROLLING CASE; a. If the Court finds that any additions to tax or the section 6621(c) interest are applicable to the underpayment attributable to the above-designated tax shelter adjustments, the resolution of the tax shelter issue and the applicability of such addition to tax or interest to that tax shelter issue in the CONTROLLING CASE, whether by litigation or settlement, shall apply to petitioners as if the petitioners in this case was/were the same as the taxpayers in the CONTROLLING CASE; 4. If the adjustment is resolved in the CONTROLLING CASE in a manner which affects the same issue in other years (e.g., * losses in later years or affects depreciation schedules), the resolution will apply to petitioners' later years as if the1994 Tax Ct. Memo LEXIS 442">450 petitioners in this case was/were the same as the taxpayers in the CONTROLLING CASE; 5. A decision shall be submitted in this case when the decision in the CONTROLLING CASE (whether litigated or settled) becomes final under I.R.C. sec. 7481; 6. If the CONTROLLING CASE is appealed, the petitioners consents to the assessment and collection of the deficiency(ies), attributable to the adjustments formulated by reference to the Tax Court's opinion, notwithstanding the restrictions under I.R.C. sec. 6213(a); 7. The petitioners in this case will testify or provide information in any case involving the same tax shelter adjustment, if requested; and 8. The petitioners in this case consents to the disclosure of all tax returns and tax return information for the purpose of respondent's discovering or submitting evidence in any case involving the same shelter adjustments.The Miller cases were disposed of by settlement agreement between the taxpayers and respondent in December of 1988. Decision documents based upon those settlements were entered by this Court on December 22, 1988. Pursuant to the settlement, the taxpayers in the Miller cases were not liable for either the1994 Tax Ct. Memo LEXIS 442">451 additions to tax under section 6653(a) or increased interest for tax-motivated transactions under section 6621(c). None of the taxpayers who had signed "piggyback agreements" in relation to the Plastics Recycling project were Schedule C owners of equipment. Respondent did not notify petitioners or any other taxpayers of the settlement of the Miller cases. The Provizer case was decided by this Court on March 27, 1992. Provizer v. Commissioner, T.C. Memo. 1992-177, affd. without published opinion 996 F.2d 1216">996 F.2d 1216 (6th Cir. 1993). In our Provizer opinion and in the affirmance by unpublished opinion of the Court of Appeals, all of the Plastics Recycling issues were decided for respondent, including the additions to tax under section 6653(a) and increased interest under section 6621(c). On August 17, 1992, respondent assessed tax, additions to tax, and interest for the taxable year 1982 pursuant to our decision in the Provizer case and paragraph 6 of the Stipulation of Settlement in this case, set forth above. Upon receipt of this assessment, petitioners inquired as to the status of the Miller cases. Respondent1994 Tax Ct. Memo LEXIS 442">452 did not provide petitioners' counsel information concerning those cases. Thereafter, petitioners obtained a copy of the settlement decision elsewhere. Upon review of the piggyback agreement and the Miller settlement decision, petitioners filed their motion protesting respondent's assessment. In their brief petitioners also request administrative and litigation costs under section 7430. The parties subsequently filed separate motions for entry of decision. OPINION The motions for entry of decision here under consideration involve the interpretation and enforcement of a Stipulation of Settlement (the piggyback agreement) entered into by petitioners and respondent. The term "Stipulation of Settlement" in this case is essentially a misnomer. The piggyback agreement did not settle or compromise the matters in dispute but merely prescribed a procedure whereby those matters would be adjudicated. See Adams v. Commissioner, 85 T.C. 359">85 T.C. 359, 85 T.C. 359">369 (1985). Nonetheless, the agreement is still a stipulation under Rule 91. Rule 91(e) provides that the Court will not permit a party to a stipulation to qualify, change, or contradict a stipulation in whole or1994 Tax Ct. Memo LEXIS 442">453 in part, except that it may do so where justice requires. Neither respondent nor petitioners ask us to set aside the piggyback agreement; both assert that the agreement is clear and unambiguous and should be enforced according to its terms. An agreement is a manifestation of mutual assent. Piarulle v. Commissioner, 80 T.C. 1035">80 T.C. 1035, 80 T.C. 1035">1042 (1983); Webster v. Commissioner, T.C. Memo. 1992-538. The piggyback agreement clearly reflects the parties' mutual assent to settle the case upon disposition of "the CONTROLLING CASE." The parties dispute which case(s) are binding with respect to the issues of additions to tax under section 6653(a) and increased interest under section 6621(c). Petitioners maintain that the clear language of the piggyback agreement binds them to the results of all three of the cases which are designated as "the CONTROLLING CASE" in the piggyback agreement. Petitioners contend that they are entitled to the most favorable disposition of "the CONTROLLING CASE" with respect to all issues common to the Plastics Recycling project. They assert that respondent was required to offer them the Miller settlement1994 Tax Ct. Memo LEXIS 442">454 terms. Respondent on the other hand asks us to interpret the piggyback agreement so that petitioners are only bound by the results of the Provizer case and are, therefore, liable for the additions to tax under section 6653(a) and increased interest under section 6621. Respondent contends that the intent of the parties at the time of executing the piggyback agreement was that all partners of partnerships that leased the recycling equipment would be bound by the results of the Provizer case, and all nonpartner owners of such equipment would be bound by the results of the Miller cases. We disagree with both parties' suggested interpretations of the piggyback agreement. Our view is that under the piggyback agreement petitioners were bound to the results in all three lead cases with respect to the issues of additions to tax under section 6653(a) and increased interest under section 6621(c). We further interpret the piggyback agreement as imposing an obligation on respondent upon disposition of two of the lead cases, the Miller cases, to notify petitioners of the disposition. After being notified of the disposition in those two lead cases, petitioners could elect to1994 Tax Ct. Memo LEXIS 442">455 accept the same settlement terms as the Miller cases with respect to the common issues of the cases or to be bound by the results of the Provizer case. We do not hold that petitioners necessarily are entitled to the most favorable disposition of "the CONTROLLING CASE." If they had been informed of the settlement of two of the lead cases, petitioners would not have been entitled to wait until all of the lead cases had been resolved and then select the one whose resolution was most favorable to them. Under the unusual circumstances of this case, respondent agreed with petitioners that the case would be controlled by the results in the Miller cases and the Provizer case, but respondent failed to notify petitioners of the disposition of the Miller cases. The record indicates that respondent consistently has refused to inform petitioners of the disposition of the Miller cases. Petitioners had no information about the resolution of those cases until after respondent commenced collection action on the basis of the Provizer decision and paragraph 6 of the Stipulation of Settlement. Respondent contends that the agreement provides that partnership cases are 1994 Tax Ct. Memo LEXIS 442">456 controlled by the result in the Provizer case and that the Miller cases relate only to cases involving direct nonpartner ownership of machines and therefore are irrelevant to petitioners' case. We disagree with this interpretation. Under the peculiar, if not unique, circumstances of this case where petitioners had no knowledge of the results in two of the controlling cases and were kept from such knowledge by respondent, petitioners were entitled to choose to be bound by the Miller cases when they ultimately learned of the disposition of those agreed controlling cases. A settlement stipulation is a contract. Smith v. Commissioner, T.C. Memo. 1991-412; see Robbins Tire and Rubber Co. v. Commissioner, 52 T.C. 420">52 T.C. 420, 52 T.C. 420">435-436 (1969); Dalco Micro-Fab Partners, Ltd. v. Commissioner, T.C. Memo. 1993-100. General principles of contract law are applied in construing a settlement agreement. United States v. ITT Continental Baking Co., 420 U.S. 223">420 U.S. 223, 420 U.S. 223">238 (1975). On brief petitioners argue that the law of Oklahoma should apply in interpreting the piggyback1994 Tax Ct. Memo LEXIS 442">457 agreement. Respondent asserts that Massachusetts contract law should govern. We see no significant problem here relating to conflicts of law. The parties have not cited any relevant difference in the law of these States concerning the contract interpretation principles applicable here. In addition, the State law that petitioners and respondent cite in their briefs is in accord with general principles of contract law. See Edmonds v. United States, 642 F.2d 877">642 F.2d 877 (1st Cir. 1981); Rink v. Commissioner, 100 T.C. 319">100 T.C. 319 (1993); Mercury Investment Co. v. F.W. Woolworth Co., 706 P.2d 523">706 P.2d 523 (Okla. 1985). Our function is to give the agreement a construction that is reasonable, capable of being carried into effect and in accord with the parties' intentions. See Okla. Stat. Ann. tit. 15, sec. 159 (West 1993); Warner Ins. Co. v. Commissioner of Ins., 406 Mass. 354">406 Mass. 354, 548 N.E.2d 188">548 N.E.2d 188 (1990); see also Woods v. Commissioner, 92 T.C. 776">92 T.C. 776 (1989). Absent wrongful, misleading conduct or mutual mistake, we will enforce a stipulation of1994 Tax Ct. Memo LEXIS 442">458 settlement in accordance with our interpretation of its written terms. See Scherr v. Commissioner, T.C. Memo. 1990-225. Generally, we look within the "four corners" of the agreement to ascertain the intent of the parties. 100 T.C. 319">Rink v. Commissioner, supra at 325; see Geringer v. Commissioner, T.C. Memo. 1991-32. When an agreement is ambiguous, however, the courts may look to extrinsic evidence to determine the parties' intentions. 92 T.C. 776">Woods v. Commissioner, supra at 780-781. In Constitution Pub. Co. v. Commissioner, 22 B.T.A. 426">22 B.T.A. 426, 22 B.T.A. 426">428 (1931), the Board defined ambiguity and set forth the applicable law concerning ambiguous contracts, as follows: if the expression used and the language of the instrument is merely ambiguous, the rules of construction with respect to doubtful or ambiguous contracts or documents are applicable here. Upon this ground we have the right and it is our duty to determine what * * the parties intended by the expression used. An instrument is clearly ambiguous and is open to construction when its1994 Tax Ct. Memo LEXIS 442">459 words, taken literally, lead to absurdity or have no meaning or when two meanings could be given. * * It is a primary rule of construction of documents that the Court must if possible ascertain and give effect to the mutual intention of the parties and in doing this greater regard is to be had to the clear intent of the parties than to any particular words which they may have used in the expression of their intent. * * * [Citations omitted.]Accordingly, we first look within the "four corners" of the piggyback agreement to ascertain whether the agreement is ambiguous. The agreement defines "the CONTROLLING CASE" as both Miller cases and the Provizer case. The agreement does not differentiate between the three cases, but merely states that all three of the cases are "the CONTROLLING CASE" for purposes of the agreement. In addition, the agreement clearly provides that petitioners are bound by the decisions in "the CONTROLLING CASE" regardless of whether the cases are settled or litigated. The agreement specifically states that petitioners are to be treated as if they were the taxpayers in "the CONTROLLING CASE" for purposes of additions to tax and section 6621(c) 1994 Tax Ct. Memo LEXIS 442">460 interest. Under the terms of the agreement itself, petitioners are bound by the decision or settlement of all three of the lead cases. The piggyback agreement's terms seem clear on the face of the document. However the terms of the agreement lead to absurd results because the three cases which were designated "the CONTROLLING CASE" were not consolidated for trial or settlement and resulted in conflicting outcomes with respect to the issues of additions to tax under section 6653(a) and increased interest under section 6621(c). The two Miller cases were resolved by a settlement which provided that the taxpayers therein were not liable for the additions to tax under section 6653(a) and the increased rate of interest under section 6621(c) did not apply. The Provizer case was decided by this Court, and we decided that the taxpayers in that case were liable for the additions to tax under section 6653(a) and the increased rate of interest under section 6621(c). Since the three cases which were designated "the CONTROLLING CASE" had different results and petitioners were bound to all three cases, it is unclear upon which case petitioners' case is to be decided. The language 1994 Tax Ct. Memo LEXIS 442">461 of the piggyback agreement clearly states that petitioners are bound by the results of all three lead cases in the Plastics Recycling group, but it does not provide for disposition of the case in issue if the three lead cases have divergent results. Therefore, the contract is ambiguous, and we may look to extrinsic evidence to ascertain the parties' intentions. See Smith v. Commissioner, 82 T.C. 705">82 T.C. 705 (1984). Respondent asserts that petitioners were bound solely by the results of the Provizer case. The language of the piggyback agreement does not support that assertion. In addition the extrinsic evidence offered by the parties, when viewed in light of general contract principles, weighs strongly against respondent's position. Respondent maintains that in entering into the piggyback agreement the parties intended for partners of limited partnerships that leased recycling equipment to be bound only by the Provizer case and Schedule C owners of recycling equipment to be bound only by the two Miller cases. Respondent primarily relies upon three documents to support her position: (1) A letter drafted by respondent to the Court indicating which1994 Tax Ct. Memo LEXIS 442">462 lead cases had been selected by respondent and lead counsel for taxpayers (the joint report); (2) the transcript of the pretrial conference held on June 9, 1987, concerning the selection of test cases for the Plastics Recycling group; and (3) a letter drafted by the Committee for the Defense of Plastics Recycling Tax Shelter Investments. Respondent's counsel's letter, which he labeled a joint report, indicates that partners of lessee partnerships are to be treated differently than Schedule C equipment owners. It states that the two Miller cases are to serve as lead cases for equipment owners and the Fine case (later replaced by Provizer2) is to serve as the lead case for lessees of equipment. This is the view expressed by respondent's counsel at the pretrial conference on June 9, 1987, and disputed by taxpayers' counsel at that time. The letter is signed by respondent's counsel but not by taxpayers' counsel, so under the circumstances we are skeptical about its "joint" nature as to details that are not reflected in the executed stipulation. Moreover, the letter clearly states that all issues common to the project should be determined with reference to all three 1994 Tax Ct. Memo LEXIS 442">463 of the lead cases. The additions to tax for negligence under section 6653(a) and increased interest due to tax-motivated transactions under section 6621(c) are issues which are common to all of the cases in the Plastics Recycling group. The record as a whole does not indicate that these issues differ in any material respect for nonpartner owners of recycling equipment and partners of limited partnerships which leased the recycling equipment. The basic circumstances in each case concern the valuation of the recycling equipment, and those circumstances and the values of the identical machines are the same, regardless of whether the machines were held in the name of an individual or a partnership. Additions to tax under section 6653(a) and section 6621(c) increased interest are issues common to all three of the cases which were designated as 1994 Tax Ct. Memo LEXIS 442">464 "the CONTROLLING CASE" and petitioners' case. Respondent's counsels' so-called joint report does not support respondent's interpretation of the piggyback agreement, but instead contradicts it. The transcript of the pretrial conference does not persuade us to adopt respondent's assertion that petitioners were only bound by the outcome of the Provizer case. This Court held a pretrial conference on June 9, 1987, to set guidelines for the disposition of the Plastics Recycling group of cases. At the conference, counsel for the parties discussed selection of test cases and identified issues common to all cases in the Plastics Recycling project. At the time of the pretrial conference, all of the cases under discussion, except the two Miller cases, involved investors in limited partnerships which leased the equipment. In response to a question from the Court, the taxpayers' lead counsel indicated that they were confident that if the two Miller cases were chosen as test cases, their clients would sign piggyback agreements binding the decision of their own cases to the outcome of the two Miller cases. It is clear from the transcript that both the taxpayers' counsel and1994 Tax Ct. Memo LEXIS 442">465 the Court were under the impression that an appropriate stipulation could be prepared so that partnership cases could be piggybacked to the Miller cases. Respondent's counsel, however, clearly stated that he did not believe the Miller cases should be test cases for taxpayers who were investors in lessee partnerships. The transcript of the pretrial conference is not clear as to whether the parties agreed that the Miller cases would only be test cases for nonpartner owners of equipment. Although respondent's counsel clearly stated his belief that the Miller cases should only control so-called ownership cases, the record as a whole does not indicate that such was the intention of the parties at the time they executed the piggyback agreement. The parties chose one partnership case as a test case. That case dealt with equipment which was leased in 1981. Respondent's counsel made it clear at the conference that valuation for 1981 and 1982 differed. Therefore, if the only partnership case concerned valuation issues for the year 1981, apparently respondent was satisfied for the valuation issue in the Miller case dealing with 1982 equipment to control at least valuation1994 Tax Ct. Memo LEXIS 442">466 issues for purposes of partnership cases dealing with 1982 equipment. Taxpayers' counsel clearly believed that the Miller cases had applicability to the cases involving taxpayers who were investors in lessee partnerships. Indeed taxpayers' lead counsel indicated that he considered the two Miller cases satisfactory lead cases for the entire group litigation. At the time of the pretrial conference, therefore, the parties' intentions concerning the effect of the results of the test cases on partnership cases were not clear. The letter drafted by the Committee For the Defense of Plastics Recycling Tax Shelter Investments does not aid respondent. The letter dated July 17, 1992, was an invitation and plea for Plastics Recycling taxpayers to contribute to a fund to finance the appellate litigation in the Provizer case. The letter was sent generally to taxpayers in the Plastics Recycling project, not just to taxpayers who had executed piggyback agreements, and it was prepared and mailed almost 4 years after petitioners and respondent executed the piggyback agreement. The 1992 letter does not provide any insight into the parties' intentions at the time they executed the 1994 Tax Ct. Memo LEXIS 442">467 piggyback agreement, and we consider it irrelevant to the issues in this case. The general contract principle of contra proferentem weighs heavily against respondent in this case. The principle states that an ambiguous provision in a written document is construed more strongly against the person who selected the language. Rink v. Commissioner, 100 T.C. 319">100 T.C. 328 n.8; see, e.g., United States v. Seckinger, 397 U.S. 203">397 U.S. 203, 397 U.S. 203">216 (1970). It is fundamental that doubtful language in a contract should be interpreted against the party who has selected the language. Moulor v. American Life Ins. Co., 111 U.S. 335">111 U.S. 335 (1884); Williams Petroleum Co. v. Midland Cooperatives, Inc., 679 F.2d 815">679 F.2d 815 (10th Cir. 1982). This principle is especially pertinent in this case where respondent is asking us to add language to the agreement which she drafted. If respondent wished that all partners of Plastics Recycling partnerships be bound only by the Provizer case and not by the Miller cases, she should have incorporated such language into the piggyback agreement which she presented1994 Tax Ct. Memo LEXIS 442">468 to petitioners. See, e.g., Ferguson v. Commissioner, T.C. Memo. 1992-451; see also Minovich v. Commissioner, T.C. Memo. 1994-89, in which the parties stipulated to be bound by specified cases for different issues. Additionally, we note that no Schedule C owners of equipment entered into piggyback agreements with respondent concerning the Plastics Recycling project. If we were to accept respondent's argument, resolution of the Miller cases would be irrelevant to all Plastics Recycling taxpayers, and the reference to the two Miller cases in the piggyback agreements would be superfluous. The language of the piggyback agreement clearly states that petitioners are bound by the results of all three lead cases. After reviewing the extrinsic evidence, we are not persuaded that in executing the piggyback agreement the parties intended to bind petitioners only to the Provizer case as asserted by respondent. Accordingly, we hold that the terms of the piggyback agreement provide that petitioners are bound by the results in all three lead cases with respect to the common issues of additions to tax under section 6653(a) 1994 Tax Ct. Memo LEXIS 442">469 and increased interest under section 6621(c). The three lead cases, however, resulted in divergent results with respect to the issues of section 6653(a) additions to tax and section 6621(c) increased interest. We must therefore decide which result will be applied to petitioners. The two Miller cases were settled in December of 1988. Agreed decision documents for those cases were entered by this Court on December 22, 1988. Respondent did not notify petitioners of this settlement. Since respondent drafted and executed an agreement providing that the parties would be bound, inter alia, by the terms of any settlement of the Miller cases, in our view respondent was obliged to notify petitioners of the settlement of those cases. The terms of the agreement clearly indicate that the results of "the CONTROLLING CASE" are decisive for purposes of the case at hand. There is no indication that petitioners or their attorneys were told of the settlement of the Miller cases by Mr. Miller or his attorneys, and there is no evidence of any reason for Mr. Miller or his attorneys to advise petitioners of the settlement. All taxpayers who had entered into such agreements were entitled1994 Tax Ct. Memo LEXIS 442">470 to be notified of the final disposition of a lead case. Respondent was aware of both the piggyback agreement and the disposition of two of the lead cases. Respondent had an obligation to notify petitioners of the settlement. Upon notification of the Miller settlement or otherwise becoming aware of that settlement, petitioners had the option of either agreeing to be bound to the terms of the settlement or agreeing to be bound only by the results of the Provizer case. Because petitioners were not notified of the Miller settlement until late 1992, after our decision in the Provizer case, at that time petitioners were entitled to choose which of the lead cases would decide their case. 3 Petitioners made the choice as promptly as practical and are entitled to be bound by the Miller settlement with respect to the matters in dispute here. 1994 Tax Ct. Memo LEXIS 442">471 In their post hearing brief petitioners assert a claim for litigation costs in an unspecified amount pursuant to section 7430. 4Section 7430(a) provides that the prevailing party in a civil tax proceeding may be awarded reasonable administrative and litigation costs incurred in such proceeding. Administrative and litigation costs may only be claimed, unless conceded by respondent, upon written motion to this Court filed after the issuance of an opinion determining the issues in the case, or after the parties have settled all issues in the case other than litigation costs. Rule 231(a)(2). When petitioners requested litigation costs, significant1994 Tax Ct. Memo LEXIS 442">472 issues in their case were still undetermined. Petitioners' request is premature and improper in form. They have failed to meet the procedural requirements for an award of litigation costs under section 7430 and Rule 231. To reflect the foregoing, An appropriate order will be entered denying petitioners' motion to restrain collection of additions to tax under section 6653(a) and increased interest under section 6621(c) as moot, denying respondent's motion for entry of decision, and granting petitioners' motion for entry of decision in that a decision reflecting the foregoing and concessions herein shall be entered pursuant to Rule 155. Footnotes1. All section references are to the Internal Revenue Code in effect for the years at issue, unless otherwise indicated. All Rule references are to the Tax Court Rules of Practice and Procedure.↩1. 50 percent of the interest payable with respect to the portion of the underpayment attributable to negligence. ↩2. The notice of deficiency refers to sec. 6621(d). This section was redesignated as sec. 6621(c) by sec. 1511(c)(1)(A) of the Tax Reform Act of 1986, Pub. L. 99-514, 100 Stat. 2085, 2744. For simplicity, we will refer to this section as sec. 6621(c). The annual rate of interest under sec. 6621(c) for interest accruing after December 31, 1984, equals 120 percent of the interest payable under sec. 6601 with respect to any substantial underpayment attributable to tax-motivated transactions.↩2. In an Order dated June 3, 1988, this Court designated the Provizer case as a replacement for the Fine↩ case as one of the lead cases in the Plastics Recycling group.3. See Socony Mobil Oil Co. v. United States, 153 Ct. Cl. 638">153 Ct. Cl. 638, 153 Ct. Cl. 638">649, 287 F.2d 910">287 F.2d 910, 287 F.2d 910">915-916 (1961), requiring the Government to notify the private party to an agreement about settlement of a test case controlling the agreement: It seems that such a premature termination of what was expected to be a test case would not have been anticipated by Texaco, the other party to the suspension agreement. Unless the Government advised it of the settlement, it would have had to be most diligent in watching the District Court's judgment docket in order to file its suit in time after the "final decision" of the test case. We think that when the Commissioner has entered into an agreement for the suspension of the statute of limitations until the final decision in a test case, and thereafter participates in the frustration of the purpose of the agreement by preventing the test case from going to a decision on the merits, a fair interpretation of the agreement makes the suspension run until the earlier of the following two events: (1) The other party to the agreement has had notice of the premature termination of the test case, * * ↩4. In the Tax Reform Act of 1986, Pub. L. 99-514, sec. 1551(d), 100 Stat. 2752, Congress amended sec. 7430↩ effective for amounts paid after September 30, 1986, in civil actions or proceedings commenced after December 31, 1985. The petition in this case was filed on July 7, 1986, and petitioners' motion for litigation costs is thus governed by the provisions of the 1986 Act.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621761/	Arletta C. Harris v. Commissioner.Harris v. CommissionerDocket No. 31089.United States Tax Court1952 Tax Ct. Memo LEXIS 103; 11 T.C.M. 895; T.C.M. (RIA) 52258; August 25, 19521952 Tax Ct. Memo LEXIS 103">103 Junius H. Payne, Jr., Esq., 810 Guaranty Bank Bldg., Alexandria, La., for the petitioner. J. P. Crowe, Esq., and D. Z. Cauble, Jr., Esq., for the respondent. OPPERMemorandum Findings of Fact and Opinion OPPER, Judge: Respondent determined deficiencies in petitioner's income taxes for the years 1945 through 1948 as follows: YearAmount1945$729.001946671.001947759.771948847.42 Certain items have been settled by the parties. The single issue raised is whether monthly payments $300of made to petitioner by her former husband are taxable to her, under section 22(k), as income received under an agreement incident to their divorce in discharge of her husband's marital obligation of support. Some of the facts have been stipulated. Findings of Fact The stipulated facts are hereby found. Petitioner is a resident of Alexandria, Louisiana. Income tax returns for the years involved were filed with the collector of internal revenue for the district of Louisiana. Petitioner was married to Homer H. Harris, Sr., hereinafter sometimes called the husband, at St. Joseph, Missouri, in 1910. They became residents of Louisiana, a community property1952 Tax Ct. Memo LEXIS 103">104 state, in 1911, and have resided there to the present time. Petitioner and her husband lived in a Louisiana marital community for more than 20 years, until it was dissolved by divorce. Petitioner and her husband separated about 1935, and were divorced in September 1944. They never entered an agreement not to have a community of acquets and gains. Petitioner eventually received $39,237.50 from her father's estate and $8,772.31 from the estate of her grandfather, as her separate property. Of these funds $44,700 was deposited in the husband's account in the Guaranty Bank and Trust Company, in Alexandria, Louisiana. At the time of the transfer, petitioner and her husband agreed that the husband would invest these funds on petitioner's behalf, even though investments were not made in her name. The husband invested these funds, in his own name, in various stocks and commodities. Some of these purchases were outright, others were made on margin. He maintained only one bank account in his own name, in which he merged his own funds with those of petitioner. In order to keep track of petitioner's funds and make a record of his investments on her behalf, he maintained a double entry set of1952 Tax Ct. Memo LEXIS 103">105 books of account at their house in Alexandria. He made entries on the basis of his brokers' monthly trading reports, and also noted payments made to brokers on margin accounts. Income or profit derived from this trading was reinvested by the husband on petitioner's behalf. Petitioner was aware of the manner in which her funds were handled. She had access to the books of account in their home, and her husband answered any questions she had in connection therewith. During the time when the husband was handing petitioner's funds, he borrowed $7,500 from petitioner and gave her a note for this amount. In 1922, when all of petitioner's funds were invested on margin, market values dropped sharply and the husband had to invest additional funds to maintain her equities. He invested $10,000 of his own funds as additional margin on her behalf. All of petitioner's funds, plus the husband's $10,000, were lost. As a result of the $10,000 loss, the husband considered his $7,500 debt to his wife canceled. The losses suffered during the year 1922 were recorded in the books of account which the husband kept for petitioner's separate funds, and petitioner was informed of these losses. Petitioner1952 Tax Ct. Memo LEXIS 103">106 and her husband were separated about 1935, and when the latter left the home the books of account were left there. The husband filed a petition for divorce against petitioner in August 1944. Petitioner filed an answer in September 1944, which reads in part as follows: "THAT appearer is entitled to alimony from the plaintiff for support of herself, both during the pendency of this suit and thereafter." The husband was granted an absolute divorce from petitioner on September 26, 1944, by the Ninth Judicial Court, Parish of Rapides, State of Louisiana. In the divorce decree the Court recognized petitioner and the husband as owners of one-half undivided interest in all property belonging to the community, but final settlement was reserved pending determination thereof by such Court. During the years prior to the divorce in which petitioner and the husband were separated, petitioner had unrestricted use of charge accounts. The first of every month the bills for these accounts were sent to the husband's office (Hill, Harris & Co.), and were paid by him. If petitioner needed cash, she would go to the office and ask the cashier for whatever she desired, and these sums were charged1952 Tax Ct. Memo LEXIS 103">107 on the books of the business to the husband. During these same years petitioner took numerous trips and did whatever she desired. On December 26, 1944, petitioner and the husband entered into a written agreement in settlement of all the differences pertaining to community property and claims for separate property and such agreement was approved by the Ninth Judicial Court, Parish of Rapides, State of Louisiana, and made a judgment thereof on January 2, 1945. In the settlement agreement certain real and personal property was allocated to each party and in addition thereto the husband bound himself as follows: "(1) That he assumes the payment of all community debts due by the former community existing between plaintiff [the husband] and defendant [petitioner] and relieves defendant of any responsibility therefor. "(2) That he obligates himself, his heirs and assigns to pay to Mrs. Arletta Cato Harris the sum of $300.00 per month for the balance of her natural life, beginning as of December 1, 1944, and monthly thereafter during the natural life of the said Mrs. Arletta Cato Harris. "(3) To cancel all indebtedness of Mrs. Arletta Cato Harris appearing on the books of Hill, 1952 Tax Ct. Memo LEXIS 103">108 Harris & Co. "(4) To cause necessary repairs to be made to the roof of the property located on Marye Street, being the home of Mrs. Arletta Cato Harris." The settlement agreement also contained the following paragraph: "The said Mrs. Arletta Cato Harris further declared that she accepts this settlement in full and complete settlement of all claims for alimony as long as the sum of $300.00 per month is paid to her as hereinbefore set forth, but, in the event of the failure of Homer H. Harris, Sr. to make said monthly payments, then all her rights to claim alimony by proper proceedings are hereby reserved unto her." During the conferences between the parties prior to the settlement agreement petitioner had security in mind and was desirous of having a definite income. She stated many times that she must have security. Petitioner does not know how the monthly payment figure of $300 provided for in the property agreement was arrived at, except that it was all that her husband would pay. During the year 1922 the husband purchased an interest in a corporation and began to operate it as Hill, Harris & Co. Shortly before the divorce proceedings he purchased the outstanding shares1952 Tax Ct. Memo LEXIS 103">109 of the corporation which were not owned by his family and formed a partnership in which the community held an undivided two-thirds interest. At the time of the divorce proceedings the partnership owed outstanding debts of approximately $250,000. As a part of the property settlement the husband took over the undivided one-third interest of petitioner in the partnership and assumed all community debts. The settlement agreement of December 26, 1944, did not state therein in terms of money or property any principal sum which was to be discharged by the monthly payments of $300 by the husband to petitioner. The payments made by the husband during the years 1945 to 1948, inclusive, were made subsequent to the divorce of the parties. The payments in question were made by the husband in discharge of a legal obligation incurred as a result of the marital or family relationship and under a written instrument incident to the divorce. Opinion We could not find in favor of this petitioner without doing violence to the fundamental purpose of sections 22(k) and 23(u), Internal Revenue Code, and to two of our recent cases, Thomas E. Hogg, 13 T.C. 361">13 T.C. 361, and1952 Tax Ct. Memo LEXIS 103">110 Floyd H. Brown, 16 T.C. 623">16 T.C. 623. The intention to make the two code sections reciprocal, so that if payment is deductible by the husband it will be chargeable to the wife, is inescapable. House Report No. 2333, Ways and Means Committee, 77th Cong., 2d Sess., pp. 71, 73. And in the two cases referred to, husbands were held entitled to deduct monthly payments under circumstances if anything more favorable to respondent than those applying here to petitioner. These cases are in accord with a decision of the Court of Appeals most familiar with the applicable local law. Scofield v. Greer (C.A. 5), 185 Fed. (2d) 551. Petitioner was satisfied to accept the agreement "in full * * * settlement of all claims for alimony as long as the sum of $300.00 per month is paid to her * * ." Even if, as petitioner contends but has not demonstrated, she was not entitled to alimony as such under Louisiana law, her case is no stronger than respondent's in 13 T.C. 361">Thomas E. Hogg, supra, 367-8, where we said, regarding residents of Texas: " * * Here, as in the Hesse case [Pennsylvania], state law imposed no duty of support on the husband after divorce, but sections 22(k)1952 Tax Ct. Memo LEXIS 103">111 and 23(u) were added to the code to produce uniformity in the tax treatment of amounts paid in lieu of alimony [italics added] regardless of variance in state laws 'concerning the existence and continuance of an obligation to pay alimony.' H. Rept. No. 2333, supra. We are of opinion, therefore, that the monthly payments here in controversy were received by the wife in discharge of a legal obligation which was incurred by * * [the husband] because of the marital relationship and under a written instrument incident to the divorce. Such payments are deductible by him under section 23(u). "In so holding, we do not disregard or deny effect to the whole agreement as resulting also in a property settlement. * * " That there may have been only community property involved in the Brown and Hogg cases, where the present petitioner insists she also had a claim to her own separate property, can certainly not justify reaching a contrary result here. The wife's right in the community became a separate equal and co-existing right, Rawlings v. Stokes, 194 La. 206">194 La. 206, 193 So. 589">193 So. 589, and a property settlement would have to take that into account quite as rigorously as separate property1952 Tax Ct. Memo LEXIS 103">112 - if any - entrusted to the husband. Nor can we accord to the further provisions of the agreement the persuasive cogency sought for them by petitioner. When it was agreed, after the clause previously quoted "* * * but, in the event of the failure of * * * [the husband] to make said monthly payments, then all her [petitioner's] rights to claim alimony by proper proceedings are hereby reserved unto her" (italics added), we think it evident she was merely safeguarding the method - not the fact - of receiving support-money. That the provision for monthly payments was incorporated in an agreement approved by the court rather than as the result of a finding by the court itself may well have led to this quite understandable precautionary phrasing. See Louisiana Civil Code, article 231. As in the Hogg and Brown cases, petitioner had been receiving support for a considerable period prior to the divorce. In the Hogg case (p. 366), as here, the husband "would give no more." In the Brown case (p. 631), we said, referring also to Louisiana residents, in language even more applicable here, since that petitioner had the burden of proof, as this one does: "But respondent points out that1952 Tax Ct. Memo LEXIS 103">113 'petitioner has not shown that under the law of Louisiana his divorced wife would have been granted alimony or support in any event.' However, it was not necessary for petitioner to show this. At the time the negotiations for the agreement were under way * * [the wife] was the wife of petitioner. As such, she of course had a present right to support, and petitioner had been discharging that right. It would be unrealistic to hold that she gave up this right to support without consideration and that, as respondent contends, everything she received under the agreement was in exchange for her share of the community property." There being no question that these payments were made subsequent to the decree and pursuant to an agreement incident to a divorce, and finding as we have that they discharged a legal obligation resulting from the marital relationship, we are of the opinion that in this respect, under Internal Revenue Code, section 22(k), the deficiencies were correctly determined. Decision will be entered under Rule 50.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621762/	Clarence R. Williams and Mary J. Williams, Petitioners, v. Commissioner of Internal Revenue, RespondentWilliams v. CommissionerDocket No. 70187United States Tax Court35 T.C. 685; 1961 U.S. Tax Ct. LEXIS 232; January 31, 1961, Filed 1961 U.S. Tax Ct. LEXIS 232">232 Decision will be entered under Rule 50. "Held-out-of-service" benefits paid under contract by a nonprofit corporate fund to which taxpayer-member had paid dues were income to the extent they exceeded contributions to the fund. George C. Kennedy, Esq., for the petitioners.Wallace M. Wright, Esq., for the respondent. Drennen, Judge. DRENNEN35 T.C. 685">685 OPINION.Respondent determined a deficiency1961 U.S. Tax Ct. LEXIS 232">233 in petitioners' income tax for the year 1955 in the amount of $ 465.23. The sole issue is whether payments received by petitioner Clarence R. Williams from the Brotherhood's Relief and Compensation Fund in 1955 in excess of dues he paid to the fund constitute taxable income to petitioners in 1955.The facts were fully stipulated.Petitioners are husband and wife residing in Manchester, Georgia. They filed their joint income tax return for the year 1955 with the district director of internal revenue, Atlanta, Georgia. Clarence R. Williams was an employee of the Atlantic Coast Line Railroad Company in 1954 and 1955.The Brotherhood's Relief and Compensation Fund, hereafter referred to as the fund, is a nonprofit corporation incorporated under the laws of Pennsylvania. The object of the fund is the maintenance of a society for beneficial and protective purposes for its members who are eligible for benefits for "held out of service" or "retirement" as defined in the constitution of the fund. Membership in the fund is limited to employees of motive power and transportation departments of transportation companies and there are four classes of membership. A member is required to pay1961 U.S. Tax Ct. LEXIS 232">234 monthly dues to the fund from which benefits are paid to qualifying members. Dues and the benefits to be paid to qualifying members vary with the class of membership. Only members contribute to the fund.35 T.C. 685">686 Clarence was issued a membership certificate in the fund effective as of May 14, 1951, and he paid monthly dues pursuant to the terms of his membership certificate through 1955. These dues from May 1951 through 1955 totaled $ 224. None of these dues were deducted on any income tax return filed by petitioners for the years 1951 to 1955, inclusive. Clarence's payment of dues to the fund was separate and distinct from any union dues and was entirely voluntary.A member of the fund is eligible for "held-out-of-service" benefits if he is relieved by his employer from the performance of his usual duties as a disciplinary measure, or if he is permanently injured in a specified manner in an accident while performing the duties of his employment. Lump-sum retirement benefits are paid to members attaining age 70 according to a schedule based on years of continuous membership.In 1955 Clarence was eligible for benefits resulting from his "held-out-of-service" classification, 1961 U.S. Tax Ct. LEXIS 232">235 and he was paid the amount of $ 2,400 by the fund in that year. Petitioners did not report these payments as gross income on their income tax return for that year. Respondent included the entire amount in petitioners' gross income in 1955 but agreed by stipulation that the amount to be included should be reduced by the $ 224 contributed by Clarence to the fund as dues.Petitioners contend that the certificate of membership is similar to unemployment or health insurance and that benefits paid thereunder are not "earned income" nor taxable as ordinary income. They argue that had Clarence been eligible for "held-out-of-service" benefits by reason of permanent injuries, the payments from the fund would be excluded from gross income. They cite no authorities in support of their contentions.In support of his determination respondent relies on the broad and inclusive terms of section 61(a), I.R.C. 1954, which provides: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:The Supreme Court, in Commissioner v. Glenshaw Glass Co., 348 U.S. 426">348 U.S. 426,1961 U.S. Tax Ct. LEXIS 232">236 made it clear that Congress, in defining gross income, intended to exert "the full measure of its taxing power" and "applied no limitations as to the source of taxable receipts, nor restrictive labels as to their nature," and pointed out that the Court "has given a liberal construction to this broad phraseology 1 in recognition of the intention 35 T.C. 685">687 of Congress to tax all gains except those specifically exempted." The Court also said that the characterization of income in Eisner v. Macomber, 252 U.S. 189">252 U.S. 189, as "the gain derived from capital, from labor, or from both combined" is not a definitive answer to all questions regarding gross income. According to the Court in the Glenshaw opinion, if there is an undeniable accession to wealth, clearly recognized, and over which the taxpayers have "complete dominion," such gain is gross income to the taxpayers, absent a showing that Congress intended to except the amount from the "pervasive coverage" of the provisions defining gross income.1961 U.S. Tax Ct. LEXIS 232">237 There is no question in this case that Clarence, by virtue of the benefit payments received, realized an "accession to wealth" over which he had "complete dominion." The Glenshaw case would seem to be dispositive of this case unless it can be shown that the payments fall within the purview of some provision of the Code or of law excepting, exempting, or excluding them from gross income.Petitioners argue that the payments are not taxable because Clarence performed no services for them and they are not earned income. Petitioners cite no authority excepting or exempting income not "earned" from gross income per se, and we know of none. The "windfall" consisting of punitive damages under the antitrust laws involved in the Glenshaw case, and the "insider profits" recovered by a corporation from one of its directors involved in Gen. Investors Co. v. Commissioner, 348 U.S. 434">348 U.S. 434, were not "earned" by the taxpayers, nor were services rendered nor capital invested in order to receive them, but they were both held to be gross income.Petitioners also argue that these payments were in the nature of unemployment insurance and therefore not taxable, 1961 U.S. Tax Ct. LEXIS 232">238 but cite no authority for this contention. Respondent has long held that unemployment payments from private, as opposed to public or general welfare, funds are gross income to the recipient, and cites Rev. Rul. 57-383, 1957-2 C.B. 44, and Rev. Rul. 59-5, 1959-1 C.B. 12, in support of his position here. 2 On authority of Glenshaw and absent any showing that payments in the nature of unemployment insurance are by any provision of law specifically excepted from gross income, we consider this argument without merit with respect to the "held-out-of-service" benefit payments here involved. Cf. Commissioner v. LoBue, 351 U.S. 243">351 U.S. 243; Ostheimer v. United States, 264 F.2d 789 (C.A. 3, 1959); Teleservice Co. of Wyoming Valley, 27 T.C. 722">27 T.C. 722, affd. 254 F.2d 105 (C.A. 3, 1958), certiorari denied 357 U.S. 919">357 U.S. 919. Petitioners' suggestion that these payments were similar to health and accident 35 T.C. 685">688 insurance is ineffectual because there is no evidence that1961 U.S. Tax Ct. LEXIS 232">239 these payments were made because of any injury or illness suffered by Clarence.Petitioners do not argue that these payments are excludible from gross income because they are gifts or payments to replace the loss of capital or anything having the characteristics of capital, and we see no basis for such argument. The payments were made to Clarence under a contractual arrangement whereunder he made specified contributions to a fund out of which he was entitled to receive specified benefits upon qualification therefor under the terms of the contract. The payments were not gratuitous, nor, to the extent they exceeded his contributions, were they a repayment of his capital, but were to replace in part his loss of wages which would have been taxable as1961 U.S. Tax Ct. LEXIS 232">240 ordinary income to him had he received them.The taxability of "held-out-of-service" benefits paid from this same fund under similar circumstances was recently considered by the United States District Court of Idaho, Eastern Division, in Johnson v. Wright, 175 F. Supp. 215">175 F. Supp. 215. We agree with the conclusion of that court, and hold that the "held-out-of-service" benefits paid to Clarence from the fund in excess of dues paid by him are includible in his gross income for the year 1955.Petitioners suggest for the first time on brief that at most the payments should be taxed as capital gain but do not say why. This issue was not raised in the pleadings and is not properly before the Court. Frank Polk, 31 T.C. 412">31 T.C. 412, affd. 276 F.2d 601 (C.A. 10, 1960). In any event we find no merit in this suggestion. There was no sale or exchange of a capital asset as required by section 1201, et seq., I.R.C. 1954, and no other provision of the Code is suggested as allowing capital gains treatment for payments such as these.To reflect the concession of respondent as stipulated,Decision will be entered under1961 U.S. Tax Ct. LEXIS 232">241 Rule 50. Footnotes1. The Court was referring to section 22(a), I.R.C. 1939, the predecessor of section 61(a), I.R.C. 1954, but pointed out that in the 1954 Code "The definition of gross income has been simplified, but no effect upon its present broad scope was intended." See also United States v. Woodall, 255 F.2d 370 (C.A. 10, 1958); Irving Sachs, 32 T.C. 815">32 T.C. 815, affd. 277 F.2d 879 (C.A. 8, 1960), certiorari denied 364 U.S. 833">364 U.S. 833↩.2. Petitioners do not rely on the points discussed by Mr. Justice Frankfurter in his concurring opinion in United States v. Kaiser, 363 U.S. 299">363 U.S. 299, 363 U.S. 299">305↩, and we do not believe it is necessary or proper for us to discuss them in this opinion.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621763/	BERTON T. and MAUREEN E. SCHAEFFER, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentSchaeffer v. CommissionerDocket Nos. 4280-91, 16258-91United States Tax CourtT.C. Memo 1994-227; 1994 Tax Ct. Memo LEXIS 228; 67 T.C.M. 2989; May 23, 1994, Filed 1994 Tax Ct. Memo LEXIS 228">228 For petitioners: Michael J. Hill. For respondent: Dawn Marie Krause. PARKERPARKERMEMORANDUM OPINION PARKER, Judge: Respondent determined deficiencies in, and additions to, petitioners' Federal income taxes as follows: Additions to TaxYearDeficiency1Sec. 6653(a)(1) 2Sec. 6653(a)(2) Sec. 66611984$ -0- $ 662 50% of interest $ 3,310on $ 13,240 19857,83439250% of interest 1,959on $ 7,834 198626,4601,32350% of interest 6,615on $ 26,460 19875,21026150% of interest 1,303on 5,210 Unless otherwise indicated, all section references are to the Internal Revenue Code in effect for the taxable years before the Court, and all Rule references are to the Tax Court Rules of Practice and Procedure. The issues remaining for decision 1 are as follows: (1) Whether petitioner Berton T. Schaeffer and petitioner Maureen E. Schaeffer (collectively referred to as petitioners) are entitled to additional Schedule C deductions in excess of those allowed by respondent for the taxable year 1985; (2) Whether1994 Tax Ct. Memo LEXIS 228">229 petitioners are entitled to additional Schedule A miscellaneous itemized deductions in excess of those allowed by respondent for the taxable year 1985 and whether certain other adjustments should be made to Schedule A; (3) Whether petitioners are entitled to additional Schedule E deductions in excess of those allowed by respondent for taxable year 1985; specifically, whether expenses for three leased automobiles are allowed to the extent of income, whether a full interest deduction is allowed for property located at 1305 W. 105th Street, whether the Schedule E depreciation deduction should be reduced by $ 12,132, and whether business entertainment deductions related to all of the rental properties are allowed; (4) Whether petitioner Maureen Schaeffer's 1985 IRA deduction of $ 2,000 should be disallowed; (5) Whether petitioner Berton T. Schaeffer is entitled to a "Keogh Retirement Plan" deduction in the amount of $ 320 for 1985; (6) Whether petitioners are liable for additions to tax for negligence or intentional disregard of rules or regulations under section 6653(a)(1) and (2) for taxable years 1984 and 1985; and (7) Whether petitioners are liable for additions to tax for substantial1994 Tax Ct. Memo LEXIS 228">230 understatement of income tax under section 6661(a) for taxable years 1984 and 1985. With regard to the taxable years 1986 and 1987, the only issue presented by petitioners was whether the notice of deficiency was arbitrary and lacking in rational foundation, so as to vitiate the presumption of correctness and to shift the burden of proof to respondent. As to the following issues raised by the notice of deficiency, petitioners did not present any evidence during the administrative proceedings or at trial nor address them on brief: (1) Whether petitioner Berton T. Schaeffer's 1986 W-2 wages should be reduced by $ 2,400; (2) Whether petitioners' dividend income should be increased by $ 451 for 1986 and by $ 120 for 1987; (3) Whether petitioners are required to include a $ 548 State tax refund in their 1986 income; (4) Whether petitioners' 1994 Tax Ct. Memo LEXIS 228">231 Schedule C expenses should be reduced by $ 13,405 in 1986 and by $ 2,642 in 1987; (5) Whether petitioners received $ 28,853 in capital gain income in 1986; (6) Whether petitioner Maureen Schaeffer received an $ 11,080 taxable distribution from an Individual Retirement Account (IRA) in 1987; (7) Whether petitioners' Schedule E expenses should be reduced by $ 23,128 in 1986 and by $ 21,759 in 1987; (8) Whether petitioners' 1986 and 1987 Schedule E depreciation deductions should be reduced by $ 11,676 and $ 5,882, respectively; (9) Whether petitioner Maureen Schaeffer's 1986 IRA deduction of $ 2,000 should be disallowed; (10) Whether the following adjustments (increases (decreases) in income) should be made to Schedule A of petitioners' 1986 and 1987 income tax returns: 19861987Interest expense($ 1,213)$ 1,789)Real estate taxes(478)(480)Charitable contributions3,862 2,213 Miscellaneous deductions15,059 18,542 Casualty loss499 -0- (11) Whether petitioners are entitled to an investment tax credit carryover to 1986 in the amount of $ 12,001; (12) Whether petitioners' 1987 tax liability should be increased by $ 1,108 for a premature IRA distribution; 1994 Tax Ct. Memo LEXIS 228">232 (13) Whether petitioner Berton T. Schaeffer is liable for self-employment tax of $ 123 for 1987; (14) Whether petitioners are liable for additions to tax for negligence or intentional disregard of rules or regulations under section 6653(a)(1)(A) and (B) for 1986 and 1987; and (15) Whether petitioners are liable for additions to tax for substantial understatement of income tax under section 6661(a) for 1986 and 1987. For convenience, each taxable year or group of years will be discussed under a separate heading, and our findings of fact and opinion under each heading will be combined. General BackgroundAfter long and convoluted pretrial proceedings in this case, none of the facts have been stipulated. The record consists of the testimony of petitioner Berton T. Schaeffer and Michael Pataky, a revenue agent of the Internal Revenue Service (IRS), and various exhibits offered and received into evidence at trial. At the time the petition was filed, petitioners maintained separate legal residences. Petitioner Berton T. Schaeffer (petitioner) resided in Effingham, Illinois, and petitioner Maureen E. Schaeffer (Mrs. Schaeffer) resided in Lakewood, Ohio. Petitioner is a medical1994 Tax Ct. Memo LEXIS 228">233 doctor specializing in pathology. He attended college and medical school at Georgetown University in Washington, D.C. Petitioners' joint Federal income tax returns for the taxable years 1981, 1982, and 1983 were previously examined by the IRS in office audits, and all issues regarding those years were resolved administratively. For the taxable year 1981, an overpayment of tax of $ 106.69 was found; for 1982, after numerous adjustments, a $ 2,440.71 increase in income was determined but no additional tax was due after numerous corrections in calculations; and for 1983, a no change letter was issued. Petitioners' tax returns for subsequent years were chosen for field audit. Petitioners were contacted in 1987 by Michael Pataky (Pataky), an IRS revenue agent. Petitioners provided Pataky with the documents requested for 1984. In June of 1988 petitioners received an examination report for the taxable year 1984, dated June 6, 1988. Petitioners did not agree with the report and on July 1, 1988, retained Michael J. Hill (Hill) as counsel to represent them. Pataky prepared a further examination report for the taxable year 1984, dated October 5, 1988. Apparently an appeal was taken1994 Tax Ct. Memo LEXIS 228">234 to an IRS appeals officer. Pataky prepared a third examination report for the taxable year 1984, dated August 10, 1989, which, as will be discussed below, apparently reflects the basis on which the 1984 tax deficiency was ultimately agreed upon. Both prior to and after retaining Hill, petitioner believed that he was entitled to control the course of an IRS audit by refusing to provide records for a subsequent year until the audit of the prior year had been concluded. The record does not show whether Hill counseled petitioner to continue to pursue that course of action or tried to dissuade him from that course of action. In any event, during the audit of petitioners' 1984 taxable year, the IRS bypassed the power of attorney given to Hill, and Pataky contacted petitioner directly. The decision to bypass the power of attorney was the result of numerous delays, lack of cooperation, and failure to submit any documents for 1985. Petitioners eventually did submit documents for 1985; however, they refused to provide any documents relating to 1986 or 1987 until the audit of the 1985 taxable year was resolved or, as will be discussed below, until a United States District Court enforced1994 Tax Ct. Memo LEXIS 228">235 certain administrative summonses. The Court is unaware of, and petitioners have not cited, any legal authority that allows them to control the course of an audit or to withhold documents for a later year until respondent has concluded the audit of an earlier tax year. 1984 Taxable YearPetitioners filed a joint Federal income tax return for the taxable year 1984. Petitioner reported W-2 wage income of $ 86,473 as a doctor. On Schedule C of that return, petitioner claimed gross receipts from a medical practice in his home of $ 17,392.39 and deductions of $ 23,154.19. Respondent increased gross receipts by $ 2,797 and disallowed deductions in the amount of $ 12,589. On Schedule E, petitioners claimed a net rental loss of $ 29,089.36. Respondent disallowed all of this claimed loss, determined net rental income of $ 5,557, and thus increased taxable income by $ 34,646 (rounded). Petitioners reported taxable income of $ 49,717 on their 1984 return. Respondent made adjustments increasing total taxable income by $ 52,861. After allowing certain credits, respondent determined a total tax liability of $ 22,146 and a deficiency of $ 13,240. Petitioners have conceded these adjustments1994 Tax Ct. Memo LEXIS 228">236 and the deficiency for the taxable year 1984. See supra note 1. They are contesting the additions to tax for negligence and for substantial understatement of income tax as determined by respondent in the notice of deficiency. For reasons to be discussed below under the heading of additions to tax, we sustain respondent's determination of additions to tax for the taxable year 1984. 1985 Taxable YearPetitioners filed a joint Federal income tax return for the taxable year 1985. Petitioner reported W-2 wage income of $ 96,907 (rounded) as a doctor. Petitioners reported taxable income on the 1985 return of $ -0-. 1. Schedule C DeductionsPetitioner claimed a business loss in the amount of $ 6,177 on Schedule C of the 1985 return. Petitioner's Schedule C loss deduction is based on medical services that he performed in his home. During 1985, petitioner operated a sole proprietorship for the practice of medicine and maintained an office in his home. This medical practice in the home was separate from his practice as a member of a pathology partnership, which was presumably the source of his reported W-2 wage income in 1984 and most of 1985. In 1980, petitioner had1994 Tax Ct. Memo LEXIS 228">237 been approached by an insurance company representative who inquired as to whether he would perform medical examinations for the company. Petitioner agreed. He examined these patients in his home or traveled to their homes for the examinations. Petitioner also began to perform other medical services in his home. He used a microscope to review and interpret cytological and histological slides and Pap smears for physicians specializing in obstetrics and gynecology. He consulted on pathology and hematology cases as well. Petitioner set aside one room in his home to serve as an office. The room measured approximately 11 feet by 14 feet and contained a desk, two chairs, bookcases, file cases, an EKG machine, and a typewriter. Patients and other associates would gain access to the office through the back door, which led to the driveway where there was sufficient parking for two or three automobiles. This home office constituted 9.09 percent of the total area of petitioners' house. Petitioner used this office for work related either to his medical activities or to his rental real estate activities. There was no personal use of the room. On Schedule C of the 1985 tax return, petitioner1994 Tax Ct. Memo LEXIS 228">238 indicated that his principal business or profession was "medicine". He reported $ 4,738.33 in gross receipts and $ 2,550 as cost of operations ($ 2,400 paid to a part-time nurse/receptionist and $ 150 for soap, towels, lab coats, cleaning gear, etc.). In addition, he deducted $ 8,365.40 as business expense. Specifically, petitioner deducted the following expenses: car expenses$ 2,841.892depreciation 419.82dues, publications304.90mgt fees482.68insurance83.52laundry, cleaning114.53mortgage interest707.62repairs442.95supplies567.05taxes176.28utilities, telephone727.77postage156.18appeal to pprd expen.2.75misc. services69.90car wash54.00glasses79.88replacement expensefor bus. car 1,133.68$ 8,365.401994 Tax Ct. Memo LEXIS 228">239 In July of 1987, Pataky visited petitioner's home office. At that time, the office contained a desk, two chairs, and one lamp, but did not contain a window fan. Pataky also did not observe any teak chairs or venetian blinds as claimed by petitioner. 3 The office was not large enough to conduct patient examinations, and petitioner never told Pataky that he examined patients in another room of the house or that he traveled to patients' homes to make the physical examinations for the insurance company. (a) Home Office DeductionRespondent determined that petitioner did not substantiate that he used any part of his home for business purposes as required by section 280A. In the statutory notice of deficiency, respondent disallowed $ 10,591 of the $ 10,915 of the total expenses (cost of operations plus itemized deductions) claimed1994 Tax Ct. Memo LEXIS 228">240 on the Schedule C "since it has not been established that these amounts were paid or incurred, or if paid or incurred, that they constitute ordinary and necessary business expenses within the meaning of I.R.C. section 162." In the notice of deficiency, respondent listed the Schedule C deductions allowed for 1985 as follows: Office supplies$ 40.64Secretarial services50.00Telephone234.21Total$ 324.85Section 162(a) allows a deduction for all of the ordinary and necessary expenses paid or incurred during the taxable year in carrying on a trade or business. Under section 262, however, no portion of the expenditures attributable to personal, living, or family expense may be deducted. Furthermore, section 280A narrows the general deductibility rule of section 162 when deductions are claimed for the expenses of an office in the home. Section 280A denies deductions with respect to the use of a dwelling unit used by the taxpayer as a residence during the taxable year. Section 280A(c), however, permits the deduction of expenses allocable to a portion of the dwelling unit that is used exclusively and on a regular basis as "the principal place of business" for any trade1994 Tax Ct. Memo LEXIS 228">241 or business of the taxpayer. Sec. 280A(c)(1)(A). Petitioner has shown to our satisfaction that for the taxable year 1985 his home office was the principal place of business, within the meaning of section 280A, for the medical practice he conducted as a sole proprietorship. Commissioner v. Soliman, 506 U.S. , 113 S. Ct. 701 (1993). Based upon the evidence presented, we find that petitioner is entitled to the following deductions, in addition to those allowed by respondent, in relation to his home office: $ 419.82 Mortgage interest707.62Taxes176.28Roof repairs24.09Office chair repairs92.66Supplies (pictureframes, light bulbs) 266.964Window fan 79.95Total$ 1,767.381994 Tax Ct. Memo LEXIS 228">242 Petitioner methodically retained receipts for his expenditures. On certain receipts, petitioner specifically wrote "office expense" and circled the relevant amount and date. However, on other receipts, no such notations were made. Thus, we have allowed deductions for those expenses that petitioner substantiated by testifying and presenting detailed receipts on which there are contemporaneous indications of the amount paid, the date of purchase, and the business purpose of the purchase. We have not allowed deductions for items that constitute personal expense and/or unsubstantiated expenditures. (b) Business Use of AutomobilePetitioner also claimed automobile expenses in connection with his Schedule C business. Under section 162, a taxpayer may deduct the cost of operating a passenger vehicle to the extent that it is used in the taxpayer's trade or business. Section 274(d) provides that no deduction under section 162 will be allowed unless the taxpayer complies with certain substantiation requirements. Section 1.274-5, Income Tax Regs., prescribes the rules for substantiation. Generally, a taxpayer must substantiate, by adequate records or sufficient evidence corroborating1994 Tax Ct. Memo LEXIS 228">243 his own statement, the amount, time, place, and business purpose of his expenditures. Sec. 1.274-5(b) and (c), Income Tax Regs. A record of these elements of an expenditure (e.g., an account book or diary) must have been made at or near the time of the expenditure and must be supported by sufficient documentary evidence (e.g., receipts or paid bills) to constitute substantiation of an expenditure. 5Sec. 1.274-5(c), Income Tax Regs.1994 Tax Ct. Memo LEXIS 228">244 However, prior to 1984 and also specifically for the taxable year 1985, the substantiation requirements of section 274(d) did not apply to local business travel (i.e., travel not away from home) expenses. 6Miller v. Commissioner, T.C. Memo. 1982-491. Under Cohan v. Commissioner, 39 F.2d 540">39 F.2d 540 (2d Cir. 1930), this Court may approximate the amount incurred for local business travel. However, petitioners must present evidence from which we can reasonably estimate the amount of miles driven for local business purposes. 1994 Tax Ct. Memo LEXIS 228">245 Petitioner alluded to American Express diaries that he kept during 1985 in which he scheduled his business appointments, but he did not produce or offer these diaries into evidence at trial. The only evidence petitioner offered to substantiate his mileage for 1985 was a notecard on which he had recorded his automobile's mileage on January 1, 1985, and on December 31, 1985. Although the notecard is evidence of the total mileage for all uses of the automobile in 1985, it provides no evidence as to the business use of the vehicle. Petitioner testified at trial that he did not have any other documentation regarding his automobile mileage because he thought this was all he needed. He stated that 40 percent is what "I'm supposed to use" for computing business use of the automobile. Although petitioner may in fact have used his automobile for business purposes in 1985, neither petitioner's unsubstantiated testimony nor the notecard provides a basis from which we can reasonably estimate the expenses incurred for local business travel. However, we are satisfied that petitioner had some business mileage in 1985 in connection with his physical examinations conducted in patients' homes1994 Tax Ct. Memo LEXIS 228">246 for the insurance company. Relying on the Cohan rule, but bearing heavily against petitioner for the inexactitude that is of his own making, we find that petitioner had 1,000 business miles that year. 39 F.2d 540">Cohan v. Commissioner, supra.2. Schedule A DeductionsIn November of 1985, petitioner dissolved his partnership with certain other pathologists and became employed at St. John's Hospital in Cleveland, Ohio, as a physician advisor. His duties as a physician advisor included acting as a liaison between the medical staff and the hospital administration and advising physicians on meeting Federal Medicare guidelines. Petitioner was a salaried employee of the hospital and did not receive a commission. Petitioners claimed the following miscellaneous itemized deductions on Schedule A, and respondent allowed substantiated expenses as follows: Per ReturnAmount AllowedUnion and professional dues,licenses, malpractice $ 4,659.50 $ 3,480.50Tax return preparation expense116.92-0- Legal fees775.00-0- Business entertainment --professional associates 1,081.81742.86Education courses - fees, etc.7,101.533,038.12Professional books & journals,photo supplies 947.33942.21Academy of Medicine photo150.0068.35US Air Force Reserve Insignia152.02-0- Subscription of Mortality &Morbidity Weekly Review -0- 69.00TOTAL$ 14,984.11$ 8,341.041994 Tax Ct. Memo LEXIS 228">247 Petitioner disputes respondent's partial disallowances of deductions for business entertainment and education courses, including travel to and from the courses. (a) Business Entertainment Expense DeductionSection 1.274-2(a)(1), Income Tax Regs., specifically disallows deductions for entertainment expenses unless a taxpayer establishes that the expenditure was directly related to or associated with the active conduct of a trade or business. Section 1.274-2(f)(2), Income Tax Regs., provides exceptions to the general disallowance rule: (i) Business meals and similar expenditures -- (a) In general. Any expenditure for food or beverages furnished to an individual under circumstances of a type generally considered conductive to business discussion (taking into account the surroundings in which furnished, the taxpayer's trade, business, or income-producing activity, and the relationship to such trade, business or activity of the persons to whom the food or beverages are furnished) is not subject to the limitations on allowability of deductions provided for in paragraphs (a) through (e) of this section. There is no requirement that business actually be discussed for 1994 Tax Ct. Memo LEXIS 228">248 this exception to apply.However, the business meals exception provides that the surroundings in which the business entertainment occurs "must be such as would provide an atmosphere where there are no substantial distractions to discussion." Sec. 1.274-2(f)(2)(i)(b), Income Tax Regs. The exception will not apply "where there are major distractions not conducive to business discussion, such as at night clubs, sporting events, large cocktail parties, sizeable social gatherings or other major distracting influences." Id.Furthermore, a taxpayer must meet certain substantiation requirements in order for a deduction to be allowed. The taxpayer must prove certain elements of the expenditure: the amount of the entertainment expenditure, the date and place of entertainment, the business purpose, and the business relationship between the taxpayer and the persons entertained. Sec. 1.274-5(b)(3), Income Tax Regs.Section 1.274-3(a), Income Tax Regs., disallows deductions for gifts made directly or indirectly by a taxpayer to any individual during the taxable year in excess of $ 25. A taxpayer must prove the cost of the gift, the date of the gift, a description of the gift, the1994 Tax Ct. Memo LEXIS 228">249 business relationship between the taxpayer and the recipient of the gift, and the business reason for the gift or nature of business benefit derived or expected to be derived as a result of the gift. Sec. 1.274-5(b)(5), Income Tax Regs.Petitioner presented testimony and receipts for drinks that he purchased for colleagues and coworkers after work or at medical staff dinner/dances at country clubs. He made notes to himself whenever he contributed $ 10 to a pool for a retirement gift or holiday gift for a coworker. 7 Petitioner testified that he thought these expenditures were all business related and were deductible. Respondent has allowed deductions for such items in the amount of each receipt presented, up to $ 25. We think that respondent was generous in allowing these deductions since many of the expenditures petitioner described 1994 Tax Ct. Memo LEXIS 228">250 at trial were personal in nature. The situations described by petitioner were routine social "happy hour" gatherings or meals often shared by colleagues and coworkers at the end of a work day, not business meetings or discussions directly related to or associated with the active conduct of his position as a physician advisor at St. John's Hospital. We think respondent was generous in the allowance of many of the deductions for business entertainment expenses, and we hold that petitioners are not entitled to any further deductions in excess of those deductions allowed by respondent. (b) Education Courses and TravelOn Schedule A, petitioners deducted $ 7,101.53 for education courses and related expenses. Respondent allowed $ 3,038.12 of that amount. Petitioner contends that he is entitled to travel and education expenses in addition to those allowed by respondent. Petitioner provided evidence of two trips that were disallowed by respondent. The first trip was a 2-day trip to Washington, D.C., in October of 1985. Petitioner spent the first day attending a medical seminar and the second day taking the board certification examination in quality assurance and utilization review. 1994 Tax Ct. Memo LEXIS 228">251 Generally, travel expenses connected with the attendance by a professional at a convention or professional meeting are deductible. Coughlin v. Commissioner, 203 F.2d 307">203 F.2d 307 (2d Cir. 1953); Coffey v. Commissioner, 21 B.T.A. 1242">21 B.T.A. 1242, 21 B.T.A. 1242">1244 (1931). In addition, educational expenses are deductible "when the education maintains or improves the skills required by an individual in his or her employment or other trade or business". Leamy v. Commissioner, 85 T.C. 798">85 T.C. 798, 85 T.C. 798">809-810 (1985); sec. 1.162-5(a), Income Tax Regs. Petitioner has adequately shown the purpose of this trip and has substantiated the expenses incurred. Therefore, we hold that the expenses related to this trip, 8 totaling $ 740, are deductible on Schedule A. The second trip, in November of 1985, involved traveling to Chicago, Illinois, to attend a presentation on antibiotics and to1994 Tax Ct. Memo LEXIS 228">252 consider purchasing laboratory equipment for the hospital's pathology laboratory. The presentation was made by a company that had devised a new machine for more rapidly processing bacteriological cultures and testing organisms' sensitivities to various drugs. After the first day of the 2-day meeting, petitioner and his colleague, Dr. Hinman, St. John's Hospital chief of surgery, who accompanied petitioner on the trip, discovered that the equipment in which they were interested was not suitable. They therefore returned home on the same day as they had arrived. We find that this trip was undertaken by petitioner in his capacity as a physician advisor and was of benefit to St. John's Hospital. Petitioner was in charge of advising on purchases of this type of equipment. This trip falls within the scope and duties of petitioner's employment. However, when an employee has a right to reimbursement for expenditures related to his statutes as an employee but fails to claim such reimbursement, a deduction for the employee's expenses is not allowed because the employee's expenditures are not "necessary". Heidt v. Commissioner, 274 F.2d 25">274 F.2d 25 (7th Cir. 1959),1994 Tax Ct. Memo LEXIS 228">253 affg. T.C. Memo. 1959-31; Lucas v. Commissioner, 79 T.C. 1">79 T.C. 1, 79 T.C. 1">7 (1982). The burden of establishing that the expense was not reimbursable by the employer rests with petitioner. Podems v. Commissioner, 24 T.C. 21">24 T.C. 21, 24 T.C. 21">23 (1955). Petitioner has not demonstrated that the expenses incurred were not reimbursable. We are not convinced that the hospital would not have reimbursed these expenses had petitioner sought reimbursement. The prohibition of deductions for reimbursable expenses is a clear rule and applies even when an employee is unaware that expenses are reimbursable. Orvis v. Commissioner, 788 F.2d 1406">788 F.2d 1406 (9th Cir. 1986), affg. T.C. Memo. 1984-533. Therefore, we conclude that petitioner is not entitled to a deduction for the expenses of this trip. (c) Additional Adjustments to Schedule ARespondent made the following additional adjustments to Schedule A: Item19859Interest expense ($ 1,942)Real estate taxes(460) Charitable contributions835 Casualty loss-0- 1994 Tax Ct. Memo LEXIS 228">254 Petitioners claimed $ 6,391.15 in charitable contributions on Schedule A. Respondent allowed a deduction for the amount substantiated by petitioners. Petitioners have presented no evidence substantiating the disallowed portion; therefore, we sustain respondent's partial disallowance of charitable contributions. Petitioners have not provided any evidence to respondent or this Court concerning their claimed casualty loss. Therefore, we sustain respondent's disallowance of this loss. 3. Schedule E DeductionsOn Schedule E, petitioners claimed income and expenses and depreciation for six pieces of rental real estate and three automobiles. The income and expenses allowed for the real estate rental properties for 1985 are as follows: 36961308-10 10526 W. 117th WestlakeClifton Advertising$ 21 $ 17 $ 0 Interest3,267 4,972 3,179 Taxes743 991 711 Insurance353 410 0 Utilities92 296 0 Repairs949 1,768 0 Condo Fee0 0 433 Supplies156 35 0 Easement0 10 0 179 Deduction0 488 0 Depreciation1,538 1,909 2,183 Total Expenses$ 7,199 $ 10,896 $ 6,506 Rent$ 5,760 $ 7,740 $ 3,600 Gain (Loss)($ 1,359)($ 3,156) ($ 2,906)1994 Tax Ct. Memo LEXIS 228">255 130512900 19000 W. 105th LakeLakeAdvertising$ 0 $ 0 $ 15 Interest1,2357,173 6,164 Taxes4601,196 1,323 Insurance2450 12 Utilities00 10 Repairs8280 10 Condo Fee02,777 1,439 Supplies00 47 Easement00 0 179 Deduction0383 0 Depreciation1,9326,935 5,167 Total Expenses$ 4,700$ 18,464 $ 14,177 Rent$ 4,710$ 8,724 $ 7,200 Gain (Loss)$ 10 ($ 9,470) ($ 6,977) Respondent allowed a deduction for interest and depreciation as determined from third-party records and documentation provided in connection with the 1984 audit. Respondent allowed depreciation as previously verified for the rental real estate. (a) Rental ActivitiesDuring 1985, Mrs. Schaeffer owned and leased to tenants two parcels of real property located in Cleveland, Ohio, a duplex located at 1305 W. 105th Street (the duplex) and a dwelling located at 10526 Clifton Boulevard (the Clifton property). Mrs. Schaeffer had purchased the duplex from her parents, Walter and Mary Gogol, on February 1, 1981. By reason of her purchase of the duplex, Mrs. Schaeffer was indebted to her parents in the1994 Tax Ct. Memo LEXIS 228">256 original principal sum of $ 22,000. That obligation was payable in the monthly amount of $ 214.69, which represents an amortization of the principal sum over 12 years at an annual interest rate of 6 percent. During 1985, Mrs. Schaeffer's tenant in the Clifton property was her mother, Mary Gogol. The monthly rental charged to Mary Gogol was $ 300. Rather than exchanging money or checks for the full amounts of the $ 300 rent and the $ 214.69 payment due on Mrs. Schaeffer's $ 22,000 obligation, Mary Gogol simply paid the $ 85 difference to petitioners each month. Petitioners reported the full annual rental income of $ 3,600 on their 1985 return and claimed an interest deduction on Schedule E, relating to the $ 22,000 obligation. Respondent accepted this treatment. During 1985, Mrs. Schaeffer rented the bottom unit of the 1305 W. 105th Street duplex to Harold Blevins for $ 300 per month and rented the top unit to her father, Walter Gogol, for $ 85 per month. Respondent allowed only one-half of the depreciation for the duplex because the top unit was rented to Mrs. Schaeffer's father at below-market rent. Petitioners have conceded that they are not entitled to any deductions for1994 Tax Ct. Memo LEXIS 228">257 the leasing of the top unit of that property. But see supra note 9. (b) Claimed Business Entertainment for Rental ActivitiesPetitioners seek to deduct business entertainment expenses for rental real estate activities. Four receipts were offered into evidence, purportedly substantiating business entertainment expenditures related to petitioners' rental real estate activities. On two of the receipts, petitioner has noted "dinner with MES [petitioner-wife Maureen E. Schaeffer] to discuss real estate matters". No other names were indicated on those receipts. Another receipt only indicates "Allan dinner" on November 28, 1985, and the final receipt indicates that petitioner purchased two bottles of liquor on December 21, 1985, for a cocktail reception. Petitioners have not convinced this Court that these expenditures that they seek to deduct constitute the business entertainment expenses contemplated by section 274 and its regulations, rather than personal expenses. Therefore, we sustain respondent's disallowance of these expenditures. (c) Other Claims for Real Property Rental ExpensesIn addition, petitioners claimed separate expenses relating to all of the rental1994 Tax Ct. Memo LEXIS 228">258 property activities (Items G, H, and I on Schedule E). Petitioners claimed $ 1,120 for expenses relating to all of the leasing activities (Item G), and respondent allowed deductions totaling $ 738. Petitioners claimed $ 1,426 in expenses for a van purportedly used 50 percent for real estate activity purposes. Respondent did not allow any expenses for the van claimed on Schedule E (Item H). Petitioners claimed $ 4,252.64 (expenses and depreciation) for a truck purportedly used only for real estate maintenance purposes. Respondent allowed $ 633 for such truck expenses and no depreciation deduction (Item I). Petitioners have not provided any further evidence concerning these items, and we hold that petitioners are not entitled to deductions in excess of those allowed by respondent. (d) Automobile Leasing ActivitiesPetitioners also claim that they were in the business of leasing automobiles during 1985. They purportedly leased three automobiles (a 1982 Chevette, a Datsun 200SX, and an Escort) from 1985 through 1987 (Items J, K, and L on Schedule E). The lease charges equal the amounts of petitioners' monthly car payments. Respondent determined that, under section 183, 1994 Tax Ct. Memo LEXIS 228">259 the leases were not entered into for profit. At trial, respondent conceded that petitioners should be allowed lease expense deductions to the extent of the reported income. Petitioners and the Court accepted this concession. We hold that no further amounts are allowable for Items J, K, and L. 4. Other Adjustments in Notice of DeficiencyAs set out in the statement of issues above, the notice of deficiency made other adjustments to petitioners' 1985 tax return. These included the disallowance of Mrs. Schaeffer's payment to an IRA and the disallowance of petitioner's "Keogh Plan" deduction of $ 320. No evidence has been submitted in regard to these items. Petitioners have either conceded these items or have failed to sustain their burden of proof. Rules 142(a), 149(b); Welch v. Helvering, 290 U.S. 111">290 U.S. 111, 290 U.S. 111">115 (1933). We therefore sustain respondent's determination. 1986 and 1987 Taxable YearsAlthough they claim to have documentation, petitioners have refused to provide any documents to the IRS for the audits relating to the taxable years 1986 and 1987. Respondent issued some seven Information Document Requests (IDRs) to petitioners, 1994 Tax Ct. Memo LEXIS 228">260 to which they failed to respond. In early May 1990, the IRS issued and served an administrative summons for the production of documents relating to petitioners' 1986 and 1987 returns. That summons was directed to both petitioners at the Lakewood, Ohio, address, and the date of issuance was improperly omitted by Revenue Agent Pataky. On May 29 and 30, 1990, respectively, Pataky issued a summons to petitioner at his then Effingham, Illinois, address and to Mrs. Schaeffer at the Lakewood, Ohio, residence. These administrative summonses required petitioners to produce substantiation for various items claimed on their 1986, 1987, and 1988 returns. Petitioners failed to produce any of the documents, although they claim to have such documents which they say are in the possession of Hill, their counsel in this proceeding. The IRS did not seek to enforce these summonses in the local United States District Courts. On December 28, 1990, respondent issued the statutory notice of deficiency for the years 1985 (discussed above), 1986, and 1987. Other than adjustments based on third-party sources and documents furnished for the 1984 and 1985 audits, respondent disallowed petitioners' various1994 Tax Ct. Memo LEXIS 228">261 claimed deductions and losses as unsubstantiated. At the trial in this Court, petitioners persisted in their refusal to produce any documentation for 1986 and 1987. Petitioners seem to argue that respondent had an obligation to enforce the summonses in District Court for document production. Petitioners contend that, since respondent failed to seek enforcement of the summonses, the notice of deficiency subsequently issued, which disallowed all unsubstantiated deductions, was without rational foundation and was arbitrary and capricious. Petitioners complain that respondent has "forced them into the Tax Court", and that the burden of going forward with the evidence should be placed on respondent. Petitioners bear the burden of establishing that the notice of deficiency is arbitrary. Helvering v. Taylor, 293 U.S. 507">293 U.S. 507, 293 U.S. 507">515 (1935); Gold Emporium, Inc. v. Commissioner, 910 F.2d 1374">910 F.2d 1374, 910 F.2d 1374">1378 (7th Cir. 1990), affg. Malicki v. Commissioner, T.C. Memo. 1988-559; Zuhone v. Commissioner, 883 F.2d 1317">883 F.2d 1317, 883 F.2d 1317">1325 (7th Cir. 1989), affg. T.C. Memo. 1988-142;1994 Tax Ct. Memo LEXIS 228">262 see United States v. Walton, 909 F.2d 915">909 F.2d 915, 909 F.2d 915">918 (6th Cir. 1990). Petitioners have not sustained that burden. To support their argument that the notice was arbitrary, petitioners merely point to the fact that respondent did not seek to enforce the summonses in the District Court. 10When a taxpayer refuses to provide requested documents, respondent has the authority to summon the production of documents. Specifically, section 7602 provides: (a) Authority to Summon, Etc. -- For the purpose of ascertaining the correctness of any return, making a return where none has been made, determining the1994 Tax Ct. Memo LEXIS 228">263 liability of any person for any internal revenue tax or the liability at law or in equity of any transferee or fiduciary of any person in respect of any internal revenue tax, or collecting any such liability, the Secretary is authorized -- (1) To examine any books, papers, records, or other data which may be relevant or material to such inquiry; (2) To summon the person liable for tax or required to perform the act, or any officer or employee of such person, or any person having possession, custody, or care of books of account containing entries relating to the business of the person liable for tax or required to perform the act, or any other person the Secretary may deem proper, to appear before the Secretary at a time and place named in the summons and to produce such books, papers, records, or other data, and to give such testimony, under oath, as may be relevant or material to such inquiry; and (3) To take such testimony of the person concerned, under oath, as may be relevant or material to such inquiry.Under section 7604(b), respondent may seek to enforce the summons in District Court; however, respondent need not exercise this discretionary power. The party1994 Tax Ct. Memo LEXIS 228">264 that has been summoned remains obligated to produce the requested documents. As this Court pointed out over 20 years ago, "Nor do we know of any rule of law which requires the Internal Revenue Service to seek a court order under section 7604 to compel the production of withheld records as a condition of the disallowance of claimed deductions for lack of substantiation." Figueiredo v. Commissioner, 54 T.C. 1508">54 T.C. 1508, 54 T.C. 1508">1513 (1970), affd. in an unpublished order (9th Cir. 1973). Deductions are a matter of legislative grace, and petitioners bear the burden of proving entitlement to the deductions and rental losses they have claimed. Deputy v. Du Pont, 308 U.S. 488">308 U.S. 488, 308 U.S. 488">493 (1940); New Colonial Ice Co. v. Helvering, 292 U.S. 435">292 U.S. 435, 292 U.S. 435">440 (1934); Burnet v. Houston, 283 U.S. 223">283 U.S. 223, 283 U.S. 223">227 (1931). When petitioners failed to respond to the document requests or to comply with the summonses, respondent was within her rights to determine that petitioners were not allowed to deduct unsubstantiated items for 1986 and 1987 and to issue a notice of deficiency. A statutory notice of deficiency1994 Tax Ct. Memo LEXIS 228">265 normally is entitled to a presumption of correctness, and, except where provided in the Internal Revenue Code or the Tax Court Rules of Practice and Procedure, places the burden of proof and the burden of going forward with the evidence on the taxpayer. Rule 142(a); Welch v. Helvering, 290 U.S. 111">290 U.S. 111, 290 U.S. 111">115 (1933). 111994 Tax Ct. Memo LEXIS 228">266 When a taxpayer fails or refuses to produce books and records to substantiate deductions that are peculiarly within his own knowledge and control, he cannot complain that respondent's determination is arbitrary and excessive. Pfluger v. Commissioner, 840 F.2d 1379">840 F.2d 1379, 840 F.2d 1379">1382-1383 (7th Cir. 1988), affg. T.C. Memo. 1986-78; Estate of Mason v. Commissioner, 64 T.C. 651">64 T.C. 651, 64 T.C. 651">658 (1975), affd. 566 F.2d 2">566 F.2d 2 (6th Cir. 1977); Estate of Roberts v. Commissioner, 62 T.C. 834">62 T.C. 834, 62 T.C. 834">836-837 (1974); Figueiredo v. Commissioner, 54 T.C. 1508">54 T.C. 1513. 12Section 6212(a) provides in part that "If the Secretary determines that there is a deficiency in respect of any tax imposed * * he is authorized to send notice of such deficiency * * ". The notice must advise the taxpayer that the Commissioner has determined a deficiency for a particular year and must specify the amount of the deficiency or give information necessary to compute the deficiency. Portillo v. Commissioner, 932 F.2d 1128">932 F.2d 1128, 932 F.2d 1128">1132 (5th Cir. 1991), affg. in part and revg. in part T.C. Memo. 1990-68; Donley v. Commissioner, 791 F.2d 383">791 F.2d 383, 791 F.2d 383">384 (5th Cir. 1986); Benzvi v. Commissioner, 787 F.2d 1541">787 F.2d 1541, 787 F.2d 1541">1542 (11th Cir. 1986); Foster v. Commissioner, 80 T.C. 34">80 T.C. 34, 80 T.C. 34">229-230 (1983), affd. in part and vacated in part 756 F.2d 1430">756 F.2d 1430 (9th Cir. 1985). However, a notice of deficiency need not explain how deficiencies were determined. Scar v. Commissioner, 814 F.2d 1363">814 F.2d 1363, 814 F.2d 1363">1367 (9th Cir. 1987),1994 Tax Ct. Memo LEXIS 228">267 revg. 81 T.C. 855">81 T.C. 855 (1983); Commissioner v. Stewart, 186 F.2d 239">186 F.2d 239, 186 F.2d 239">242 (6th Cir. 1951), revg. a Memorandum Opinion of this Court dated Dec. 19, 1949; Powers v. Commissioner, 100 T.C. 457">100 T.C. 457 (1993); Campbell v. Commissioner, 90 T.C. 110">90 T.C. 110, 90 T.C. 110">115 (1988). Here, the statutory notice of deficiency for 1986 and 1987 was, in fact, quite detailed in its explanations and computations. Petitioners nonetheless argue that the Court should find that this statutory notice of deficiency was arbitrary. They are asking us to look behind the notice of deficiency to examine the method and evidence that the Commissioner used in making the determination. Riland v. Commissioner, 79 T.C. 185">79 T.C. 185, 79 T.C. 185">201 (1982); Jackson v. Commissioner, 73 T.C. 394">73 T.C. 394, 73 T.C. 394">400 (1979). This Court generally will not look behind the notice of deficiency to examine the procedures leading to the determination. Dellacroce v. Commissioner, 83 T.C. 269">83 T.C. 269, 83 T.C. 269">280 (1984); Greenberg's Express, Inc. v. Commissioner, 62 T.C. 324">62 T.C. 324, 62 T.C. 324">327 (1974).1994 Tax Ct. Memo LEXIS 228">268 We have looked behind the statutory notice in rare cases that involved illegal unreported income in which respondent did not introduce any substantive evidence of unreported income but rested solely on the presumption of correctness. United States v. Janis, 428 U.S. 433">428 U.S. 433, 428 U.S. 433">441 (1976); 62 T.C. 324">Greenberg's Express, Inc. v. Commissioner, supra at 328. Based on the record before us, we hold that this is not an appropriate case for looking behind the notice of deficiency or for shifting the burden of going forward with the evidence to respondent. This case does not involve respondent's making allegations of illegal unreported income and putting petitioner in the difficult position of trying to prove a negative. This case involves respondent's requests for documents substantiating the deductions and rental losses claimed by petitioners on their tax returns, petitioners' refusal to produce those records, and the issuance of a notice of deficiency disallowing unsubstantiated deductions and rental losses. The substantiation of deductions, unlike the denial of unreported income, requires proof of the positive and proof that is peculiarly1994 Tax Ct. Memo LEXIS 228">269 within the knowledge and control of petitioners themselves. A taxpayer is required by the tax laws of this country to keep records of the expenditures he makes and subsequently deducts from his gross income. Sec. 6001. Respondent is certainly within her rights to require proof of the deductibility and amounts claimed as deductions. Hradesky v. Commissioner, 65 T.C. 87">65 T.C. 87, 65 T.C. 87">90 (1975), affd. per curiam 540 F.2d 821">540 F.2d 821 (5th Cir. 1976). Furthermore, respondent was within her rights to issue the notice of deficiency disallowing the deductions and rental losses in the face of petitioners' continuing refusal to produce books and records. Unfortunately, petitioners also have not availed themselves of the opportunity to produce any books and records in this Court for our redetermination of petitioners' tax liability for 1986 and 1987. Despite the Court's repeated efforts to explain that trials in the Tax Court are de novo and that our redetermination of a taxpayer's liability is based upon the record presented to us, no evidence or documentation of any kind was presented to substantiate the deductions and rental losses claimed on the1994 Tax Ct. Memo LEXIS 228">270 1986 and 1987 tax returns. We are unable to do anything other than sustain respondent's determination when petitioners do not cooperate in presenting the evidence that only they possess. When taxpayers choose to appear before the Tax Court with no documentation whatsoever to substantiate deductions, we are unable to invoke the Cohan rule and estimate any expenses and deductions to which they may be entitled. Lerch v. Commissioner, 877 F.2d 624">877 F.2d 624, 877 F.2d 624">627-629 (7th Cir. 1989), affg. T.C. Memo. 1987-295; Pfluger v. Commissioner, 840 F.2d 1379">840 F.2d at 1382, 1386. Application of the Cohan rule is appropriate only when the taxpayer claims a deduction and respondent recognizes that the taxpayer has a legitimate claim to the deduction, but the taxpayer has failed to establish exactly how much that deduction ought to be. Oates v. Commissioner, 316 F.2d 56">316 F.2d 56, 316 F.2d 56">59 (8th Cir. 1963); see also supra note 5. We cannot protect taxpayers from the results of their own (or their counsel's) obstinacy. See Lerch v. Commissioner, 877 F.2d 624">877 F.2d at 629. Therefore, 1994 Tax Ct. Memo LEXIS 228">271 we must sustain respondent's determinations for the taxable years 1986 and 1987. Additions to Tax1. NegligenceRespondent has determined that petitioners are liable for additions to tax under section 6653(a). For the taxable years 1984 and 1985, section 6653(a)(1) imposes an addition to tax if any part of an underpayment of income tax is due to negligence or intentional disregard of rules or regulations. Section 6653(a)(2) imposes a further addition in the amount of 50 percent of the interest due on that portion of the underpayment attributable to the negligence or intentional disregard. For the taxable years 1986 and 1987, section 6653(a)(1)(A) and (B) imposes similar additions. Petitioners filed joint Federal income tax returns for the taxable years 1984 through 1987. Petitioner personally prepared the joint income tax returns for the years 1984, 1985, 1986, and 1987. It was his practice to purchase tax literature and commercial tax books. Petitioners deducted the following amounts on Schedule A of their 1984 return: Attorney fees tax planning$ 837.50 EF Hutton financial planning fee1,100.00Computer tax preparer, HowardSoft Tax Preparer, and tax books 430.87Total$ 2,368.371994 Tax Ct. Memo LEXIS 228">272 For 1985 petitioners deducted $ 116.92 for "Tax return preparation expenses (software, etc.) + forms." Petitioner testified that he spent $ 25 to $ 50 on tax books each year. Petitioners' 1984 return understated taxable income by over $ 50,000 and their 1985 return understated taxable income by over $ 40,000. Their 1986 and 1987 returns understated taxable income by over $ 89,000 and over $ 27,000, respectively. For all years the understatements of income were principally due to unsubstantiated deductions. Respondent's determination of additions to tax under section 6653(a) is presumed correct and must be sustained unless the taxpayer can establish that he or she was not negligent. Hall v. Commissioner, 729 F.2d 632">729 F.2d 632 (9th Cir. 1984), affg. T.C. Memo. 1982-337. Petitioners bear the burden of proving that the underpayment of tax for the taxable years at issue was not due to negligence or intentional disregard of rules or regulations. Rule 142(a); Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933); Bixby v. Commissioner, 58 T.C. 757">58 T.C. 757 (1972). "Negligence is lack of due care1994 Tax Ct. Memo LEXIS 228">273 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, 380 F.2d 499">506 (5th Cir. 1967); Neely v. Commissioner, 85 T.C. 934">85 T.C. 934, 85 T.C. 934">947 (1985). Petitioners assert that respondent is employing an improper subjective standard in evaluating petitioners' preparation of their returns. They state that respondent's focus upon petitioner's educational background and his purchases of tax and financial planning books should not bear upon the imposition of the negligence addition. We agree that these factors are not determinative, but they are to be considered. Petitioners argue that objective inquiries, such as the amount of and source of petitioners' income, the nature and extent of professional, business, and investment activities, results of past examinations, and the relative complexity of the law applicable to petitioners' financial activities, should be considered in determining whether petitioners acted reasonably under the circumstances. The objective standard, however, refers to what a reasonable or ordinarily prudent person would do under all of the facts1994 Tax Ct. Memo LEXIS 228">274 and circumstances of the case. Howard v. Commissioner, 931 F.2d 578">931 F.2d 578, 931 F.2d 578">582 (9th Cir. 1991), affg. T.C. Memo. 1988-531. Petitioners contend that the several large adjustments made on petitioners' returns were due to "an honest misunderstanding of the law, not the lack of documentation". The record does not establish the nature, or even the existence, of any such misunderstanding of the law. Respondent does not question petitioners' recordkeeping. In fact, respondent comments that petitioners' ability to retain and maintain records was remarkable. Respondent asserts, however, that the problem is not an honest misunderstanding of the law, but petitioners' choice of disregarding it. Petitioners argue on brief that most of the adjustments made to their returns were not due to lack of substantiation but rather to nondeductibility. Petitioners' educational backgrounds are to be taken into consideration in determining whether petitioners acted reasonably under the circumstances. See Vick v. Commissioner, T.C. Memo. 1984-353. It is hard to imagine that, for example, petitioner could understand 1994 Tax Ct. Memo LEXIS 228">275 and undertake a computation of the depreciation tax preference for alternative minimum tax purposes, as he claims to have done, yet could merely misunderstand the law and deduct personal expenses, such as eyeglasses and a watch, as business expenses. Petitioners contend that the negligence addition should not apply because similar deductions had been allowed in prior years, and petitioners were merely continuing an accepted practice. They argue that, because adjustments were not made for these items in prior years, the IRS sanctioned their deductibility. That argument is not well taken. Each tax year stands on its own and must be separately considered. United States v. Skelly Oil Co., 394 U.S. 678">394 U.S. 678, 394 U.S. 678">684 (1969). Respondent is not bound in any given year to allow a deduction permitted in a previous year. Lerch v. Commissioner, 877 F.2d 624">877 F.2d at 627 n.6; Knights of Columbus Council No. 3660 v. United States, 783 F.2d 69">783 F.2d 69 (7th Cir. 1986); Corrigan v. Commissioner, 155 F.2d 164">155 F.2d 164 (6th Cir. 1946). Taxpayers have no right to continue a prior tax treatment that was wrong, 1994 Tax Ct. Memo LEXIS 228">276 either on the law or under the facts. Thomas v. Commissioner, 92 T.C. 206">92 T.C. 206, 92 T.C. 206">226-227 (1989). 13 "The mere fact that petitioner may have obtained a windfall in prior years does not entitle it to like treatment for the taxable year here in issue." Union Equity Cooperative Exchange v. Commissioner, 58 T.C. 397">58 T.C. 397, 58 T.C. 397">408 (1972), affd. 481 F.2d 812">481 F.2d 812 (10th Cir. 1973). Moreover, there is no evidence of what items were reviewed and allowed during petitioners' previous audits. Through their audit experience, petitioners knew that all items were not reviewed in office audits. We do not think that they believed that all items claimed on prior returns were correct merely because they were not adjusted during the office audits. In any event, substantiation or lack thereof generally would be different for each tax year. The record supports the negligence 1994 Tax Ct. Memo LEXIS 228">277 additions in this case. Petitioners were negligent in deducting their personal expenses and in overstating amounts of deductible items. The Court sustains respondent's determination of negligence in each year at issue. The entire underpayment in each year is attributable to negligence. 2. Substantial Understatements of Income TaxRespondent also determined additions to tax under section 6661 for a substantial understatement of income tax each year. Section 6661 provides for an addition to tax of 25 percent of the amount of the underpayment of tax attributable to a "substantial understatement of income tax". A substantial understatement is defined as an amount that exceeds the greater of 10 percent of the tax required to be shown on the return or $ 5,000. Sec. 6661(b)(1)(A). There were such substantial understatements of income tax in 1984 and 1985. Since petitioners have presented no evidence for 1986 and 1987, we must sustain respondent's determination that substantial understatements existed for those years as well. Rule 142(a); Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933). An understatement, and hence the addition to tax, will be reduced1994 Tax Ct. Memo LEXIS 228">278 if the taxpayer's treatment of an item at issue was based upon substantial authority or if the relevant facts relating to the tax treatment of that item were adequately disclosed on the return or in a statement attached thereto. Sec. 6661(b)(2)(B)(i) and (ii). Petitioners do not come within either of the provisions that permit a reduction of the amount of the understatement. There is no substantial authority for petitioners' treatment of their expense deductions in 1984 and 1985 under section 6661(b)(2)(B)(i). Furthermore, the facts, which were peculiarly within petitioners' own personal knowledge, have not been revealed to the Court to support their claimed deductions for 1986 and 1987. Secondly, petitioners did not make adequate disclosure within the meaning of section 6661(b)(2)(B)(ii). The mere filing of schedules and forms with a tax return does not serve to disclose the underlying facts and true nature of petitioners' claimed deductions. Schirmer v. Commissioner, 89 T.C. 277">89 T.C. 277, 89 T.C. 277">284-286 (1987). 141994 Tax Ct. Memo LEXIS 228">279 The Court sustains the additions for substantial understatements of income tax for all of the years at issue. 15To reflect the above holdings, Decisions will be entered under Rule 155.Footnotes1. For 1986 and 1987 sec. 6653(a)(1)(A) applies.↩2. For 1986 and 1987 sec. 6653(a)(1)(B) applies.↩1. Petitioners have agreed to adjustments to their 1984 income totaling $ 52,861, total tax of $ 22,146, and a deficiency for that year of $ 13,240, which has been assessed and paid.↩2. Petitioner testified that he and his wife paid $ 113,000 for their house in 1977. He ascertained the land base ratio from the county assessor's office and calculated the depreciation for the house using straight-line depreciation for 20 years. He then calculated the depreciation for his home office by calculating 9.09% (the percentage area of the home office in relation to the entire house) of the total depreciation figure.↩3. Petitioner claims to have had teak chairs and venetian blinds in his home office. He apparently had these chairs repaired and deducted those costs under "repairs" and "supplies".↩4. Despite Pataky's testimony, we have allowed this expenditure for a window fan because petitioner produced a contemporaneous receipt indicating price, date of purchase, and business purpose. He also testified that he used the fan in temperate weather to maintain ventilation in the office rather than using the air conditioner unnecessarily. This is a reasonable explanation of why Pataky did not see the window fan in the office in July.↩5. Sec. 1.274-5, Income Tax Regs., supersedes the doctrine of Cohan v. Commissioner, 39 F.2d 540">39 F.2d 540 (2d Cir. 1930). That decision held that, where evidence indicated that a taxpayer incurred deductible travel or entertainment expenses but the exact amount could not be determined, the court should not disallow the deduction entirely but should make a close approximation of the deduction. "Section 274(d) contemplates that no deduction shall be allowed a taxpayer for such expenditures on the basis of such approximations or unsupported testimony of the taxpayer." Sec. 1.274-5(a), Income Tax Regs.↩6. Prior to 1984, local business travel (i.e., travel not away from home) was not subject to the Sec. 274(d) substantiation requirements; rather, it fell within the more general substantiation standards of Sec. 162. Congress amended sec. 274(d) in sec. 179(b) of the Deficit Reduction Act of 1984, Pub. L. 98-369, 98 Stat. 494, 713 (the 1984 Act), to require taxpayers to maintain "adequate contemporaneous records" and to bring the business use of automobiles (whether local or for travel away from home) and other "listed property" as defined in Sec. 280F(d)(4) under the substantiation requirements of sec. 274(d). In the Act of May 24, 1985, Pub. L. 99-44, 99 Stat. 77, Congress repealed the "contemporaneous" recordkeeping requirements of sec. 274(d) and restored prior law for 1985 as though the amendments made by sec. 179(b) of the 1984 Act had not been enacted for that year. Sec. 274(d), as amended by Pub. L. 99-44, applies to taxable years beginning after December 31, 1985. See H. Conf. Rept. 99-67 (1985), 1985-2 C.B. 359↩, 360. Thus, sec. 274(d) thereafter applies to local business travel, and such travel after 1985 must be substantiated by adequate records or sufficient evidence corroborating the taxpayer's own statement.7. Petitioner claimed a deduction for the gift to a coworker whose name he drew for a Christmas exchange, although his name was also drawn and he also received a gift in return.↩8. The allowable expenses include transportation (airplane and taxis), hotel, and meals.↩9. The interest expense and real estate taxes allowed on Schedule A represent the disallowed one-half of the expenses for the duplex located at 1305 W. 105th Street claimed on Schedule E. Therefore, a full interest and real estate tax deduction has been allowed for the property located at 1305 W. 105th Street.↩10. Petitioners' other arguments about purported violations of provisions of the IRS Manual warrant no discussion. Such materials are not the law, and there is no proof of any violations. Keado v. United States, 853 F.2d 1209">853 F.2d 1209, 853 F.2d 1209">1214 (5th Cir. 1988); see Thoburn v. Commissioner, 95 T.C. 132">95 T.C. 132, 95 T.C. 132">141-142↩ (1990), and cases cited therein.11. See also Knoff v. Commissioner, T.C. Memo. 1992-624↩.12. See also DeCoite v. Commissioner, T.C. Memo. 1992-665↩.13. See also Greene v. Commissioner, T.C. Memo. 1992-202↩.14. See also Horwich v. Commissioner, T.C. Memo. 1991-465↩.15. Pursuant to section 6661(c), respondent may waive the addition to tax for substantial understatement. However, such waiver is discretionary, not mandatory. See Mailman v. Commissioner, 91 T.C. 1079">91 T.C. 1079, 91 T.C. 1079">1082-1084↩ (1988). Petitioners have not introduced any evidence that respondent has abused her discretion in this case. On this record, we hold that respondent has not abused her discretion in this matter.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621767/	Henry H. Bonsall, Jr., and Martha G. Bonsall v. Commissioner. C. Jordan Vail and Nancy B. Vail v. Commissioner.Bonsall v. CommissionerDocket Nos. 83670 and 83705.United States Tax CourtT.C. Memo 1962-151; 1962 Tax Ct. Memo LEXIS 157; 21 T.C.M. 820; T.C.M. (RIA) 62151; June 25, 1962Eugene J. Steiner, Esq., 90 State St., Albany, N.Y., for the petitioners. Howard B. Sweig, Esq., for the respondent. SCOTT Memorandum Findings of Fact and Opinion SCOTT, Judge: Respondent determined a deficiency in the income tax of Henry H. Bonsall, 1962 Tax Ct. Memo LEXIS 157">158 Jr., and Martha G. Bonsall for the year 1956 in the amount of $4,027.91, and in the income tax of C. Jordan Vail and Nancy B. Vail for the year 1956 in the amount of $50.25. The issue for decision is whether petitioners received a taxable distribution of stock of Abon, Inc., in the year 1956. It is petitioners' position that no distribution of stock of Abon, Inc., was received by them until 1957, but that if the distribution of such stock was received in 1956, the distribution was tax free under section 355 of the Internal Revenue Code of 1954. Findings of Fact Some of the facts have been stipulated and are found accordingly. Henry H. Bonsall, Jr. (hereinafter referred to as Bonsall) and Martha G. Bonsall (hereinafter referred to as Martha), husband and wife residing at Albany, New York, filed a joint Federal income tax return for the year 1956 with the district director of internal revenue at Albany, New York. C. Jordan Vail (hereinafter referred to as Vail) and Nancy B. Vail (hereinafter referred to as Nancy), husband and wife residing in Delmar, New York, filed a joint Federal income tax return for the year 1956 with the district director of internal1962 Tax Ct. Memo LEXIS 157">159 revenue at Albany, New York. Nancy is the daughter of Bonsall and Martha. She married Vail in 1950. Albany Linoleum and Carpet Co., Inc. (hereinafter referred to as Albany Linoleum), is a corporation organized under the laws of New York in 1924. Since the time of its organization, it has been engaged in the wholesale distribution of linoleum, carpets, rugs, and supplies used in refinishing floors. The Armstrong Cork Company of Lancaster, Pennsylvania has always been the largest supplier of the floor covering products purchased for resale by Albany Linoleum. At all times pertinent hereto, Bonsall and Martha have been the controlling shareholders of Albany Linoleum. On December 31, 1956, they owned 38.19 percent and 38.16 percent, respectively, of Albany Linoleum's common stock. During 1956 and for many years prior thereto, Bonsall was president of Albany Linoleum. During 1956 Martha was vice president and treasurer of Albany Linoleum, and during prior years she had held various corporate positions. During the taxable year 1956 Vail and Nancy were each shareholders of Albany Linoleum and Vail was also an employee of that corporation. For some years prior to 1945 Albany Linoleum's1962 Tax Ct. Memo LEXIS 157">160 business was conducted from rented premises under a lease which required that it be vacated if the building was sold. When the building in which it was conducting its business was sold in 1945, Albany Linoleum acquired a parcel of real property in Albany, New York which was bordered by Northern Boulevard, Spruce, and Elk Streets. A 3-story building was located thereon with the address of 64 Northern Boulevard. This building thereafter served as Albany Linoleum's principal place of business. The gross usable floor area contained in this building aggregated 40,200 square feet. After making allowances for space devoted to stairwells, elevators, washrooms, and a truck loading dock, the net usable floor area in the premises at 64 Northern Boulevard aggregated 29,860 square feet. The cost to Albany Linoleum of this building was $75,454.03. At the same time in 1945 Albany Linoleum also acquired premises at the corner of Northern Boulevard and Elk Street, known as 231 Elk Street. These premises adjoined the property known as 64 Northern Boulevard. The premises at 231 Elk Street consisted of a 2-story frame building with a floor area of approximately 1,656 square feet per floor or a total1962 Tax Ct. Memo LEXIS 157">161 of 3,312 square feet. Commencing in May 1946 and continuing through August 31, 1956, Albany Linoleum leased 2,770 square feet of the premises at 64 Northern Boulevard to Armstrong Cork Company. During the first year of this rental agreement Armstrong Cork Company paid yearly rental to Albany Linoleum in the amount of $1,299.90. During the entire period that it leased the premises from Albany Linoleum, Armstrong Cork Company paid a rental therefor which was less than the fair rental value of the premises. For a number of years prior to the formation of Albany Linoleum, Bonsall had been employed by Armstrong Cork Company, and at all times thereafter had maintained a very close personal relationship with representatives of Armstrong Cork Company. The arrangement whereby Albany Linoleum leased the premises to Armstrong Cork Company at less than the fair rental value thereof was entered into because of Bonsall's desire to maintain this close personal relationship. For a period of 5 1/2 years prior to 1954 Albany Linoleum rented the two floors of 231 Elk Street to the Albany Poultry Company at an annual rent of $600. The following schedule shows Albany Linoleum's gross profits from1962 Tax Ct. Memo LEXIS 157">162 floor covering sales, gross real estate rentals, and total corporate net income for the years 1952 through 1956: Gross ProfitGrossTotalFrom FloorReal EstateCorporateYearCovering SalesRentalsNet Income1952$318,650.55$1,710.00$40,955.171953333,118.521,350.0043,309.751954322,412.451,158.0032,865.771955351,479.741,054.0036,853.841956388,890.811 628.0038,951.81Albany Linoleum had the following expenses of operation of the entire premises at 64 Northern Boulevard and 231 Elk Street for the years 1952 through 1956: Heat, Light, Real EstateYearand PowerTaxesDepreciation1952$1,537.54$3,767.43$2,415.5219531,447.012,290.082,415.5219541,886.034,526.612,415.5319552,117.814,622.742,415.5219562,168.295,141.111,658.32 In addition to these items, Albany Linoleum, on its Federal income tax returns for the years 1952 through 1956 deducted the following corporate expenses (rounded to the nearest dollar): 19521953195419551956Officers' salaries$50,704$53,400$54,620$43,158$45,452Repairs1,5263,5471,1964411,861Interest2,6992,7814,1533,8023,692Insurance2,4623,6823,1532,0454,641Supplies7,8767,7366,4966,5176,6991962 Tax Ct. Memo LEXIS 157">163 No allocations of expenses to the portions of its properties rented were made on the records of Albany Linoleum or in the financial statements prepared by its accountants. During 1956 the officers of Albany Linoleum decided to make an addition to the property at 64 Northern Boulevard. It was decided to raze the frame building at 231 Elk Street and place the addition on this property. The addition was to consist of four floors having a net usable area of 1,656 square feet per floor or an aggregate of 6,624 square feet. The estimated construction cost was $44,000, of which $36,000 was to be financed by a construction mortgage loan. The officers of Albany Linoleum decided that it would be necessary to place a $90,000 mortgage on the completed building in order to pay off the currently existing mortgage on the building and have the necessary construction funds available. Bonsall as president of Albany Linoleum applied to the Albany Savings Bank on February 8, 1956, for a mortgage loan in the amount of $90,000 and was advised by a representative of that bank that such a loan might be arranged if a separate corporation were formed to take title to the property and Albany Linoleum became1962 Tax Ct. Memo LEXIS 157">164 the tenant of the mortgaged property, and the rentals provided for in the lease were assigned to the bank as further collateral for the loan. Subsequently, the mortgage loan and real estate committee of the Albany Savings Bank agreed to make a mortgage loan of $90,000 to a new corporation to be formed to own the real estate at 64 Northern Boulevard including the new addition thereto on the condition that the lessor assign to the mortgagee the rentals provided for in a lease to be executed by Albany Linoleum as lessee and the new corporation as lessor, and upon the further condition that Bonsall execute a personal guarantee of the performance of the lease. Bonsall personally agreed to these conditions and submitted the proposal to the shareholders of Albany Linoleum at a meeting called for that purpose. The shareholders of Albany Linoleum at this meeting voted to take the steps necessary to comply with the loan conditions proposed by the bank. Accordingly Abon, Inc. (hereinafter referred to as Abon), was organized to acquire the property located at 64 Northern Boulevard and 231 Elk Street. The certificate of incorporation of Abon was filed with the Secretary of State of New York on1962 Tax Ct. Memo LEXIS 157">165 July 27, 1956, and provided for the issuance of 1,500 shares of stock of a par value of $100 per share or a total capitalization of $150,000. Abon's incorporators were Eugene J. Steiner, Richard R. Rowley, and Richard C. Johnson, and in the certificate of incorporation each of these individuals subscribed to one share of Abon's stock and was named to serve as one of Abon's directors until the first stockholders meeting. On July 30, 1956, a meeting of Albany Linoleum stockholders was held at which a resolution was adopted which authorized Bonsall as president to submit a written offer to sell the property at 64 Northern Boulevard and 231 Elk Street to Abon on the condition that Abon Issue 1,216 shares of its common stock, having a par value of $100.00 each, to the stockholders of record of Albany Linoleum & Carpet Co., Inc. as of July 30, 1956 at 12 noon in the ratio of one share of the common stock of Abon, Inc. for each twenty shares held in Albany Linoleum & Carpet Co., Inc. On August 2, 1956, a meeting was held by the incorporators and subscribers to the capital stock of Abon at which time proposed by-laws were adopted for that corporation. The first meeting of the board of1962 Tax Ct. Memo LEXIS 157">166 directors of Abon was also held on August 2, 1956, at which time Eugene J. Steiner, Richard R. Rowley, and Richard C. Johnson each resigned as a director and assigned in blank to the company his subscription right for one share of Abon stock. Bonsall, Martha, and Willis E. Snyder were elected as directors to fill the vacancies resulting from the resignations. Two other directors were then elected, and these directors unanimously elected as corporate officers Vail, president and treasurer; Bonsall's son Henry, vice president; and Elvin N. Jones, secretary. Vail was thereupon authorized to open a bank account with the Mechanics & Farmers Bank of Albany. A written proposal from Albany Linoleum was then presented to Abon's board of directors which provided in part as follows: IT IS HEREBY PROPOSED to transfer to Abon, Inc. a corporation duly organized and existing under the laws of the State of New York with its office and principal place of business at 64 Northern Boulevard, Albany, New York, the real property hereinbefore described [64 Northern Boulevard and 231 Elk Street], and IT IS FURTHER PROPOSED that the consideration for the said sale shall consist of the assumption by Abon, 1962 Tax Ct. Memo LEXIS 157">167 Inc. of the existing mortgage of $54,000.00, the assumption by Abon, Inc. of the obligations of Albany Linoleum & Carpet Co., Inc. pursuant to a certain contract for the construction of an addition to the buildings on the premises, and to issue its common stock to the stockholders of record of Albany Linoleum & Carpet Co., Inc. as of July 30, 1956 in the ratio of one share of the common stock of Abon, Inc. for each twenty (20) shares of stock of Albany Linoleum & Carpet Co., Inc. Abon's board of directors thereupon adopted the following resolution: WHEREAS a written proposal has been made to this Corporation in the form as set forth above in these minutes, and WHEREAS in the judgment of this Board of Directors, the assets proposed to be transferred to the Corporation are reasonably worth the amount of the consideration demanded therefor, and that it is in the best interests of this Corporation to accept the said offer as set forth in said proposal. NOW THEREFORE, IT IS RESOLVED that said offer, and the terms thereof as set forth in said proposal, be and the same is hereby accepted, and it is FURTHER RESOLVED, that the officers of this Corporation are authorized and directed1962 Tax Ct. Memo LEXIS 157">168 to execute and deliver such instruments or documents and make such arrangements as may be required to fulfill the foregoing acceptance of said proposal. At this meeting it was also resolved that the stock and transfer book then presented be adopted as the stock and transfer book of Abon. On July 30, 1956, Bonsall and Martha each owned 9,320 shares of Albany Linoleum stock, thereby entitling them to 466 shares each of Abon stock; Vail and Nancy owned an aggregate of 700 shares of Albany Linoleum stock, thereby entitling them to 35 shares of Abon stock. On September 12, 1956, pursuant to a written waiver of notice executed by Bonsall and Martha, the first meeting of Abon's stockholders was held, at which time Abon's secretary read the roll of the stockholders appearing in the company's stock record book. A quorum being present, the stockholders adopted the by-laws and ratified all acts of the incorporators and directors of Abon. Vail, Bonsall, and Martha signed the minutes of Abon's first stockholders meeting. A bound ledger entitled, "Stock & Transfer Ledger Abon, Inc." contains on the first two lines of page B, the following entry: CertificatesissuedTimeFrom whombecameCert.No. ofshares wereName of stockholderPlace of residenceownerNo.sharestransferredHenry H. Bonsall, Jr.80 Brookline Ave.,9/12/561466Original issueAlbanyMartha G. Bonsall80 Brookline Ave.,9/12/565466Original issueAlbany1962 Tax Ct. Memo LEXIS 157">169 The first two lines of page V of this ledger contain the following entries: CertificatesissuedTimeFrom whombecameCert.No. ofshares wereName of stockholderPlace of residenceownerNo.sharestransferredC. Jordan Vail60 Wisconsin Ave.,9/12/5615380Original issueDelmarNancy Lee B. Vail60 Wisconsin Ave.,9/12/5616405original issueDelmarOn September 13, 1956, title to the realty located at 64 Northern Boulevard and 231 Elk Street was conveyed to Abon in accordance with the terms submitted by Albany Linoleum on August 2, 1956, and accepted on that date by the board of directors of Abon. On September 13, 1956, Abon, as lessor, and Albany Linoleum, as lessee, executed a lease covering the premises at 64 Northern Boulevard including the 1956 addition, except for that portion of the total premises then occupied by Armstrong Cork Company. Also, on September 13, 1956, a special meeting of Abon's board of directors was held at which time it was resolved that Abon should borrow $36,000 on a mortgage construction loan in order to complete the pending building activities. Both Bonsall1962 Tax Ct. Memo LEXIS 157">170 and Martha were present and participated in this meeting. On September 13, 1956, the Albany Savings Bank made a mortgage loan for $90,000 to Abon, of which $54,000 represented Abon's assumption of mortgage loans previously owed by Albany Linoleum to the Mechanics & Farmers Bank which had been assigned to the Albany Savings Bank. On September 13, 1956, Abon executed an assignment of rent to the Albany Savings Bank which related to the future rentals due under Abon's lease with Albany linoleum. Immediately after September 13, 1956, the fair market value of the net assets transferred to Abon was $9,707.87 or $7.96 per share of stock computed on the basis of 1,219 shares of Abon stock. On March 15, 1957, Abon filed its corporate Federal income tax return for the calendar year 1956. On this return it reported gross rental income of $6,314, total expenses of $4,316.34, and taxable income of $1,997.66. On the balance sheet contained in this return, it showed common stock in the amount of $1,219, paid-in or capital surplus in the amount of $8,488.87, and earned surplus and undivided profits of $1,398.36. Albany Linoleum's balance sheet as of December 31, 1956, reflects no stock or1962 Tax Ct. Memo LEXIS 157">171 other ownership in Abon but does reflect decreases in land and buildings and other fixed depreciable assets. Albany Linoleum had undistributed earnings and profits on December 31, 1956, in the amount of $171,292. When Vail assumed his duties as president of Abon, he began to study its capitalization under the certificate of incorporation of July 26, 1956. He also called an accountant to assist him in setting up books for Abon since he contemplated being bookkeeper for the company as well as its president. When the accountant came over to discuss setting up the books, Vail sked his opinion of how to handle the company's capitalization since the 1,219 shares of stock at $100 par would represent $121,900, whereas the value of the property transferred to Abon for the stock was only $9,707.87. The accountant discussed this problem with an attorney and thereafter advised Vail that a new certificate of incorporation amending the original certificate should be filed since the par value of the stock issued for the property should not exceed the value of the property. On February 20, 1957, a special meeting of Abon's stockholders was held. A written waiver of notice of this special meeting1962 Tax Ct. Memo LEXIS 157">172 was executed by Bonsall, Martha, and Vail. At this meeting Abon's stockholders voted to amend Abon's certificate of incorporation so that Abon's capital stock would be increased from 1,500 shares to 150,000 shares and the par value decreased from $100 per share to $1 per share, thus leaving the total capitalization the same, namely $150,000. On February 26, 1957, a certificate of amendment of certificate of incorporation of Abon was executed by Abon's originators and incorporators, and the persons executing this certificate stated therein that they were all of the subscribers to Abon stock, that no shares of Abon stock had been issued, and that no officers of the corporation had been elected. On April 2, 1957, this certificate amendment and the affidavit were filed with the Secretary of State of New York. On April 5, 1957, certificates representing shares of Abon stock of a par value of $1 per share were executed. These certificates included certificate No. 1 for 466 shares issued to Bonsall, certificate No. 5 for 466 shares issued to Martha, certificate No. 15 for 380 shares issued to Vail, and certificate No. 16 for 405 shares issued to Nancy. Seven hundred and fifty of the 7851962 Tax Ct. Memo LEXIS 157">173 shares issued to Vail and Nancy represented by certificate Nos. 15 and 16 were purchased by them with checks, one to each of them, dated February 15, 1957, and each in the amount of $2,985, drawn by Bonsall and endorsed by Nancy and Vail, each, to Abon. Bonsall made gifts in these amounts to Vail and Nancy, each, with the understanding that they would be used to purchase stock in Abon since additional funds were needed by Abon to complete its building. Bonsall and Martha, on their income tax return for the year 1956, did not include in dividends received from Albany Linoleum as reported therein any amount representing the fair market value of stock of Abon. Respondent in his notice of deficiency increased the dividend income as reported by Bonsall and Martha by the amount of $7,418.72 with the following explanation: (a) It is determined that distribution of 932 shares of stock of Abon, Inc. to you by Albany Linoleum & Carpet Co., Inc. is taxable as a dividend in the amount of $7,418.72 in accordance with Section 301 of the Internal Revenue Code of 1954. Vail and Nancy did not include in the dividend income from Albany Linoleum reported on their income1962 Tax Ct. Memo LEXIS 157">174 tax return for the year 1956 any amount representing the value of stock of Abon. Respondent in his notice of deficiency increased the dividend income reported by them by the amount of $278.60 with the same explanation as given to Bonsall and Martha, except that the reference was to 35 shares of stock of Abon. Opinion Petitioners take the position that no distribution of stock of Abon was received by them in 1956. but that the stock was received in 1957. In this connection petitioners argue that issuance of the stock in 1956 would have been contrary to section 69 of the New York Stock Corporation Law 1 which provides that shares of stock can be issued for property "to the amount of the value thereof in payment therefor" and that had stock of a par value of $121,900 been issued for property of a value of $9,707.87, the officers of the corporation would have been criminally liable under New York Penal Law, sections 662 and 664, and would have been subject to individual liability at the hands of defrauded creditors under section 70, New York Stock Corporation Law, and section 76, New York General Corporation Law. 1962 Tax Ct. Memo LEXIS 157">175 Petitioners state that there was no actual receipt by them of stock in 1956 and could not have been because of the way the charter of Abon was written, and that there was no constructive receipt of stock by them since such stock was not subject to their unqualified demand in 1956. The fact that property paid in for stock is less than the par value of the stock issued therefor does not under section 69 of the New York Stock Corporation Law invalidate the shares or cause the stock to become void but under certain circumstances it is voidable. Kimmel Sales Corporation v. Lauster, 167 Misc. 514">167 Misc. 514, 4 N.Y.S.2d 88 (1938). We disagree with petitioners' contention that section 69 of the New York Stock Corporation Law prohibited them from actually receiving stock of Abon in 1956. The sections of the New York Penal Code cited by petitioners deal with fraudulent or intentional misrepresentations and there is no indication from the evidence herein of any such actions on the part of the stockholders of Albany Linoleum. Petitioners cite a number of cases dealing with whether there is receipt1962 Tax Ct. Memo LEXIS 157">176 of a dividend when a check has been mailed in one year but not received until the following year. They also cite cases holding that the declaration of a dividend which is not paid until a subsequent year is not income to the shareholders until the year in which paid. While the cases cited by petitioners hold that for a dividend to be taxable in a particular year to a shareholder of a corporation, it actually must be received or subject to the unrestricted demand of the shareholder in that year, they do not, with the exception of Texon Oil & Land Co. of Texas v. United States, 115 F.2d 647 (C.A. 5, 1940), involve a question of issuance of stock. Texon Oil & Land Co. of Texas, supra, involved the formation of a new corporation in 1924 under an agreement whereby 49 percent of the common stock of the new corporation would be issued to certain oil producers under certain conditions and in certain proportions to be later ascertained, but did not determine what amount each was to receive or determine or fix a basis for determining what shares would be placed under the dominion or control of any particular oil producer. It was these uncertainties that led the1962 Tax Ct. Memo LEXIS 157">177 Court to conclude that the taxpayer there involved had not received any stock of the new company in 1924 in such a manner as to have dominion and control over it. In that case the stock certificates for the 49 percent of the new corporation's stock were issued temporarily to certain of the oil producers, endorsed by them in blank, and held in escrow upon certain specified conditions. However, in considering the case the Court discussed the taxpayer's ownership of the stock, and not whether certificates evidencing such ownership had been issued to it. The facts of Texon Oil & Land Co. of Texas, supra, are so dissimilar to those here involved that the case is not of assistance in resolving the present issue. It is well settled that stock and the certificate evidencing the ownership of stock are different. Stock ownership in a corporation does not necessarily have to be evidenced by a certificate. A certificate is authentic evidence of title to stock but it is not the stock itself. It certifies to an independently existing fact. Pacific National Bank v. Eaton, 141 U.S. 227">141 U.S. 227 (1891);1962 Tax Ct. Memo LEXIS 157">178 Flour City Nat. Bank v. Shire, 88 A.D. 40, 84 N.Y.S. 810 (1903), affd. 179 N.Y. 587, 72 N.E. 1141">72 N.E. 1141. This Court has recognized in a number of varying situations the distinction between stock and the certificate evidencing ownership of such stock. Scientific Instrument Co., 17 T.C. 1253">17 T.C. 1253 (1952), affirmed per curiam 202 F.2d 155">202 F.2d 155 (C.A. 6, 1953); W. F. Marsh, 12 T.C. 1083">12 T.C. 1083 (1949); and Anita Owens Hoffer, 24 B.T.A. 22">24 B.T.A. 22 (1931). Under the facts in the instant case we hold that petitioners were the stockholders of Abon as of September 13, 1956, when the property of Albany Linoleum was transferred to Abon and that they had ownership at that time proportionate to their ownership in Albany Linoleum. Prior to that date the original subscribers to Abon stock had resigned as directors and endorsed their right to subscribe in blank. The directors and officers selected by the stockholders of Albany Linoleum had begun to function. During the year 1956, Abon received income and incurred expenses, and meetings of Abon's stockholders were held. Where a person has acted in recognition of his connection with a corporation1962 Tax Ct. Memo LEXIS 157">179 as stockholder by virtue of an agreement creating such a relationship he cannot subsequently disclaim the existence of that connection. Beals v. Buffalo Expended Metal Const. Co., 49 A.D. 589, 63 N.Y.S. 635 (1900). While it may have been desirable that the certificate of incorporation of Abon be amended to place a par value on its stock which would permit issuance of 1,219 shares of stock without a possible violation of any law of New York, that company did not exist without shareholders prior to such amendment but in fact did have the same shareholders that Albany Linoleum had. These shareholders were the owners of the Abon stock in proporation to their ownership of Albany Linoleum stocks. Cf. Lodi Iron Works, Inc., 29 T.C. 696">29 T.C. 696 (1958). Petitioners recognized that the transactions here involved constitute a distribution of Abon stock to them by Albany Linoleum even though Abon's stock was never actually owned by Albany Linoleum but contend that even if they did receive such stock in 1956 the distribution was tax free under the provisions of section 355 of the Internal Revenue Code of 1954. 21962 Tax Ct. Memo LEXIS 157">180 Respondent contends that petitioners have failed to meet the requirements of section 355 in two respects, (1) that they have not shown that the distribution of Abon stock was not used principally as a device for the distribution of earnings and profits of Albany Linoleum and (2) that they have failed to show that Albany Linoleum was actively engaged in a real estate rental business during the 5 years prior to the distribution to petitioners of Abon stock. Respondent argues that whereas the loan conditions advanced by the Albany Savings Bank necessitated the formation of Abon as a separate realty corporation, it was immaterial to the bank who owned Abon stock and that no business purpose existed for distributing the stock to petitioners as distinguished from having it retained by Albany Linoleum. Petitioners take the position that a distribution of Abon stock to them was not a device for the distribution of earnings and profits of Albany Linoleum since the creation of Abon was a business necessity. In view of our decision with respect to respondent's second contention, it is unnecessary to decide whether petitioners have shown that the distribution to them of Abon stock was not1962 Tax Ct. Memo LEXIS 157">181 principally as a device for the distribution of earnings and profits of Albany Linoleum. Respondent in support of his second contention relies on Isabel A. Elliott, 32 T.C. 283">32 T.C. 283 (1959), and Theodore F. Appleby, 35 T.C. 755">35 T.C. 755 (1961) affd. per curiam 296 F.2d 925 (C.A. 3, 1962). We have set out in some detail the facts with respect to the rents received by Albany Linoleum from 1952 to 1956, the expenses incurred in maintaining the property, and the space used for rental purposes. The rental to Albany Poultry Company ceased in 1953 and the record is not clear whether this space was ever rented thereafter, but certainly if it was rented at all, it was for only a few weeks. While Bonsall testified of speaking to one or two people about the availability of the space at 231 Elk Street for rent, there is no indication in the evidence that any active effort was made to rent this space. Bonsall testified that it was never listed for rental with an agent and that no signs indicating that the building was for rent were placed thereon. There is no evidence of any other activities engaged in that might be classed as actively attempting to rent the building. 1962 Tax Ct. Memo LEXIS 157">182 The evidence shows that the rental to Armstrong Cork Company was as an accommodation of that company and a help to Albany Linoleum's floor covering business and not as an independent income-producing business of Albany Linoleum. The rent charged to Armstrong Cork Company was during the entire period 1952 to 1956 less than the fair rental value of the premises. Under the facts here present, we agree with respondent that petitioners have failed to show that Albany Linoleum was for 5 years prior to 1956 engaged in a real estate business in conjunction with its floor covering business. Petitioners rely upon the case of Edmund P. Coady, 33 T.C. 771">33 T.C. 771, affd. 289 F.2d 490 (C.A. 6, 1961), which holds that where a business is divided and one-half of the old corporation's business assets are transferred to a new corporation and the stock of the new corporation issued to a 50 percent stockholder of the old corporation, the distribution qualifies for tax-free treatment under section 355. In so holding we pointed out that nothing in section 355 made it inapplicable to the division of a single business as distinguished from the separation of two distinct businesses1962 Tax Ct. Memo LEXIS 157">183 and stated at page 777: A careful reading of the definition of the active conduct of a trade or business contained in subsection (b)(2) indicates that its function is also to prevent the tax-free separation of active and inactive assets into active and inactive corporate entities. This is apparent from the use of the adjective "such," meaning beforementioned, to modify "trade or business" in subsection (b)(2)(B), thus providing that the trade or business required by (b)(2)(B) to have had a 5-year active history prior to the distribution, is the same trade or business which (b)(2)(A) requires to be actively conducted immediately after the distribution. Nowhere in (b)(2) do we find, as respondent suggests we should, language denying the benefits of section 355 to the division of a single trade or business. The Coady case was distinguished in the Appleby case with the following statement 35 T.C. 755">35 T.C. 755, 35 T.C. 755">762): However, we are not confronted with the question of a single business being divided into two businesses. To the contrary, petitioners contend that the agency was engaged1962 Tax Ct. Memo LEXIS 157">184 in the active conduct of the business of renting real estate or property management as well as conducting the real estate brokerage and insurance brokerage business; and that the building corporation was organized for the purpose of operating the rental of its real estate. Petitioners contend that the business of Albany Linoleum was divided between Abon and Albany Linoleum and that the distinction made with respect to the Coady case in the Appleby case is not here applicable. Petitioners do not elaborate on this contention. Under the facts here present, it is clear that all that was transferred to Abon was the real property and that Abon's only activity was leasing that real property to Albany Linoleum and apparently, though the evidence is not unmistakably clear, a small portion to Armstrong Cork Company as Albany Linoleum had previously done. Therefore, the business conducted by Abon was not a part of Albany Linoleum's prior business unless a part of Albany Linoleum's prior business was real estate rental. On the basis of the facts of record, we think that Albany Linoleum was not engaged in a real estate rental business for 5 years prior to 1956 and that this case is indistinguishable1962 Tax Ct. Memo LEXIS 157">185 from 35 T.C. 755">Theodore F. Appleby, supra, and 32 T.C. 283">Isabel A. Elliott, supra.Decision will be entered for respondent. Footnotes1. 8 months - January 1-August 31, 1956.↩1. N. Y. Stock Corp. Law, sec. 69 (Supp., 1961) Consideration for issue of stock, bonds and options No corporation shall issue either shares of stock or bonds, except for money, labor done or property actually received for the use and lawful purposes of such corporation. Subject to any provisions in respect thereof set forth in its certificate of incorporation or other certificate filed pursuant to law, a stock corporation, other than a moneyed corporation, may issue options for the purchase of any of its authorized shares of stock, issued or unissued, for such consideration, value or benefit and upon such terms and conditions as may be fixed by the board of directors, subject to the requirements of this section and section twelve. No shares of stock having par value shall be issued for money in an amount less than the par value of such shares. Any corporation may purchase any property authorized by its certificate of incorporation, or necessary for the use and lawful purposes of such corporation, and may issue stock to the amount of the value thereof in payment therefor, and the stock so issued shall be full paid stock and not liable to any further call, neither shall the holder thereof be liable for any further payment under any of the provisions of this chapter; and in all statements and reports of the corporation by law required to be published or filed, this stock shall not be stated or reported as being issued for cash paid to the corporation, but shall be reported as issued for property purchased. For the purpose of determining whether shares of stock of any corporation are full paid and not liable to any further call no deduction shall be made, in computing the amount of consideration received by such corporation for such shares, for such reasonable compensation or discount in the sale, underwriting, or purchase of such shares by underwriters or dealers or others performing similar services as may be paid or allowed by the corporation. In the absence of fraud in the transaction, the judgment of the board of directors shall be conclusive as to the value of property or services received by the corporation for shares of its stock and the adequacy and sufficiency thereof and as to the consideration, value or benefit, tangible or intangible, received or to be received by the corporation for the issuance of options for the purchase from the corporation of shares of its stock and the adequacy and sufficiency thereof.↩2. All Code references are to the Internal Revenue Code of 1954. SEC. 355. DISTRIBUTION OF STOCK AND SECURITIES OF A CONTROLLED CORPORATION. (a) Effect on Distributees. - (1) General rule. - If - (A) a corporation (referred to in this section as the "distributing corporation") - (i) distributes to a shareholder, with respect to its stock, or (ii) distributes to a security holder, in exchange for its securities, solely stock or securities of a corporation (referred to in this section as "controlled corporation") which it controls immediately before the distribution. (B) the transaction was not used principally as a device for the distribution of the earnings and profits of the distributing corporation or the controlled corporation or both (but the mere fact that subsequent to the distribution stock or securities in one of more of such corporations are sold or exchanged by all or some of the distributees (other than pursuant to an arrangement negotiated or agreed upon prior to such distribution) shall not be construed to mean that the transaction was used principally as such a device), (C) the requirements of subsection (b) (relating to active businesses) are satisfied, and * * *(b) Requirements as to Active Business. - (1) In general. - Subsection (a) shall apply only if either - (A) the distributing corporation, and the controlled corporation (or, if stock of more than one controlled corporation is distributed, each of such corporations), is engaged immediately after the distribution in the active conduct of a trade, or business, or (B) immediately before the distribution, the distributing corporation had no assets other than stock or securities in the controlled corporation and each of the controlled corporations is engaged immediately after the distribution in the active conduct of a trade or business. (2) Definition. - For purposes of paragraph (1), a corporation shall be treated as engaged in the active conduct of a trade or business if and only if - (A) it is engaged in the active conduct of a trade or business, or substantially all of its assets consist of stock and securities of a corporation controlled by it (immediately after the distribution) which is so engaged. (B) such trade or business has been actively conducted throughout the 5-year period ending on the date of the distribution,↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621768/	Reilly Oil Company, Petitioner, v. Commissioner of Internal Revenue, RespondentReilly Oil Co. v. CommissionerDocket No. 19521United States Tax Court13 T.C. 919; 1949 U.S. Tax Ct. LEXIS 15; December 15, 1949, Promulgated 1949 U.S. Tax Ct. LEXIS 15">15 Decision will be entered for the respondent. Petitioner is the successor to a predecessor corporation which owned certain oil properties in Texas. Respondent in his determination of the deficiencies determined that petitioner acquired these properties from its predecessor in a nontaxable reorganization and must take its predecessor's basis of cost and has computed petitioner's depletion on the percentage basis because that yields petitioner a larger deduction for depletion than depletion based on cost. Petitioner contends that it acquired its oil properties in transactions which were taxable and that it is entitled to use its own basis of cost, which entitles it to larger depletion deductions than respondent has allowed. Held, petitioner acquired its oil properties in a transfer which comes within the reorganization provisions of section 112 (g) (1) (D), I. R. C., and that petitioner's cost basis of its oil properties is that of its predecessor. Respondent's use of percentage depletion is sustained. L. Warren Baker, C. P. A., for the petitioner.Frost Walker, Esq., for the respondent. Black, Judge. Disney, J., dissenting. Kern, Leech, Turner, and Opper, JJ., agree with this dissent. BLACK 13 T.C. 919">919 The Commissioner has determined a deficiency in petitioner's income tax for the year 1944 of $ 981.93 and deficiencies in petitioner's excess profits tax for the years 1943 and 1944 in the respective amounts of $ 8,436.84 and1949 U.S. Tax Ct. LEXIS 15">17 $ 1,076.71. The deficiencies are explained, in pertinent part, in a statement attached to the deficiency notice, as follows:1943 and 1944Depletion is calculated by the percentage method, since the cost of the oil-producing properties is held to be the adjusted cost to the predecessor owners, which was nominal. It is held that the properties were acquired through a nontaxable reorganization.The petitioner, by appropriate assignments of error, contests the Commissioner's determination as to depletion for both 1943 and 1944. Petitioner contends that in both years it is entitled to depletion based on cost instead of percentage depletion. It is petitioner's contention that it acquired its properties in a taxable transaction and not in a nontaxable reorganization; therefore, it is not restricted to its predecessor's cost basis.13 T.C. 919">920 FINDINGS OF FACT.The stipulated facts are found as stipulated.The petitioner is a Delaware corporation, with its principal office in Tyler, Texas. Its income and excess profits tax returns for the years 1943 and 1944 were filed with the collector of internal revenue for the second district of Texas, at Dallas, Texas.Trapshooter Reilly Oil1949 U.S. Tax Ct. LEXIS 15">18 & Royalties Co., hereinafter referred to as the predecessor corporation, was organized under the laws of the State of Oklahoma on October 3, 1928. On July 18, 1940, there were 237,927.21 shares of issued and outstanding voting common stock of the predecessor corporation.Prior to the formulation and adoption of the plan of reorganization hereinafter referred to, the predecessor corporation divided certain, but not all, of its oil properties into a number of units of direct interest. The predecessor corporation sold some of such units to its stockholders and, in some instances, to persons other than stockholders. The specific properties so divided into units, the number of units into which the properties were divided, and the number of units sold by the predecessor corporation are as set forth hereinafter.The predecessor corporation owned at July 18, 1940, the following properties: 10 producing oil wells located on the Mitchell lease in Gregg County, Texas, known as Wells Nos. 1, 2, 3, 4, 5, 6, 7, 8, 9, and 10, less direct interests which had been sold and were represented by certificates of direct interest as follows:Units intowhich thePropertyproperty wasUnits solddividedMitchell No. 1 Pool (Well No. 1)512116.20 Mitchell No. 2 Pool (Well No. 2)51276.20 Super-gusher Pool (1/2 of Wells Nos. 1, 2, 3, 4, & 5)100,00024,826.7951949 U.S. Tax Ct. LEXIS 15">19 The percentages of the wells owned by the predecessor corporation after the sale of the units as above stated were as follows:Per centWell No. 164.892272.704387.587487.587587.587610071008100910010100In addition to the above wells, the predecessor corporation owned on July 18, 1940, various and sundry royalties and leases. The value of the above described properties at July 18, 1940, was as follows: 13 T.C. 919">921 Owned byOwned byTotal valueunit holderspredecessorcorporationWell No.1$ 28,750$ 10,093.55$ 18,656.45228,7507,847.6020,902.40328,7503,568.7425,181.26428,7503,568.7425,181.26528,7503,568.7425,181.26628,75028,750.00728,75028,750.00828,75028,750.00928,75028,750.001028,75028,750.00Sundry leases and royalties14,10014,100.00 Total301,60028,647.37272,952.63In conformity with the petition filed by the creditors of the predecessor corporation, the United States District Court for the Eastern District of Texas, on December 15, 1937, adjudged the predecessor corporation a bankrupt and appointed1949 U.S. Tax Ct. LEXIS 15">20 Hugh E. Exum of Amarillo, Texas, as a trustee in a proceeding under section 77-B of the National Bankruptcy Act, as amended. On September 23, 1938, the United States District Court for the Eastern District of Texas entered an order removing the predecessor corporation from the provisions of section 77-B of the National Bankruptcy Act and placing it under the provisions of chapter X of that act. Among the properties of the predecessor corporation included in the orders of September 23, 1938, and December 15, 1937, were the properties represented by the units described above.By orders dated May 16 and July 18, 1940, the court approved the plan of reorganization referred to herein.Pursuant to the plan of reorganization, the court directed that a new corporation be formed and directed the trustee of the properties of the predecessor corporation and of the properties represented by the outstanding units to sell a sufficient amount of those properties to realize the cash required for the consummation and effectuation of the plan of reorganization. The cash realized from the sale of the properties was, pursuant to the court's order and in conformity with the plan of reorganization, 1949 U.S. Tax Ct. LEXIS 15">21 used for the purpose of paying to the creditors (both judgment and unsecured) the amounts of their claims and for the purpose of purchasing at a value fixed by the court the units of direct interest. The court fixed a value on each outstanding share of stock of the predecessor corporation and directed in the plan of reorganization that those of the stockholders who so desired might elect to surrender their stockholdings to the predecessor corporation and to receive cash at the value fixed by the court for each share of stock. The court found the value of each share of outstanding stock 13 T.C. 919">922 of the predecessor corporation and the value of each of the units of interest to be as follows:Value ofValue ofDesignationeach shareeach unitPredecessor corporation$ 0.7296Ashton No. 1 Pool (no wells) 685.15 units outstanding$ 0.3648Mitchell No. 1 Pool (Well No. 1)35.9383Mitchell No. 2 Pool (Well No. 2)35.9383Super-gusher Pool (1/2 of Wells Nos. 1, 2, 3, 4 & 5).4608Prior to the date on which the court assumed jurisdiction, the predecessor corporation owned certain oil property in Harris County, Texas, referred to herein as Ashton No. 1 Pool. This1949 U.S. Tax Ct. LEXIS 15">22 property was divided into 1,000 units of direct interest, and 685.15 units were sold. These properties later became partially worthless and were sold by the trustee and no adjustment or refund was made to the unit holders. In the plan of reorganization the court recognized the interests of the unit holders and accorded the outstanding units a value for redemption of $ 0.3648 per unit.Pursuant to the plan of reorganization there were surrendered to the predecessor corporation 48,094.73 shares of its outstanding stock, for which those surrendering such shares received from the trustee the amount of $ 0.7296 per share.Under the plan of reorganization J. Ray Brown was permitted to exchange 25,831.21 shares of stock in the predecessor corporation, 102.35 units in the Ashton No. 1 Pool, 4,221.30 units in the Super-gusher Pool, 69 units in the Mitchell No. 1 Pool, and 25.25 units in the Mitchell No. 2 Pool for Well No. 3. The units of interest and the shares of stock in the predecessor corporation owned by Brown are included in the outstanding shares of stock of the predecessor corporation and the outstanding units in the properties referred to above.Pursuant to the plan of reorganization1949 U.S. Tax Ct. LEXIS 15">23 the trustee sold four wells, Nos. 2, 5, 8, and 10, for $ 115,000 and sold all of the sundry leases and royalties for $ 14,100. From the cash realized the trustee paid all debts and claims and redeemed for cash, at values fixed by the court, all outstanding certificates of stock and interests of all holders who elected to take cash redemption.The properties of the predecessor corporation remaining after the above described sales of property to raise cash for the purposes referred to were transferred by the trustee to the new corporation pursuant to the plan of reorganization as adopted by the United States District Court for the Eastern District of Texas. In conformity with the plan of reorganization the new corporation, in exchange for the properties of the predecessor corporation, issued common stock to the stockholders of the predecessor corporation and the owners of units of interests who 13 T.C. 919">923 surrendered to the predecessor corporation their stock and unit holdings.During 1940 and in conformity with the plan of reorganization, 164,001.27 shares out of a total outstanding of 237,927.21 shares in the predecessor corporation were surrendered by the owners thereof to the predecessor1949 U.S. Tax Ct. LEXIS 15">24 corporation for cancellation and the owners of such stock received therefor a proportionate part of the stock in the new corporation; 48,094.73 shares were surrendered for cash; and 25,831.21 shares owned by Brown were surrendered in part for Well No. 3, as above stated.Out of 685.15 outstanding units of interest in the Ashton No. 1 Pool, 477.65 units were surrendered to the predecessor corporation and the owners thereof received a proportionate part of the stock in the new corporation; 105.15 units were surrendered for cash; and 102.35 units owned by Brown were surrendered in part for Well No. 3.Out of 24,826.79 units outstanding in the Super-gusher Pool, 15,594.52 units were surrendered to the predecessor corporation and the owners of such units received a proportionate part of the stock in the new corporation; 5,010.97 units were surrendered for cash; and 4,221.30 units owned by Brown were surrendered in part for Well No. 3.Out of 116.20 outstanding units in the Mitchell No. 1 Pool, 39.20 units were surrendered to the predecessor corporation and the owners thereof received therefor a proportionate part of the stock in the new corporation; 8 units were surrendered for cash; and1949 U.S. Tax Ct. LEXIS 15">25 69 units were surrendered by Brown in part for Well No. 3.Out of 76.20 outstanding units in the Mitchell No. 2 Pool, 41.26 units were surrendered by the owners thereof to the predecessor corporation and such owners received therefor a proportionate part of the stock in the new corporation; 9.69 units were surrendered for cash; and 25.25 units owned by Brown were surrendered in part for Well No. 3.The proportionate interests in the stock of the new corporation received as heretofore stated were based upon values of the stock in the predecessor corporation which were exchanged for stock in the new corporation and the values of the units of interest as specified by the court. The total value of the outstanding stock of the new corporation was based upon and measured by the value of the stock of the predecessor corporation which was redeemed for stock in the new corporation and the units of interests exchanged for stock in the new corporation; that is to say, the total value of the outstanding stock of the new corporation exactly equaled the value placed by the court on the shares of stock in the old corporation exchanged for stock in the new corporation, plus the values of the units1949 U.S. Tax Ct. LEXIS 15">26 of interests exchanged for stock in the new corporation.13 T.C. 919">924 Shares of stock in the new corporation were distributed among the participating shareholders in the predecessor corporation and the participating unit holders at values equaling the values of the stock in the predecessor corporation and the values of the units. No persons other than the shareholders in the predecessor corporation became stockholders in the new corporation. The unit holders who became stockholders in the new corporation were also stockholders in the predecessor corporation.Upon the issuance of the stock in the new corporation, $ 135,920.25 was the fair market value of the depletable oil in place. At November 7, 1940, the date of acquisition of the oil properties by the new corporation, those properties had oil reserves of 300,000 barrels, and oil production therefrom amounted to 30,825.98 barrels in 1943 and 33,475.09 barrels in 1944.All of the outstanding stock of the predecessor corporation was voting stock and all of the outstanding stock of the new corporation immediately after the adoption and consummation of the plan of reorganization and thereafter was voting stock.Pursuant to the plan 1949 U.S. Tax Ct. LEXIS 15">27 of reorganization, after the acquisition of the shares of stock and units of those stockholders and unit holders who elected to take cash, the remaining assets of the predecessor corporation were transferred to the new corporation, which, in consideration for the assets so transferred to it, issued its capital stock to the stockholders and unit holders of the predecessor corporation who elected to take stock in the petitioner, on the basis determined in the plan and approved by the court.The par value of the stock in the new corporation, which was voting stock and constituted the only class of stock issued by the new corporation, was $ 1 per share.In exchange for the 164,001.27 shares of stock in the predecessor corporation the holders thereof received 108,777.5696 shares of stock in the new corporation (164,001.27 x .7296 x 100/110 = 108,777.5696).In exchange for the 477.65 units in the Ashton No. 1 Pool the holders thereof received 158.4061 shares of stock in the new corporation (477.65 x .3648 x 100/110 = 158.4061).In exchange for the 15,594.52 units in the Super-gusher Pool the holders thereof received 6,532.4683 shares of stock in the new corporation (15,594.52 x .4608 x 100/1101949 U.S. Tax Ct. LEXIS 15">28 = 6,532.4683).In exchange for 39.20 units in the Mitchell No. 1 Pool the owners thereof received 1,280.7103 shares of stock in the new corporation (39.20 X 35.9383 X 100/110 = 1,280.7103).In exchange for 41.26 units in the Mitchell No. 2 Pool the holders thereof received 1,348.0129 shares of stock in the new corporation (41.26 X 35.9383 X 100/110 = 1,348.0129).13 T.C. 919">925 OPINION.The only question we have to decide in the instant case is the amount of depletion deduction which petitioner is entitled to receive in each of the taxable years 1943 and 1944.Respondent in his determination of the deficiencies computed depletion on the percentage basis. He did this on his determination that the transactions by which petitioner acquired its oil properties amounted to a nontaxable reorganization and that by reason of that fact petitioner is required to take the basis of cost of its predecessor, which was only a nominal amount, and, therefore, petitioner gets a larger deduction from percentage depletion than it would from depletion based on cost.Petitioner, on the other hand, contends that it acquired its oil properties in a transaction which was taxable to the transferor and, therefore, 1949 U.S. Tax Ct. LEXIS 15">29 it is entitled to a basis of cost to it, which it alleges was $ 135,920.25, and that depletion based on cost is $ 4,587.25 greater than respondent has allowed for 1943 and $ 5,040.51 greater than respondent has allowed for 1944.There are no differences between the parties on the basic facts. The only difference is the legal interpretation which is to be given to those facts.It is clear, of course, that petitioner is a corporation resulting from the reorganization of its predecessor, Trapshooter Reilly Oil & Royalties Co. But not every reorganization comes within the nontaxable provisions of the statute. So our task is to examine the several provisions of the statute and determine whether the transfer by which petitioner acquired its properties was nontaxable, as respondent contends, or was taxable, as petitioner maintains.We think the provisions of the statute which are applicable to the facts of the instant case are section 112 (a), (b) (3) and (4), (g) and (h) of the Internal Revenue Code. 1 It is also our view that the transfer 13 T.C. 919">926 by the predecessor corporation through the trustee in bankruptcy to petitioner of the remainder of its assets falls within the provisions1949 U.S. Tax Ct. LEXIS 15">30 of 112 (b) (3) and/or (4) if the reorganization requirements of the statute have been met.1949 U.S. Tax Ct. LEXIS 15">31 In arguing that the transfers were a reorganization within the provisions of section (g) and (h), respondent first contends that section 112 (g) (1) (C) is applicable. (C) reads: "the acquisition by one corporation, in exchange solely for all or a part of its voting stock, of substantially all the properties of another corporation * * ." In arguing that the foregoing provision of the reorganization statute applies, it is respondent's contention that the several transactions detailed in our findings of fact should be viewed separately and that when so viewed petitioner acquired all the property of its predecessor corporation in exchange solely for all or part of its voting stock. It is our view that the several transactions can not properly be viewed separately, but must be viewed as integrated steps to effect the reorganization of the predecessor corporation. When this is done, it is clear that petitioner did not acquire substantially all the properties of the predecessor corporation; it acquired only a part of them, which part was much less than "substantially all." Therefore, we hold there was no reorganization under section 112 (g) (1) (C). Richard K. Mellon, 12 T.C. 90.1949 U.S. Tax Ct. LEXIS 15">32 Cf. United Light & Power Co., 38 B. T. A. 477; affd., 105 Fed. (2d) 866; certiorari denied, 308 U.S. 574">308 U.S. 574.Respondent next contends that there was a reorganization under section 112 (g) (1) (D), which reads: "a transfer by a corporation of all or a part of its assets to another corporation if immediately after the transfer the transferor or its shareholders or both are in control of the corporation to which the assets are transferred * * ." It is clear, of course, that a considerable part of the assets of the predecessor corporation were, under the plan of reorganization, transferred to petitioner. The question is, After the transfer was the predecessor corporation or its shareholders in control of petitioner? It is clear that the transferor corporation was not in control of petitioner because under the plan of reorganization it ceased to exist, but 13 T.C. 919">927 that fact does not impair the validity of the reorganization. Estate of John B. Lewis, 10 T.C. 1080; affd., 176 Fed. (2d) 646.Were the transferor's stockholders in control of petitioner1949 U.S. Tax Ct. LEXIS 15">33 immediately after the transfer? We think they were. The only requirement of subparagraph (h) is that after the transfer of the assets by the predecessor corporation to the new corporation the predecessor corporation itself or its shareholders must own at least 80 per cent of the voting stock of the new corporation and at least 80 per cent of all other classes of its stock. The facts in the instant case show that immediately after the transfer of the assets from the predecessor corporation to the new corporation approximately 68.93 per cent of the predecessor corporation's old shareholders owned 100 per cent of all of the outstanding and voting stock of the new corporation. Petitioner contends that the conditions of section 112 (g) (1) (D) and (h) were not met because only 68.93 per cent of the stockholders of the predecessor were represented in the transferee corporation (petitioner), some having had their stock redeemed for cash and property, and, therefore, the requisite control or continuity did not exist in the transferee (petitioner). Petitioner contends that the words "its shareholders" appearing in the statute mean 100 per cent of the shareholders of transferor and that1949 U.S. Tax Ct. LEXIS 15">34 the 80 per cent appearing in section 112 (h) of the code, defining control, means 80 per cent of that 100 per cent. We do not think this contention of petitioner can be supported. Section 112 (h) defines "control" as used in section 112 as follows:* * * 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.In Toklan Royalty Corporation v. Jones, 58 Fed. Supp. 967; appeal dismissed (CCA-10), 147 Fed. (2d) 987, a reorganization was involved under section 112 (g) (1) (D) of the code, the same provision as that with which we are presently concerned. In that case one of the findings of fact of the court was:Imperial Royalties Company transferred its principal assets and properties to Toklan Royalty Corporation on April 15, 1940, pursuant to the Plan for the transfer of certain assets to Toklan Royalty Corporation, and on that date 75.5% of the shareholders of Imperial Royalties Company had subscribed to shares of stock in Toklan Royalty 1949 U.S. Tax Ct. LEXIS 15">35 Corporation, offered pursuant to said Plan, and 75.5% of the shareholders in Imperial Royalties Company owned, on said date, 100% of the outstanding capital stock of Toklan Royalty Corporation, of all authorized classes. No person who was not a shareholder in Imperial Royalties Company owned any of the outstanding capital stock of Toklan Royalty Corporation on said date.13 T.C. 919">928 The court held in that case that there was a nontaxable reorganization under section 112 (g) (1) (D), notwithstanding that only 75.5 per cent of the stockholders of the transferor continued their interest in the successor corporation. The holding of the court was based on the fact that those stockholders of the predecessor corporation represented by the 75.5 per cent owned all the stock of the transferee corporation and there was, therefore, the continuing interest required by section 112 (h).We think that likewise we should hold in the instant case that, notwithstanding that only 68.93 per cent of the stockholders of the predecessor corporation went into the successor corporation, there was a nontaxable reorganization under section 112 (g) (1) (D). This is so because these stockholders who made1949 U.S. Tax Ct. LEXIS 15">36 up 68.93 per cent of the stockholders of the old corporation owned 100 per cent of the stock of the new corporation. Therefore, the continuing interest required by section 112 (h) was fulfilled. It goes without saying that if this 68.93 per cent of the stockholders of the predecessor corporation had owned less than 80 per cent of the stock of the successor corporation (petitioner) there would have been no reorganization, because the 80 per cent control provided in (h) would not have existed.Respondent also contends that the transfer by the predecessor corporation to petitioner was a reorganization under section 112 (b) (10) of the Code. 2 Petitioner contends that it is obvious that section 112 (b) (10) is not applicable in the instant case; that this section is applicable only to reorganization under 77-B or chapter X of the Bankruptcy Act, wherein control is vested in a corporation's creditors and not its shareholders. In the instant case the petitioner argues that since: * * the shareholders were in control and not the creditors, it in no way meets the test of an insolvency reorganization to which Section 112 (b) (10) applies. The section refers to insolvent corporations1949 U.S. Tax Ct. LEXIS 15">37 which might be, for purposes of reorganization, in control of creditors. Regulations 111, Sec. 29.112 (b) (10)-1 (added by TD 5402, CB 1944, p. 229, approved Sept. 5, 1944) in referring to Section 110 (b) (10) states, in part, -- "The determinative and controlling 13 T.C. 919">929 factors are the corporation's insolvency and the effective command by the creditors over its property." The predecessor corporation in the case at bar was not insolvent, its creditors were at no time in control, and its stockholders were at all times in control of the corporation.Having decided that there was a nontaxable reorganization under section 112 (g) (1) (D), we find it unnecessary to decide whether section 112 (b) (10) is applicable.1949 U.S. Tax Ct. LEXIS 15">38 The petitioner acquired its oil properties in a nontaxable reorganization. Therefore, it follows that it takes the same basis of cost for its oil properties as its predecessor corporation. The Commissioner's use of percentage depletion in his determination of the deficiencies must be approved.Decision will be entered for the respondent. DISNEYDisney, J., dissenting: The whole point of this case depends upon the meaning of "its stockholders" in section 112 (g) (1) (D) of the code in defining reorganization. The majority view is that 68.93 per cent of a corporation's stockholders comprises "its stockholders" within the statute. I must disagree. The statutory expression must mean (a) all of the stockholders, or (b) substantially all of the stockholders, or (c) some of the stockholders. Obviously 68.93 per cent is not all, nor substantially all, of those holding stock, and the majority does not so view the matter. It simply concludes that, since 68.93 per cent of the predecessor corporation's old shareholders owned 100 per cent of the outstanding and voting stock of the new corporation, there was reorganization, and cites Toklan Royalty Corporation v. Jones, 58 Fed. Supp. 967,1949 U.S. Tax Ct. LEXIS 15">39 where it was held that where 75.5 per cent of the old stockholders owned 100 per cent of the stock of the new corporation there was reorganization under section 112 (g) (1) (D) of the code. The case merely states the facts and the above conclusion, without analysis of the question. The majority here, in similarly concluding, does not state whether it considers 68.93 per cent of the stockholders all of them, or only a part. It could not mean the former; if the latter is meant, then it follows that any part, at least any substantial part, of a corporation's stockholders satisfies the statute. But, if so, then say 49 per cent is sufficient, and we might have one part, 49 per cent, reorganizing into one new corporation, and another substantial part, for example, 51 per cent, likewise reorganizing into still another corporation. But since continuity of the corporate organization is of the essence of reorganization, under cases so numerous as to require no collation, more than one reorganized corporation appears impossible -- from which it follows that even if "its stockholders" does not necessarily mean full 100 per cent, it must at least mean so 13 T.C. 919">930 many that another portion1949 U.S. Tax Ct. LEXIS 15">40 could not reorganize into another corporation. It is obvious, I think, that 68.93 per cent of the stockholders does not satisfy such a requirement. Of course the fact that they have 100 per cent control of the transferee corporation is not the test, though it is given controlling weight by the majority -- since it is nowhere stated what "its stockholders" does require.In my opinion, a reading of section 112 (g) of the code discloses at once that Congress never intended that 68.93 per cent of a corporation's stockholders are "its stockholders," for three times in the ten lines of that subsection, when it was desired to express less than all of a category, specific language so expressed: (a) "all or a part" of voting stock was the expression when less than all was meant; (b) "substantially all" was applied to "properties" when less than all was being required; and (c) "all or a part" was applied to assets when all were not required to be transferred. Can it be reasonably doubted, then, that Congress would likewise in the same subsection (in fact in the same sentence) carefully designate less than all of "its stockholders" if it so intended? This textual analysis is consonant1949 U.S. Tax Ct. LEXIS 15">41 with the underlying idea of the continuity of organization necessary to defer taxation. The statutory scheme is "as a general rule to recognize gain or loss upon the exchange of property and to provide for specific exception in situations which are expressly described." Union Pacific Railroad Co., 32 B. T. A. 383; Evert A. Bancker, 31 B. T. A. 14. I do not find place in such a plan for an exchange where under the statute a corporation must be represented by "its stockholders," but only 68.93 per cent take part. I would hold that there was no reorganization under section 112 (g) (1) (D). Therefore, I respectfully dissent. Footnotes1. SEC. 112. RECOGNITION OF GAIN OR LOSS.(a) General Rule. -- Upon the sale or exchange of property the entire amount of the gain or loss, determined under section 111, shall be recognized, except as hereinafter provided in this section.(b) Exchanges Solely in Kind. -- * * (3) Stock for stock on reorganization. -- No gain or loss shall be recognized if stock or securities in a corporation a party to a reorganization are, in pursuance of the plan of reorganization, exchanged solely for stock or securities in such corporation or in another corporation a party to the reorganization.(4) Same -- gain of corporation. -- No gain or loss shall be recognized if a corporation a party to a reorganization exchanges property, in pursuance of the plan of reorganization, solely for stock or securities in another corporation a party to the reorganization. * * (g) Definition of Reorganization. -- As used in this section (other than subsection (b) (10) and subsection (l)) and in section 113 (other than subsection (a) (22)) --(1) The term "reorganization" means * * (C) the acquisition by one corporation, in exchange solely for all or a part of its voting stock, of substantially all the properties of another corporation, but in determining whether the exchange is solely for voting stock the assumption by the acquiring corporation of a liability of the other, or the fact that property acquired is subject to a liability, shall be disregarded, or (D) a transfer by a corporation of all or a part of its assets to another corporation if immediately after the transfer the transferor or its shareholders or both are in control of the corporation to which the assets are transferred * * .(2) The term "a party to a reorganization" includes a corporation resulting from a reorganization and includes both corporations in the case of a reorganization resulting from the acquisition by one corporation of stock or properties of another.(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.↩2. SEC. 112. RECOGNITION OF GAIN OR LOSS. * * (b) Exchanges Solely in Kind. -- * * *(10) Gain or loss not recognized on reorganization of corporations in certain receivership and bankruptcy proceedings. -- No gain or loss shall be recognized if property of a corporation (other than a railroad corporation, as defined in section 77m of the National Bankruptcy Act, as amended) is transferred, in a taxable year of such corporation beginning after December 31, 1933, in pursuance of an order of the court having jurisdiction of such corporation -- (A) in a receivership, foreclosure, or similar proceeding, or(B) in a proceeding under section 77B or Chapter X of the National Bankruptcy Act, as amended,↩to another corporation organized or made use of to effectuate a plan of reorganization approved by the court in such proceeding, in exchange solely for stock or securities in such other corporation.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621770/	LAWRENCE C. PHIPPS, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Phipps v. CommissionerDocket No. 88241.United States Board of Tax Appeals43 B.T.A. 1010; 1941 BTA LEXIS 1418; March 19, 1941, Promulgated 1941 BTA LEXIS 1418">1418 1. Upon facts showing that petitioner acquiesced in, affirmed, and benefited from respondent's allowance of a specific exemption of $38,000 in computing gift tax liability for the year 1933, which exhausted the total specific exemption of $50,000 allowed by section 505(a)(1) of the Revenue Act of 1932, held, that petitioner is not entitled to a further specific exemption in 1935, and that he has exercised his option to exhaust the allowable specific exemption for gift tax purposes in 1933. 2. Petitioner gave to 13 persons on the same day small blocks of preferred stock of the same corporation of 100 shares, 300 shares, 1,000 shares, 1,250 shares, and 2,500 shares. The Commissioner determined the fair market value of each gift of each block of stock on the date of gift on the basis of the price per share at which the stock was sold on the market on the date of gift. Held, that the fair market value of each block as determined by the Commissioner is supported by the evidence and is not overcome by evidence introduced by petitioner, upon due consideration of evidence relating to earnings and financial condition of the company, transactions in the stock over the counter, 1941 BTA LEXIS 1418">1419 trends of market prices of the stock, and opinions of experts. David A. Reed, Esq., for the petitioner. Angus R. Shannon, Esq., and Frank T. Donahoe, Esq., for the respondent. HARRON 43 B.T.A. 1010">1010 The Commissioner determined deficiencies in gift tax for the years 1934 and 1935 in the respective amounts of $4,605.03 and $21,143.90, a total of $25,748.93. The two questions for determination are: (1) Whether petitioner is entitled to any specific exemption under section 505(a)(1) of the Revenue Act of 1932, in computing net gifts made in the year 1935. This question turns 43 B.T.A. 1010">1011 upon a question of fact and of law relating to whether or not the allowable exemption was exhausted in prior years. (2) What was the fair market value on October 15, 1935, of preferred stock of the Nevada-California Electric Corporation? On another question petitioner concedes to be correct the respondent's determination. FINDINGS OF FACT. Issue 1. - Petitioner is a resident of Denver, Colorado. He filed gift tax returns for the taxable years 1934 and 1935 with the collector for the district of Colorado. Under the provisions of section 505(a) of the1941 BTA LEXIS 1418">1420 Revenue Act of 1932 the total specific exemption allowed for purposes of computing gift tax was $50,000, less the aggregate of the amounts allowed as exemptions for preceding years. Prior to 1933 petitioner claimed and was allowed a deduction of $12,000, specific exemption, in the computation of his gift tax liability for the year 1932. Thereafter the limit on deductions for exemptions in computing gift tax liability was $38,000. In 1933 petitioner made several gifts and he filed a Federal gift tax return. In the return he reported gifts aggregating $76,850, exclusive of gifts of First Liberty Loan bonds, aggregating $163,583.33, including accrued interest, stating in the return that he believed the gift of the Liberty bonds was not subject to Federal gift tax. Petitioner claimed a "specific exemption" deduction of $11,850 in the return against the total gifts reported in the amount of $76,850. Upon auditing the gift tax return for 1933, respondent determined that the gifts of the Liberty bonds were taxable and he increased the aggregate of gifts to $240,433.33. At the same time, respondent increased the deduction for the "specific exemption" from $11,850 to $38,000. Upon1941 BTA LEXIS 1418">1421 these determinations and exemptions respondent determined a deficiency in gift tax of $4,108.17. The deficiency would have been greater if the deduction for the "specific exemption" had not been increased. The deficiency notice was mailed February 28, 1935. Petitioner filed a petition with this Board on March 27, 1935, Docket No. 78915, contesting only respondent's action in increasing the total amount of gifts made in 1933. He did not protest at that time nor allege (in the proceeding before the Board or the Circuit Court) that respondent erred in increasing the "specific exemption" to $38,000. This Board sustained respondent's determination (Lawrence C. Phipps,34 B.T.A. 641">34 B.T.A. 641) and entered a decision on June 10, 1936, that there was a deficiency in gift tax for 1933 in the amount of $4,108.17. An appeal was taken by the petitioner to the United States Circuit Court of Appeals for the Tenth Circuit. The Board's determination and decision was affirmed. (Phipps v. Commissioner, 91 Fed.(2d) 627; certiorari denied, 302 U.S. 742">302 U.S. 742.) Since the deficiency 43 B.T.A. 1010">1012 in gift tax for 1933 would have been greater if the "specific exemption" 1941 BTA LEXIS 1418">1422 deduction for 1933 had been only $11,850, and petitioner not having agreed to liability for 1933 gift tax in an amount greater than the amount of gift tax computed after allowing a deduction of $38,000 for the specific exemption, petitioner received, prior to the taxable years 1934 and 1935, all of the statutory allowance of $50,000 for exemptions from gift tax. Petitioner filed a gift tax return for the year 1934 but made no claim for a deduction for "specific exemption." Petitioner filed a gift tax return for the year 1935, and in that return he claimed a deduction of $26,150 for "specific exemption," that amount being the difference between $50,000 and $23,850. Petitioner computed his gift tax liability for 1935 on the basis of having claimed deductions for specific exemption in prior years in the amounts of $12,000 for 1932 and only $11,850 for 1933. Respondent, on July 20, 1936, advised petitioner that he proposed to determine a deficiency in gift tax for 1935 which would result in part from disallowance of petitioner's claim for deduction of $26,150 as a "specific exemption." Respondent gave as explanation the following: "Specific exemption of $50,000 has been allowed as1941 BTA LEXIS 1418">1423 follows, calendar year 1932-$12,000 and calendar year 1933 - $38,000." Thereupon petitioner, on or after August 7, 1936, filed a protest with respondent in which he excepted to respondent's purposed disallowance of the specific exemption of $26,150, among other things. In the protest petitioner stated that he had taken at his "option" the allowable specific exemption of $50,000 in the years 1932, 1933, and 1935 in the sums of $12,000, $11,850, and $26,150, respectively, and that it was his "selection and desire that said exemption be allowed in said years as chosen by him." Petitioner also stated in the protest: "The Commissioner has assigned all of said specific exemption to years prior to 1934." Issue 2. - On October 15, 1935, petitioner made gifts to members of his family and others of stocks of United States Steel Corporation, Harbison Walker Refractories Corporation, and Nevada-California Electric Corporation, reported in the gift tax return at an aggregate value of $1,560,200. Included in these gifts were gifts of 7 percent cumulative preferred stock of the Nevada-California Electric Corporation, as follows: To Margaret R. Phipps, 2,500 shares; Lawrence C. Phipps, Jr. 1941 BTA LEXIS 1418">1424 , 1,000 shares; Mrs. William White, 1,000 shares; Allan R. Phipps, 1,250 shares; Gerald H. Phipps, 1,250 shares; Dorothy P. Garrett, 1,000 shares; Helen P. Bromfield, 1,000 shares; Van Holt Garrett, 300 shares; Donald C. Bromfield, 300 shares; Henry P. Hunter, 100 shares; Francis W. Hunter, 100 shares; John S. Hunter, 100 shares; Denise Barkalow, 100 shares. Petitioner reported the value of each gift of the above stock at $50 a share, which he believed was the market price of the stock in Denver on the date closest to the 43 B.T.A. 1010">1013 date of the gifts. Respondent increased the value of each gift to $51 a share, the price at which the stock sold in a transaction on the New York Curb Exchange on the date of the gifts. In the petition to this Board petitioner claimed that he overstated the value of the stock on the date of the gifts and alleged that the value was $40 a share. The Nevada-California Electric Corporation was a holding company in 1935, owning nine subsidiary companies, which are utilities operating companies in the region of California and Nevada. It is a Delaware corporation which was organized in 1914 and commenced active operations in 1915. Its plan of financing1941 BTA LEXIS 1418">1425 has been to issue its capital stock, bonds, and other securities in exchange for the stocks and bonds of underlying and associated companies, for working capital, and for other purposes. After 1935 it became an operating company. Its authorized capital stock consisted of $25,000,000 par value preferred stock and $25,000,000 par value common stock. As of December 31, 1934, the preferred stock outstanding in the hands of the public was $10,483,300, par value $100 a share; and the outstanding common stock was $8,468,300. As of the same date the bonded indebtedness was $28,407,500. As of the same date its consolidated surplus, exclusive of reserves and exclusive of dividends of $734,789, was $2,157,553.02. As of December 31, 1933, surplus was $1,844,705.74. As of December 31, 1935, surplus was $3,092,139.27. Earned surplus for 1933 was $521,944.63; 1934, $389,229.51; 1935, $871,938.21. Earned surplus available for redemption of bonds, dividends, etc., as of August 31, 1935, was $608,207.08. At the end of 1934 the financial position of the Nevada-California Electric Corporation was sound. From 1920 through 1934 the gross operating earnings of its associated companies had increased1941 BTA LEXIS 1418">1426 gradually from $3,074,517 to $5,209,151. The gross operating earnings of the associated companies from 1929 through 1934 were as follows: 1929, $5,674,700; 1930, $5,672,386; 1931, $5,650,825; 1932, $5,060,612; 1933, $4,782,608; 1934, $5,209,151. From 1930 through 1935 the 7 percent preferred stock carried a dividend rate of $7 per share, except in the year 1933, when the rate was $4 a share. Earnings per share were as follows: 1930, $7.76; 1931, $6.38; 1932, $3.56; 1933, $3; 1934, $2.34; 1935, $6.51. For the year 1934 the corporation declared cash dividends of 7 percent on outstanding preferred stock, aggregating $734,661. For the year 1935 it declared cash dividends of 7 percent on outstanding preferred stock, aggregating $733,667. At the end of both years dividends in arrears on the 7 percent cumulative preferred stock were 3 percent or $3 per share. As of December 31, 1934, there were 104,883 shares of the 7 percent preferred stock outstanding in the hands of the public. The number 43 B.T.A. 1010">1014 of individuals holding the stock as of November 12, 1935, was 1,163 individuals. The stock was not closely held. Only one stockholder held a block of from 10,000 to 20,0001941 BTA LEXIS 1418">1427 shares and no one person held more than 20,000 shares. Only 10 stockholders held a block of from 2,000 to 10,000 shares; 10 persons held from 1,000 to 2,000 shares; 52 persons held from 200 to 1,000 shares; 72 persons held from 100 to 200 shares; and 1,018 stockholders held stock in lots of less than 100 shares. Ownership of the 7 percent preferred stock was concentrated in California (523 stockholders) and Nevada (472 stockholders). Otherwise ownership throughout the United States was scattered thinly, there being 168 stockholders in 30 other states. The market for the 7 percent preferred stock was concentrated in Denver where transactions took place over the counter. The stock could be listed on the New York Curb Exchange, but it was not dealt in on that exchange except infrequently. Transactions from other cities than Denver were frequently carried out in Denver. Market conditions in general in 1935 showed advances in prices of securities from March to the end of the year. Market prices of stocks of utility companies advanced during 1935 and during October of 1935. Market prices of comparable 7 percent preferred utility stocks advanced in October of 1935. Market1941 BTA LEXIS 1418">1428 prices of the Nevada-California Electric Corporation 7 percent preferred stock advanced throughout 1935 and during October of 1935. In Denver transactions over the counter showed increases in market prices of the Nevada-California preferred stock as follows: HighLowJanuary4437February4338.25March4337.65April44.2538May44.5040.25June45.7542July4843August5044September4843.50October55.5046.25November6859December7064On the New York Curb Exchange sales were made at the following prices: HighLowSeptember4545October5151November6060 60 60 On October 15, 1925, 50 shares of Nevada-California preferred were sold at $51 a share. During 1935 trading in Denver in the Nevada-California Electric 7 percent preferred stock, purchases and sales, involved at least 10,946 43 B.T.A. 1010">1015 shares. , transactions usually were in small lots of 10, 25, 50, 100 shares, or in lots of around such numbers. There were around 28 transactions involving the purchase or sale of the preferred stock in lots of 100 shares, or close to that number. There were 6 transactions involving1941 BTA LEXIS 1418">1429 purchases or sales in lots of from 150 to 250 shares; 3 transactions involving from 300 to 550 share lots; 1 transaction involving a purchase of 800 shares; and 1 transaction involving a sale of 1,000 shares. During 1935 the purchases or sales of the preferred stock on the New York Curb Exchange involved 275 shares. The sales or purchases of the preferred stock in Denver in October of 1935 were made at prices ranging from $46.25 on October 1, to $55.50 on October 29. The purchases or sales were for small lots of stock of 88 shares or less; 5 share lots, 18 share lots, 50 shares, 88 shares. The Nevada-California Electric Corporation issued monthly operating statements which showed gross operating earnings for the month, for the 12 months including the current month, and comparative gross earnings for the same month of the prior year and of the prior 12-month period. The last report issued prior to October 15, 1935, covered the month of August of 1935 and is dated September 23, 1935. The corporation issued detailed annual reports to its stockholders. The operating earnings of Nevada-California Electric Corporation from January 1 to August 31, 1935, were $533,191.55, as compared1941 BTA LEXIS 1418">1430 with $389,264.18 for the same months in 1934, which represented an increase in 1935 over 1934 of about 36.97 percent. The operating earnings for June, July, and August of 1935 aggregated $374,175.85 as compared with $135,950.40 for the corresponding months in 1934. The increase of operating earnings in 1935 for these three months compared with the same months in 1934 was 275 percent. The surplus, before dividends, earned in each year by the corporation, exclusive of gains from the sale of certain Los Angeles property amounting to $1,150,668.62 in 1934 and $1,216,892.11 in 1935, was as follows: YearSurplus earned during yearShares of preferred stock outstandingPer share of preferred stock1930$849,416.79111,388$7.621931749,351.64112,2126.681932602,395.33110,8205.441933521,944.63105,5034.951934389,229.51104,8333.71Subtotal3,112,337.905 yr. avg.5.711935871,938,21104,8068.32Total3,984,276.116 yr. avg.6.13The earnings on the preferred stock based on the selling price of $51 on October 15, 1935, were 11.19 percent for the prior five years and 12.02 percent for the six1941 BTA LEXIS 1418">1431 years including 1935. 43 B.T.A. 1010">1016 During 1934 the corporation reduced its bonded and debenture debt in the hands of the public by $1,857,200, thereby reducing the interest charges thereon by $90,185.69. The interest for a full year on the decreased indebtedness would have amounted to $96,642. During 1935 the corporation reduced its bonded and debenture debt in the hands of the public by $1,616,800, thereby reducing interest charges on this debt by $60,920.94. The saving in interest for a full year on this decreased indebtedness amounted to $83,928. In August of 1935 the corporation realized a profit of $146,406.90 from discounts obtained in retirement of bonds and debentures. The unappropriated surplus at the end of 1934 and 1935 was $2,157,553.02 and $3,092,139.29, repectively. The value of each gift of shares of the 7 percent cumulative preferred stock of the Nevada-California Electric Corporation on October 15, 1935, was $51 per share, or as follows: To Margaret R. Phipps, 2,500 shares, $127,500; Lawrence C. Phipps, Jr., 1,000 shares, $51,000; Mrs. William White, 1,000 shares, $51,000; Allan R. Phipps, 1,250 shares, $63,750; Gerald H. Phipps, 1,250 shares, $63,750; 1941 BTA LEXIS 1418">1432 Dorothy P. Garrett, 1,000 shares, $51,000; Helen P. Bromfield, 1,000 shares, $51,000; Van Holt Garrett, 300 shares, $15,300; Donald C. Bromfield, 300 shares, $15,300; Henry P. Hunter, 100 shares, $5,100; Francis W. Hunter, 100 shares, $5,100; John S. Hunter, 100 shares, $5,100; Denise Barkalow, 100 shares, $5,100. In 1935, on October 15, petitioner made gifts of stocks of 3 corporations to 13 persons. The gifts to each person had a value on the date of gift in excess of $5,000 and petitioner was entitled to exclude the first $5,000 of the gifts to each person from the total amount of gifts made in the year under section 504(b) of the Revenue Act of 1932. Respondent allowed petitioner for such exclusions $65,000. OPINION. HARRON: Issue 1. - The first question relates to petitioner's gift tax liability for the year 1935. The question is whether or not petitioner is entitled to a specific exemption deduction in 1935 under the provisions of section 505(a)(1) of the Revenue Act of 1932. 1 Petitioner claims a specific exemption decuction in the amount of $26,150 for the purpose of computing his gift tax liability for the year 1935. Respondent disallowed the claimed deduction1941 BTA LEXIS 1418">1433 because petitioner had been allowed as specific exemption for preceding calendar years three deductions aggregating $50,000. The facts support respondent's determination 43 B.T.A. 1010">1017 because petitioner was allowed specific exemption deductions in 1932 and 1933 in the respective amounts of $12,000 and $38,000 in the computation of petitioner's gift tax liability for each of those years. Even so, petitioner advances the theory that he is entitled to elect and determine himself the particular years in and over which the statutory exemption of $50,000 is to be claimed and allowed, under the provisions of section 505(a)(1). In short, petitioner contends that he elected to take a deduction for the specific exemption of only $11,850 for the year 1933; that the Commissioner had no right to increase the exemption deduction to $38,000 in the year 1933, so that petitioner is entitled to a further deduction of $26,150 for the year 1935. Petitioner argues that the doctrine of equitable estoppel applies and estops the Commissioner from disallowing the exemption claimed in 1935. 1941 BTA LEXIS 1418">1434 It is necessary to refer to the proceeding before this Board in Docket No. 78915, reported in Lawrence C. Phipps,34 B.T.A. 641">34 B.T.A. 641, and to consider the procedure which petitioner has followed heretofore, in the present consideration of the above argument of petitioner. We find no case involving the exact contention which petitioner makes. Petitioner's argument, in our opinion, fails because it would require, if it were sustained, that petitioner receive aggregate specific exemptions in excess of the $50,000 allowed by section 505(a)(1). Also, if it is at all proper to import into our determination any of the elements of the doctrine of equitable estoppel, we believe that it is petitioner who is now estopped rather than respondent. Petitioner admits that he has paid the deficiency in gift tax for the year 1933 in the amount of $4,108.17 and petitioner has in fact been allowed total specific exemption deductions in the amount of $50,000. John J. Flynn,35 B.T.A. 1064">35 B.T.A. 1064. Petitioner, by his conduct in acquiescing, when his gift tax liability for 1933 was before this Board, in respondent's allowance for an exemption of $38,000 for computing gift tax for1941 BTA LEXIS 1418">1435 1933, has received the benefits of the statute and has put the Commissioner in a position where "to retrace their steps on a different state of facts would cause the loss of taxes to the Government." Robinson v. Commissioner, 100 Fed.(2d) 847. It can not be said fairly that the Commissioner has been at fault, that he has been arbitrary, or that he has placed petitioner in a disadvantageous position. Respondent mailed a notice of deficiency in gift tax liability for 1933 to petitioner on February 28, 1935, which represented his final determination. In computing that deficiency in the amount of $4,108.17 respondent allowed a specific exemption deduction of $38,000. The deficiency resulted from an increase in the total amount of gifts made in the year 1933. It would have been greater in amount if respondent 43 B.T.A. 1010">1018 had allowed as a specific exemption deduction only $11,850, the exemption claimed by the petitioner in his gift tax return for 1933. Petitioner filed a petition with this Board on March 27, 1935, in which he contested only the respondent's increase in the amount of taxable gifts made in 1933. Petitioner did not contest respondent's allowance1941 BTA LEXIS 1418">1436 of the specific exemption deduction in the amount of $38,000. If the petitioner had alleged in the petition that he was entitled to a specific exemption for 1933 of only $11,850, respondent could have moved for an increase in the deficiency in gift tax for 1933 at or before the hearing. See section 272(e) of the Revenue Act of 1932. However, upon the issues presented, the Board determined the total amount of petitioner's gift tax liability for 1933 and found that there was a deficiency in the amount determined by the respondent. Even after the report of the Board was promulgated petitioner did not move to have the proceeding reopened to consider any additional question such as his right to a deduction for the smaller amount for the specific exemption. Under such circumstances it must be held that petitioner acquiesced in respondent's allowance of a specific exemption deduction for the year 1933 in the amount of $38,000. Petitioner now has no equitable ground for claiming that respondent is estopped from disallowing a further specific exemption deduction for the year 1935. Section 505(a)(1) contemplates that a taxpayer may elect to spread over several years the $50,000 specific1941 BTA LEXIS 1418">1437 exemption rather than apply it to one year only. However, the statute clearly limits this right of election by limiting the aggregate deductions to those which have been claimed and allowed in prior years. In other words, where the aggregate deductions allowed in prior calendar years aggregate $50,000 no further deductions for specific exemption may be claimed or allowed. In lunsford Richardson,39 B.T.A. 927">39 B.T.A. 927, the taxpayer believed that he had not made any taxable gifts in the year 1932 and he did not file a gift tax return for that year, his theory being that certain gifts were made prior to the effective date of the gift tax provisions in the Revenue Act of 1932 which became effective June 6, 1932. The respondent determined that the taxpayer was liable for gift tax for the year 1932 and asserted a deficiency. The taxpayer filed a petition with this Board alleging error in that determination, and he also raised the specific issue in the proceeding before the Board with respect to his right to receive in 1932 the specific exemption of $50,000 provided by section 505(a)(1). The taxpayer raised the issue in his petition as an alternative issue, in the event1941 BTA LEXIS 1418">1438 that the Board should determine that gifts had been made which were subject to gift tax. The taxpayer had filed a gift tax return for the year 1934 in which he had claimed the specific exemption of $50,000 for that year, and the Commissioner urged that he should be held to the election 43 B.T.A. 1010">1019 which he made in filing his 1934 gift tax return. The Board held that the petitioner was entitled to the $50,000 specific exemption in the year 1932 and stated as follows: It is doubtful whether petitioner made such an "election" in claiming the specific exemption in the year 1934 that it cannot now be claimed in the year 1932. Generally, the doctrine of election applies only where there are two or more remedies, all existing at the time of election, and which are inconsistent with each other. If the remedies are not cumulative the choice of one makes all others unavailable. But we have no such situation here. Our first question is whether or not petitioner is subject to a gift tax for the year 1932. We have held that he is. Then, says petitioner, he is entitled to the $50,000 specific exemption allowed by section 505(a)(1) of the Revenue Act of 1932. Since the act specifically1941 BTA LEXIS 1418">1439 grants him the exemption, and since, in our opinion, he has not heretofore "elected" to claim it in some other year, we hold that in recomputing the deficiency for 1932 the specific exemption of $50,000 should be allowed. The Richardson case is distinguishable from the present case, but the above reasoning is applicable here. When petitioner received the notice of deficiency in gift tax for the year 1933 and when he filed a petition with this Board to review the Commissioner's determination, he then had a choice either of claiming the full benefit of section 505 (a)(1) or only a part of the benefit with respect to his gift tax for the year 1933. He also had the right either to accept the respondent's determination as to his gift tax liability and pay the deficiency of $4,108.17, or to file a petition with this Board to have his gift tax liability redetermined. Petitioner chose the latter course. That choice, however, did not exclude the possibility of seeking to have less of the specific exemption deduction applied than the $38,000 which respondent had applied in determining the gift tax deficiency. There was nothing inconsistent with petitioner's claiming before the Board1941 BTA LEXIS 1418">1440 that there was no deficiency in gift tax liability and at the same time claiming, in the alternative, that if the main question should be decided against him he should nevertheless be allowed less than $38,000 as an exemption under section 505(a)(1) in the computation of the gift tax for the year 1933. Petitioner, by acquiescing in respondent's allowance of the exemption of $38,000 for the year 1933 in the proceeding before this Board, modified his original election to deduct only $11,850, the amount claimed in the gift tax return for 1933. Petitioner can not now, with good grace, say that he elected to receive less than the $38,000 which was allowed him for 1933. It is immaterial that petitioner filed a protest with the Commissioner in 1936 against disallowance of a specific exemption deduction for the year 1935. After petitioner had tried his case before this Board with respect to his gift tax liability for 1933 without raising any issue with respect to the amount of the exemption deduction to be allowed for 1933, it was not incumbent upon the Commissioner to change his final determination 43 B.T.A. 1010">1020 of gift tax liability for the year 1933 merely because a claim for a further1941 BTA LEXIS 1418">1441 exemption deduction was made in the gift tax return for 1935, which on its face was not an allowable claim. Also, it is entirely outside the scope of the Board's jurisdiction to give any consideration whatever to any offers in settlement which the petitioner may have made to the Commissioner for gift tax for the year 1933 outside the proceeding before the Board. We have reference to a statement in petitioner's brief that he made an offer to the Commissioner to pay a larger gift tax for 1933 than the amount determined by the Commissioner for that year. On this issue respondent is sustained. Petitioner has received aggregate specific exemption deductions in the sum of $50,000 for the years 1932 and 1933 and he is not entitled to any further exemption in the year 1935. Issue 2. - Petitioner made gifts to 13 persons on October 15, 1935, of various amounts of stock in 3 corporations, one of which was the Nevada-California Electric Corporation. In the Federal gift tax return for 1935 petitioner reported each group of gifts under the name of each donee, reported the value of each block of stock, and since the value of the several blocks of stock given to each individual aggregated1941 BTA LEXIS 1418">1442 a total value of more than $5,000, petitioner claimed and received aggregate exemptions of $65,000 from gift tax under section 504(b) of the Revenue Act of 1932. Respondent determined that the value of the shares of Nevada-California Electric preferred stock given to each donee was an amount equal to the number of shares comprising each gift multiplied by the unit value of $51 a share. Petitioner reported the value of the preferred stock given to each donee by multiplying the number of shares in each gift by a value of $50 per unit, which he believed was the market price of the stock in over the counter transactions in Denver on the date of the gifts. Respondent found that there had been a transaction in this stock on the date of gift at a price of $51 a share and he determined that such amount was the value per unit of the stock and increased the value thereof for the purpose of computing the tax. There was a sale of 50 shares of the preferred stock on the New York Curb Exchange on the date of gift at $51 a share. The evidence also shows that there was a sale in Denver on October 15, 1935, of 50 shares for $51.17. In this issue the only question for determination is the value, 1941 BTA LEXIS 1418">1443 for the purpose of computing petitioner's gift tax liability for the year 1935, of the gifts of the Nevada-California Electric Corporation preferred stock at the date of the gifts. The statute provides that "If the gift is made in property, the value thereof at the date of the gift shall be considered the amount of the gift." Sec. 506, Revenue Act of 1932. The parties appear to agree that value, as used in the statute, means "fair market value," and for the purposes of the opinion it is assumed 43 B.T.A. 1010">1021 that the value to be determined is the fair market value on the date of the gifts. At the outset there appears to be a question as to what property is to be valued. Petitioner contends that the property to be valued is a block of 10,000 shares of stock. Respondent contends that the standard prescribed by section 506 requires that the property to be valued is the property involved in each gift to each of the 13 donees. Respondent contends that the value to be determined as of the date of the gifts is not the value of a block of 10,000 shares of the preferred stock, but the value of the number of shares given to each donee. Petitioner made 13 separate gifts of the preferred1941 BTA LEXIS 1418">1444 stock as follows: 1 gift of 2,500 shares; 2 gifts of 1,250 shares; 4 gifts of 1,000 shares; 2 gifts of 300 shares; and 4 gifts of 100 shares. The aggregate number of shares of the preferred stock given away by petitioner on October 15, 1935, is 10,000 shares, but, obviously, petitioner did not give a block of 10,000 shares to one donee. In this situation respondent submits that petitioner must fail in his contentions in that he has not attempted to show the value of the stock comprising each separate gift on any other basis than on the basis of a gift of a block of 10,000 shares. Respondent contends that petitioner has failed to overcome the presumption of correctness of respondent's determination. Petitioner contends that the value of 10,000 shares of the preferred stock should be determined by multiplying the 10,000 shares by the unit price of $40 per share. Petitioner concedes that there were sales, on the date of the gifts, of 50 shares of the preferred stock at $51 per share. However, petitioner contends that the fair market value of 10,000 shares is much less per unit than the fair market value per unit of 50 shares. At the hearing counsel for respondent clearly indicated1941 BTA LEXIS 1418">1445 that it was his theory that each gift should be treated separately and that the value of each gift should be determined by considering the number of shares of stock involved in each gift, only. However, petitioner proceeded upon the theory that the value to be proved was the value of a block of 10,000 shares. The question calling for an opinion as to value, directed to each one of petitioner's expert witnesses was: "What, in your opinion, would be the fair market value of a block of 10,000 shares of the preferred stock of the Nevada-California Electric Corporation on October 15, 1935, as between a willing buyer and a willing seller? Please leave out any question of a distress sale or a compulsory purchase." Petitioner did not offer evidence as to the fair market value per unit of a block of 2,500 shares, or 1,250 shares, or 1,000 shares, or 300 shares, or 100 shares. Petitioner contends that, since 10,000 shares were given away on the same day and since the gift tax is assessed against the donor, the value to be determined in this case is the value of the entire block given away by petitioner. Proceeding upon this theory, petitioner's expert witnesses, who were qualified 43 B.T.A. 1010">1022 1941 BTA LEXIS 1418">1446 to express opinions as to value, were asked to give their respective opinions of the fair market value of a block of 10,000 shares of the particular preferred stock on the date of the gifts. Of the four opinions expressed, two witnesses expressed the opinion that the value of the block of 10,000 shares was $40 per unit. One witness was of the opinion that the large block had a value computed at a unit price of $41 a share, and one witness was of the opinion that the value of the large block of stock was an amount computed on a unit value of $38 a share. Upon the entire record petitioner asks the Board to determine that the value of a block of 10,000 shares is $400,000 computed at a unit price of not more than $40 per share. Section 506 states that the value of the property constituting a gift shall be considered the value of the gift. In our opinion the statute requires that first each gift of property is to be valued separately. Then, the separate values are to be taken together in a total amount and the statutory exclusions and specific exemption deduction, allowed by sections 504 and 505, are to be subtracted to arrive at the computation of "net gifts" made in the taxable1941 BTA LEXIS 1418">1447 year. The underlying theory of the gift tax statute appears to be to impose a tax "upon the transfer during such taxable year by any individual, * * of property by gift." Sec. 501. It is the transfer of property by gift which is taxed. Therefore, at the outset, petitioner errs in his conception of the question in this case when he states that the question to be determined is the value of a block of 10,000 shares of the preferred stock. While petitioner may validly advance a theory that the value of each lot of stock in blocks of 2,500 shares, 1,250 shares, 1,000 shares, 300 sahres, and 100 shares may be affected by the fact that all gifts made on the same day aggregated 10,000 shares, or that the value of each gift of a comparatively small block of shares was less than the value indicated by market price on the date of gift because on the same date 12 other gifts of blocks of the same stock were made, such circumstance does not alter the question to be determined under the pertinent statute. The property to be valued, under section 506, is the property constituting the gift. Here there were 13 gifts. Petitioner's premise and theory have the effect, in our opinion, 1941 BTA LEXIS 1418">1448 of asking us to substitute a different property for the property which was in fact the property in each gift. It might be that the value of a block of 10,000 shares is the same as the aggregate of the values of each of the 13 gifts, but the standard adopted in the statute requires that the value of the property given shall be considered the amount of the gift, and we understand this to mean that each gift is to be valued. The problem presented is unusual because the property constituting each gift is the same, stock in the same company. It is important, however, to keep clear the object of the present inquiry, the accurate nature of the question, because petitioner rests his argument 43 B.T.A. 1010">1023 entirely upon the presumption that "blockage" is involved. Respondent argues that petitioner's presumptions are as follows and that they are not sound: That value is to be determined on the basis that 10,000 shares are to be offered for sale; that no one could find a willing buyer for a block of 10,000 shares on the basic date; that on account of 10,000 shares en bloc being involved, value is to be determined by what a dealer would pay for it wholesale for resale to the general1941 BTA LEXIS 1418">1449 public at a profit; and that because a block of 10,000 shares is allegedly involved the market price on the basic date is not evidence of value because of a further presumption that an increase in the supply of the stock in such a large quantity would depress the existing market price. Upon due consideration of all of the evidence, including the opinion evidence of the expert witnesses called by petitioner, it has been found as fact that each gift of the preferred stock had a value of $51 per unit of the property multiplied by the total units involved in each gift. The evidence relating to fair market value of the preferred stock of the Nevada-California Electric Corporation consists of the annual financial reports of the company for the years 1930 to 1935, inclusive; monthly combined comparative statements of earnings and expenses for the first 8 months of 1935, including the month of August; statement of consolidated net income for 1930 to 1935, inclusive, as shown on Federal income tax returns; dividends and earnings per share of the preferred stock in question and of comparable 7 percent preferred stocks of similar utility companies for the years 1930 to 1935, inclusive; 1941 BTA LEXIS 1418">1450 lists of transactions in the preferred stock in question in Denver throughout the year 1935 in which 3 Denver over the counter firms participated; a list of transactions in the particular stock on the New York Curb Exchange for 60 days before and after October 15, 1935, the date of the gifts; a table classifying stockholders of the preferred stock by number of shares held and by residence (respondent's Exhibit H, admitted in evidence); the testimony of petitioner and three expert witnesses called by petitioner; and the testimony of one expert witness called by respondent. Consideration has been given to all of the evidence, including the testimony of petitioner and petitioner's expert witnesses. The question relating to the value of the stock constituting the gifts is a question of fact. Heiner v. crosby,24 Fed.(2d) 191. The value to be determined is the "fair market value" of the property constituting each gift. "Fair market value" has been defined as the price which would probably by agreed upon by a willing seller and a willing buyer, neither being under any compulsion, and both having reasonable knowledge of the facts. 1941 BTA LEXIS 1418">1451 John J. Newberry,39 B.T.A. 1123">39 B.T.A. 1123, 39 B.T.A. 1123">1129. Actual sales of the property to be valued are evidentiary of 43 B.T.A. 1010">1024 fair market value. Under certain facts and circumstances, actual sales made between willing parties are reliable evidence of value. Cecil H. Gamble, Executor,33 B.T.A. 94">33 B.T.A. 94; affd., 101 Fed.(2d) 565; certiorari denied, 306 U.S. 664">306 U.S. 664; Estate of Leonard B. McKitterick,42 B.T.A. 130">42 B.T.A. 130, 42 B.T.A. 130">136; 39 B.T.A. 1123">John J. Newberry, supra.On the other hand, actual sales, although evidentiary, are not always conclusive, and under certain proven situations and circumstances do not signify fair market value. The existence of exceptional circumstances which deprive actual sales of evidentiary worth will not be presumed but must be proved. Whether or not the fair market value of a block of stock is in reality evidenced by the value of a share of the same stock in a small block or a smaller block in a transaction on the market between willing parties to the sale is always a matter of evidence in each case, and "If the value of a given number of shares is influenced by the size of the block, this is a matter of1941 BTA LEXIS 1418">1452 evidence and not of doctrinaire assumption." Safe Deposit & Trust Co. of Baltimore, Executor,35 B.T.A. 259">35 B.T.A. 259, 35 B.T.A. 259">263; affd., 95 Fed.(2d) 806. In some cases it is a paramount circumstance that the stock to be valued consists of a large block and the valuation of a large number of shares involves consideration of factors different than those applicable to the unit market price resulting from transactions on the market in small lots of the stock. Cf. 35 B.T.A. 259">Safe Deposit & Trust Co. of Baltimore, Executor, supra.In other cases the value of a large block of stock has been based upon the market price of small share lots thereof, notwithstanding the testimony of experts that such a market price is not evidence of fair market value. 33 B.T.A. 94">Cecil H. Gamble, Executor, supra;Roth v. Wardell, 77 Fed.(2d) 124; Union National Bank of Pittsburgh v. Driscoll,32 Fed.Supp. 661; Richardson v. Helvering, 80 Fed.(2d) 548. In each case the question of fact, fair market value, is to be determined upon full consideration of all of the evidence in the case. The Nevada-California Electric Corporation1941 BTA LEXIS 1418">1453 and its subsidiary companies, prior to the year 1935, had gradually increased gross operating earnings and surplus earned each year, so that at the end of 1934 and 1935 surplus after reserves and after dividends on the 7 percent preferred stock was $2,157,533 and $3,092,139, respectively. Gross operating earnings for every year from 1929 to 1935, inclusive, exceeded $5,000,000 except in 1933, when gross earnings were approximately $4,782,000. In all of these years the Nevada-California Electric Corporation and its subsidiaries realized net operating profits each year in excess of $2,000,000. The parties introduced in evidence as joint exhibits the corporation's annual reports for the years 1930 through 1935, which give a comparative consolidated statement of income and profit and loss which includes the year 1929, so that the evidence includes financial reports covering six years prior to the year 1935, as well as for the year 1935 and for the first 8 months of 43 B.T.A. 1010">1025 1935. A reading of these annual reports leaves a strong impression that the Nevada-California Electric Corporation was exceedingly well managed throughout the entire 7-year period, which included a period of1941 BTA LEXIS 1418">1454 serve economic depression, 1929 through 1933, as well as periods of shortage of water during drought periods. From 1932 through 1934 the total amount of outstanding bonds in the hands of the public was reduced each year. In 1934 the debenture debt was reduced by $1,857,200. It is true that the highest figure for gross earnings was reached in 1929 at $5,674,700 and that gross earnings fell off gradually to $4,782,608 in 1933, increased in 1934 to $5,209,151, but during this period the management practiced various economies, extending the area of its business, gained new business, successfully carried on a "load-building" campaign, and reported to its stockholders each year that it was in a "sound financial position." It maintained "ample cash" reserves and developed a "simplified" financial structure. While 1933 had been a year of lowest earnings since 1925 and dividends on preferred stock had been reduced to $4 a share in that year, the corporation recovered its average position in 1934 and resumed payment of $7 dividends on the preferred stock. The corporation had paid dividends on the 7 percent preferred stock from 1929 through 1934 as follows: 1929$703,9131930777,4271931787,7871932$777,2641933422,5851934734,6611941 BTA LEXIS 1418">1455 Petitioner testified that he had always regarded the 7 percent preferred stock in the Nevada-California Electric Corporation as a sound investment. The Nevada-California Electric Corporation and its subsidiaries carried on business and served agriculture, mining, and various industries in Nevada and California. Its directors reside in Denver and Pasadena. Its general office is in Denver and its operating headquarters are in Riverside, California. Out of 1,163 stockholders, 995 reside in California and Nevada. It is not unnatural that the market for its stock is largely in Denver, and the evidence relating to over the counter transactions is not diminished at all by the fact that they are transactions in Denver. The parties introduced as a joint exhibit lists of transactions in the year 1935 in Denver, over the counter by three Denver firms, and this evidence, while incomplete as to all transactions in the Denver market during the year 1935, is important. It shows that, as far as it goes, the purchases and sales, as reported by the exhibit, involved a total of 10,946 shares of the preferred stock. One of petitioner's witnesses testified that according to the records of1941 BTA LEXIS 1418">1456 the secretary of the corporation a total of only 6,200 shares of the preferred stock were transferred on the books of the corporation in 43 B.T.A. 1010">1026 1935. The record does not reconcile the apparent discrepancy. However, even on the testimony of this witness there was a large increase in the turnover of the preferred stock in 1935 as compared with 1934, when, according to the witness's information received from the secretary of the corporation 3,300 shares were transferred on the books. According to the corporation's records, as reported by this witness (the records not being offered in evidence) transactions in the preferred stock were almost twice as great in 1935 as in 1934. The market prices of the preferred stock in Denver in over the counter transactions increased gradually and steadily from January through December of 1935. Industrial conditions were on the upgrade throughout the country in 1935, market prices of securities advanced generally from April to the end of 1935, and they advanced in October of 1935. During the month of October the market prices for the preferred stock in Denver ranged from a low of 46.25 on October 2 to a high of 55.50 on October 29. The1941 BTA LEXIS 1418">1457 purchases and sales reported in Denver during the month of October were for small lots of stock of 5 shares, 10 shares, 25 shares, 30 shares, 50 shares, 88 shares. The transactions as reported for the entire month of October involved as aggregate of 579 shares. The market prices gradually rose during the month. On October 1, 18 shares were bought for $46.50 a share; on October 2, 88 shares were sold for $46.25 a share; on October 4, 88 shares were sold for $46.50 a share; on October 15, 50 shares were bought for $51.17 a share; on October 18, 50 shares were bought for $51 a share; on October 19, 51 shares were sold for $53 a share. Market prices for the preferred stock increased in every month prior to October, as the table in the findings of fact shows. Prices held up under sales of blocks of 100, 500, and 1,000 shares. Thus on September 17, 10 shares sold at 47; on September 20, 100 shares sold at 48; and on October 2, 5 shares sold at 48. In another period, in the month of January, on January 3, 800 shares were bought at 39; on January 26, 550 shares were bought at 39; on February 1, 1,000 shares were sold at 40.50; on February 4, 100 shares were sold at 43. In another period, 1941 BTA LEXIS 1418">1458 after October 15, in November, prices gradually increased and purchases and sales of 100 and 200 share lots did not drive the market prices down. For example: November 1, bought 200 shares at 59.50; November 2, sold 100 shares at 59.75; November 6, sold 100 shares at 63.50; November 26, bought 100 shares at 64; November 27, sold 202 shares at 62; November 29, bought 100 shares at 64, sold 100 shares at 66.50. Considering the evidence as to purchases and sales in over the counter transactions in Denver in the months preceding and succeeding October of 1935 we find that the evidence before us shows transactions involving 879 shares of the preferred stock in September, and 1,749 shares in November. In November, on the New York Curb 43 B.T.A. 1010">1027 Exchange, in the week ending November 1 there were 100 shares sold, and in the week ending November 8 there were 100 shares sold. During the month of December of 1935, according to the evidence, purchases and sales of the preferred stock in Denver involved 1,719 shares at prices ranging from 64 to 70, with a gradual rise. There were transactions involving blocks of 100, 150, 250, 500 shares. The foregoing clearly shows, in our opinion, 1941 BTA LEXIS 1418">1459 that there was a fair market for the preferred stock. In our opinion the market price on the date of the gifts is the best evidence of the value per unit of the stock comprising each gift. The evidence does not support a finding that the value of the stock given to each donee in lots of 100, 300, 1,000, 1,250, and 2,500 shares was less than $51 a share. All of the witnesses for petitioner, including the petitioner, were asked to express an opinion as to the fair market value of a block of 10,000 shares on the basic date. Each was of the opinion that the size of the block would bring the unit value down to a price below the current market price to $38 a share, or $40, or $41 a share. The testimony of petitioner and of his three expert witnesses has been carefully considered in an effort to give to that evidence such weight as it deserves. Their testimony has been considered together with the general evidence relating to the financial condition of the Nevada-California Electric Corporation, its record of earnings, surplus, and dividends, and the evidence relating to the over the counter market in Denver in 1935 in the preferred stock. In our opinion the testimony of the petitioner's1941 BTA LEXIS 1418">1460 witnesses shows that they did not give sufficient consideration to the extent and volume of trading in the stock in the Denver market, and the trends of the market prices during 1935 and during the period shortly before and after the date of the gifts. All of petitioner's witnesses were concerned with the problem of valuing a block of 10,000 shares rather than the property involved in each gift. In our opinion, all of petitioner's witnesses assumed a greater possible shortage of buyers and a more inactive or "thin" market than the general evidence indicates. Respondent, on brief, points out that petitioner assumes that the value of the gifts in question is to be determined on the basis of the effect on market prices of offering a block of 10,000 shares for sale; and upon the assumption that such an offering would not bring forth buyers at the market price prevailing on the date of the gifts. Or, in the language of respondent: The objection of the respondent is not to the operative results of the law of supply and demand but to its application here upon an assumption of a nonexistent fact, an unbalancing of the existing supply and demand by the addition of the property to be1941 BTA LEXIS 1418">1461 valued to the existing supply without assuming an equal increase in the demand, and a speculation as to the operative effect of such assumed fact on the market price. 43 B.T.A. 1010">1028 Regardless of how the theory of the petitioner may be camouflaged, it results in the application of the standard of a forced sale. Its adoption would substitute such a standard for the long-established standard of sale prices of similar property in a free and open market where such prices are in evidence or its equivalent, the value based on the assumption of a willing buyer and a willing seller evidenced by the price at which comparable property is being actually bought and sold in a free and open market. Respondent points out further that petitioner assumes that value is to be determined upon the basis of for what amount a syndicate would purchase such a block for resale at a profit, and that all of petitioner's assumptions lead to the contention that the standard of value at law, contemplated in section 506, is a standard which shifts according to the size of a block of stock, where the property involved is stock; that value may be evidenced by market price (that which a willing buyer and a1941 BTA LEXIS 1418">1462 willing seller will agree to), where the block of stock is small, but that another standard of value is to be applied where the block of stock is larger than the blocks involved in actual market transactions making the market price what it is. Respondent submits that the standard of value contemplated by the statute does not admit of classification dependent upon whether or not the size of the block of stock to be valued is the same as the size of the lots or the blocks of stock involved in the actual market transactions giving rise to market price. We believe petitioner's theory places too much reliance upon that which is conjectural and speculative. The evidence shows that there was a market in Denver for the stock in question and that there was extensive market activity in 1935, and in the month of October, and in the 30-day periods before and after the date of the gifts. The stock in question was widely held by more than 1,000 stockholders. Market prices steadily advanced prior to October, during October, and thereafter to the end of 1935. (Cf. 35 B.T.A. 259">Helvering v. Safe Deposit & Trust Co. of Baltimore, supra, where market prices steadily declined after the date of the1941 BTA LEXIS 1418">1463 gifts in question in that case). The earnings of the Nevada-California Electric Corporation were increasing. At $51 a share, $7 dividends per year represent a yield of 13.72 percent. There is no evidence that the market in the stock was not a fair market or that market prices were not fair. We believe it is a rather speculative assumption that if any one or all of the donees of the gifts in question looked to the market at the date of the gifts they would not find willing buyers for the stock involved in each gift, or that if buyers appeared they would not be willing to enter into transactions at market prices. It may as well be assumed that the market price would go up rather than go down if offerings of the property involved in each gift had been made on the date of the gift. The property involved in each gift in this case was property which was regularly purchased and sold in an established market. The 43 B.T.A. 1010">1029 standard of value which at law is to be applied in valuing the property in question is "fair market value." Fair market value is evidenced here by established market price. The market price is not shown to have been a price resulting from transactions between1941 BTA LEXIS 1418">1464 any special classes of "willing sellers" and "willing buyers." There is no evidence, or circumstance, in our opinion, which would require us to determine value on the basis of what a special class of buyers, syndicate managers, would agree to as the value of the stock in question, or to substitute a syndicate wholesale price for market price as the best evidence of value. Cf. Helvering v. Kendrick Coal & Dock Co., 72 Fed.(2d) 330, 333; Adams Express Co. v. Ohio State Auditor,166 U.S. 185">166 U.S. 185; Metropolitan Life Insurance Co. v. United States,65 Ct.Cls. 149; United States v. New River Collieries Co.,262 U.S. 341">262 U.S. 341. On the basis of all the evidence, we think the record supports the respondent's determinations of the value of each gift. Respondent called one expert witness. His testimony has been considered. He had made a study of market conditions, trends of market prices of comparable 7 percent preferred utility stocks, and other factors. However, in arriving at the conclusion that respondent's determination of value is correct, little weight has been given to the testimony of respondent's witness. 1941 BTA LEXIS 1418">*1465 His answers to many questions were confusing because of a failure to make clear in the record the distinction between his general theories and his opinion of the fair market value of the particular stock. Petitioner concedes that respondent's determination of the deficiency in gift tax for the year 1934 is correct. The conclusions reached herein support the deficiency in gift tax for the year 1935. Reviewed by the Board. Decision will be entered for the respondent.Footnotes1. SEC. 505. DEDUCTIONS. In computing net gifts for any calendar year there shall be allowed as deductions: (a) RESIDENTS. - In the case of a citizen or resident - (1) SPECIFIC EXEMPTION. - An exemption of $50,000, less the aggregate of the amounts claimed and allowed as specific exemption for preceding calendar years. ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621771/	Alfred H. Catterall, Sr., and Dorothy Catterall, et al., 1 Petitioners v. Commissioner of Internal Revenue, RespondentCatterall v. CommissionerDocket Nos. 5817-74, 6457-74, 6488-74United States Tax Court68 T.C. 413; 1977 U.S. Tax Ct. LEXIS 92; June 22, 1977, Filed 1977 U.S. Tax Ct. LEXIS 92">92 Decisions will be entered under Rule 155. Petitioners exchanged their stock in Berwick for voting stock of Whittaker in 1968 in a tax-free reorganization under sec. 354(a)(1) and 368(a)(1)(B), I.R.C. 1954. The reorganization agreement provided for the delivery of additional shares based upon the future profits of Berwick and the future fair market value of the stock of Whittaker. No provision was made for the payment of interest on the additional shares. The Commissioner imputed interest income to petitioners pursuant to sec. 483 on the receipt of additional shares in 1971 under the terms of the reorganization agreement. Held, the shares received in 1971 constitute "payments" subject to the imputed interest provisions of sec. 483. Solomon v. Commissioner, 67 T.C. 379">67 T.C. 379 (1976), and Jeffers v. United States, F.2d (Ct. Cl. 1977), followed. David E. Wasserstrom and Michael A. Bloom, for the petitioners.Paul J. Sude, for the respondent. Goffe, Judge. GOFFE68 T.C. 413">414 OPINIONThe Commissioner determined deficiencies1977 U.S. Tax Ct. LEXIS 92">96 in petitioners' Federal income taxes for the taxable year 1971 as follows:Docket No.PetitionersDeficiency5817-74Alfred H. and Dorothy Catterall, Sr.$ 28,989.976457-74Ray P. and Edna K. McBride31,917.746488-74Walter F. and Florence Vorbleski29,228.56The cases were consolidated for purposes of trial, briefing, and opinion. Concessions having been made, the sole issue for decision is whether the imputed interest provisions of section 483, 2 I.R.C. 1954, apply to the deferred receipt of stock, the receipt of which was contingent under the terms of an agreement for exchange qualifying as a reorganization under the provisions of sections 354(a)(1) and 368(a)(1)(B).The consolidated cases were submitted under Rule 122, Tax Court Rules of Practice and Procedure. All of the facts have been stipulated. The stipulation of facts and the exhibits attached thereto are incorporated by this reference. Only the facts necessary1977 U.S. Tax Ct. LEXIS 92">97 for an understanding of our opinion will be summarized below.Petitioners Alfred H. Catterall, Sr., and Dorothy Catterall, husband and wife, resided in Conyngham, Pa., at the time they filed their petition in this proceeding. Petitioners Ray P. 68 T.C. 413">415 and Edna K. McBride, husband and wife, and Walter F. and Florence Vorbleski, husband and wife, resided in Berwick, Pa., at the time they filed their petitions herein. Petitioners filed their joint Federal income tax returns with the District Director of Internal Revenue, Philadelphia, Pa. For convenience, the husbands will be collectively referred to as petitioners.Prior to April 15, 1968, Berwick Forge & Fabricating Corp., a Pennsylvania corporation (hereinafter referred to as Berwick), had outstanding common stock consisting of 3,200 shares, par value $ 25 per share, owned equally by each of the petitioners herein. On or about April 15, 1968, petitioners entered into an acquisition agreement and plan of reorganization (hereinafter referred to as the agreement) with Whittaker Corp. (hereinafter referred to as Whittaker), a California corporation having its principal office in Los Angeles, Calif. The agreement provided for the1977 U.S. Tax Ct. LEXIS 92">98 acquisition of all of the stock of Berwick owned by petitioners solely in exchange for voting stock of Whittaker.Pursuant to the terms of the agreement, petitioners were to receive and did receive 115,000 shares of Whittaker common stock, par value $ 1 per share, divided equally among them, in exchange for their transfer to Whittaker of all of their Berwick stock. The Whittaker common stock had a fair market value of $ 78.25 per share on April 15, 1968.Under the terms of the agreement Whittaker agreed to reserve for possible future delivery to petitioners 113,300 shares of its common stock which for convenience were referred to in the agreement as "reserve shares." The reserve shares were divided into two equal accounts, reserve A and reserve B, each consisting of 56,650 shares, to be delivered to petitioners based upon the ascertainment of future profits of Berwick and the market value as of October 31, 1970, of all shares of Whittaker issued pursuant to the agreement. The reserve A shares were to be issued to petitioners in various amounts over the first three "adjustment" years following the acquisition. The number of shares to be issued was to be computed pursuant to a formula1977 U.S. Tax Ct. LEXIS 92">99 contained in the agreement which was based upon the profits of Berwick for its taxable and "adjustment" years ended October 31, 1968, October 31, 1969, and October 31, 1970. The agreement further provided 68 T.C. 413">416 that in the event Whittaker was required to deliver at least 100 shares of the reserve A shares to petitioners, and if the total market value of all the Whittaker common stock received by them at the closing and out of the future reserve A shares issued with respect to the "adjustment" years was less than 4 1/2 times the average annual Berwick profits for the "adjustment" years as of October 31, 1970, Whittaker was obligated to deliver such number of reserve B shares so as to make the total market value of all shares received by petitioners equal to 4 1/2 times the average annual Berwick profits for the 3 "adjustment" years. No provision was made for the payment of interest on the reserve shares.In 1971 the net profits of Berwick and the market value of Whittaker stock were such as to require the delivery of the reserve A and B shares to petitioners. On February 17, 1971, petitioners each received 48,625 shares of common stock of Whittaker representing the reserve A1977 U.S. Tax Ct. LEXIS 92">100 and B shares to which each was entitled under the agreement, such shares having been adjusted and increased by virtue of stock dividends and stock splits of Whittaker. The additional shares of Whittaker so delivered had a value of $ 9.625 per share on February 17, 1971. Under the agreement the common shares of Whittaker received by petitioners were subject to substantial restrictions on transferability.The exchanges of stock between petitioners and Whittaker, including the reserve shares delivered on February 17, 1971, qualified as a tax-free reorganization under sections 354(a)(1)3 and 368(a)(1)(B). 41977 U.S. Tax Ct. LEXIS 92">101 68 T.C. 413">417 The Commissioner, in his statutory notice of deficiency, determined that petitioners received interest income pursuant to section 483 on the receipt of the additional Whittaker shares in 1971.Section 4835 was added to the Internal Revenue Code in 1964 to correct a practice whereby a seller of property on the 68 T.C. 413">418 installment basis was able to convert what would otherwise constitute interest income into capital gain by inflating the purchase price and not providing for the payment of interest on the deferred payments. H.Rept. 749, 88th Cong., 1st Sess. (1963), 1964-1 C.B. (Part 2) 128. In general, section 483 requires that in the case of a contract for the sale or exchange of property under which deferred payments are due more than 1 year from the date of such sale or exchange and which provides for either no interest or interest payments at a rate below that specified in the Treasury regulations, a portion of each payment received more than 6 months after the date of sale or exchange be treated as interest.1977 U.S. Tax Ct. LEXIS 92">102 Petitioners contend that the imputed interest provisions of section 483 are not applicable to the receipt of the Whittaker shares in 1971 for the following reasons: (1) The delivery of the shares did not constitute a "payment" within the meaning of section 483; (2) the specific provisions of the reorganization sections take precedence over the general provisions of section 483; and (3) Congress did not intend to change the longstanding pattern of tax treatment of "B" reorganizations by the passage of section 483. In so contending, petitioners request that we reconsider our decision in Solomon v. Commissioner, 67 T.C. 379">67 T.C. 379 (1976), in which we held that the receipt of shares of the acquiring corporation after the initial exchange in a nontaxable "B" reorganization is subject to the imputed interest provisions of section 483.68 T.C. 413">419 At the outset, we note that although petitioners do not specifically challenge the validity of section 1.483-2(b)(3), Income Tax Regs., which provides that section 483 applies to deferred payments of stock in nontaxable reorganizations, their position is tantamount to contending that the above paragraph of the regulations1977 U.S. Tax Ct. LEXIS 92">103 is invalid. It is well settled that the Treasury regulations constitute "contemporaneous constructions by those charged with the administration of" the tax laws and "must be sustained unless unreasonable and plainly inconsistent with the revenue statutes." Commissioner v. South Texas Lumber Co., 333 U.S. 496">333 U.S. 496, 333 U.S. 496">501 (1948); Bingler v. Johnson, 394 U.S. 741">394 U.S. 741, 394 U.S. 741">749-750 (1969).Petitioners first contend that the delivery of the shares in 1971 did not constitute a "payment" within the meaning of section 483. Petitioners' contention is based primarily upon the fact that the contractual rights to additional shares constitute "stock" within the meaning of section 354(a)(1), not "other property" under section 356(a)(1), Carlberg v. United States, 281 F.2d 507">281 F.2d 507 (8th Cir. 1960), and that the delivery of the additional shares is entitled to the same treatment under the reorganization provisions as the stock initially received. However, the classification of the contractual rights and the tax treatment of the receipt of the additional shares under the reorganization provisions does not prevent the receipt1977 U.S. Tax Ct. LEXIS 92">104 of the additional shares from constituting a "payment" for purposes of section 483. "The focus of the reorganization provisions is upon what ultimately will be issued in exchange for the certificates of contingent interest, whereas the focus of the imputed interest provisions is upon when that ultimate issuance occurs." Jeffers v. United States, 556 F.2d 986">556 F.2d 986 (Ct. Cl. 1977). The contractual rights to additional shares were not payments under section 483, but were in the nature of evidences of indebtedness contemplated by section 483(c)(2). The payments due under the terms of such evidences of indebtedness come within the ambit of section 483. Therefore, we conclude that the delivery of the additional shares in 1971 constituted a "payment" within the meaning of section 483. 668 T.C. 413">420 67 T.C. 379">Solomon v. Commissioner, supra; Jeffers v. United States, supra.1977 U.S. Tax Ct. LEXIS 92">105 Petitioners also contend that the specific provisions of the reorganization sections of the Code take precedence over the general provisions of section 483 under the well-established rule of statutory construction that "a specific statute controls over a general one without regard to priority of enactment." Bulova Watch Co. v. United States, 365 U.S. 753">365 U.S. 753, 365 U.S. 753">758 (1961). Petitioners point to Fox v. United States, 510 F.2d 1330">510 F.2d 1330 (3d Cir. 1975), to illustrate the application of this rule of construction in the context of section 483. In Fox the taxpayer-husband contended that the payments to his former wife under an agreement providing for the payment of a lump sum over a period of 9 1/2 years were subject to the imputed interest provision of section 483, thus entitling him to a deduction for interest expense. The Third Circuit concluded that the tax consequences of divorce-related payments are specifically controlled by sections 71 and 215 and not subject to section 483. Fox is clearly distinguishable from the facts of the instant case. Unlike sections 71 and 215 which are broadly couched in terms of the gross income1977 U.S. Tax Ct. LEXIS 92">106 of the wife, section 354 merely provides that no gain is recognized in the case of certain reorganizations described in section 368. Gain, as computed under section 1001(a), is merely one category of gross income described in section 61. Interest, the type of income with which we are concerned, is separately listed in section 61(a)(4). Although gain on the exchange of property is generally the only type of income realized in a reorganization in which no "boot" is received, the language of the reorganization sections does not specifically prohibit the recognition of other types of income. Therefore, no conflict exists between 68 T.C. 413">421 sections 483 and 354 and thus there is no basis for the application of the above-mentioned rule of statutory construction as in Fox. 71977 U.S. Tax Ct. LEXIS 92">107 Petitioners' final contention is that our conclusion in Solomon v. Commissioner, 67 T.C. 379">67 T.C. 379 (1976), that Congress intended to subject any deferred payment received in exchange for property to the provisions of section 483 unless excepted by subsection (f) is erroneous. In support of their contention, petitioners argue that when Congress intends for a newly adopted section to take precedence over other Code sections, it enacts a specific provision to that effect. For instance, when it enacted section 1250, which was in the same revenue bill as section 483, subsection (i) was included which provided as follows: "This section shall apply notwithstanding any other provision of this subtitle." We are satisfied that our conclusion in Solomon regarding the intent of Congress is correct for a number of reasons. First, as previously mentioned, there is no conflict whatsoever between section 483 and the reorganization provisions insomuch as the latter only excepts gain or loss from recognition. No mention is made of other types of income. Thus, there is no basis for the application of any drafting rule such as relied upon by petitioners. Second, 1977 U.S. Tax Ct. LEXIS 92">108 under the maxim expressio unius est exclusio alterius, if a statute specifies certain exceptions to a general rule, an intention to exclude any further exceptions may be inferred. Third, it appears from the legislative history of section 483(f)(3) that nonrecognition exchanges were specifically considered in drafting the exceptions to the statute. 8 Finally, the Court of Claims in 556 F.2d 986">Jeffers v. United 68 T.C. 413">422 at 993, recently concluded that "the language Congress used for section 483 implies that [it] intended the section to have far-reaching consequences on the entire Internal Revenue Code." In any event, it is well settled that "if Congress has made a choice of language which fairly brings a given situation within a statute, it is unimportant that the particular application may not have been contemplated by the legislators." Rechner v. Commissioner, 30 T.C. 186">30 T.C. 186 (1958); Barr v. United States, 324 U.S. 83">324 U.S. 83 (1945).1977 U.S. Tax Ct. LEXIS 92">109 Accordingly, we hold that the shares received by petitioners in 1971 constitute "payments" subject to the imputed interest provisions of section 483.Decisions will be entered under Rule 155. Footnotes1. Cases of the following petitioners are consolidated herewith: Ray P. McBride and Edna K. McBride, docket No. 6457-74; and Walter F. Vorbleski and Florence Vorbleski, docket No. 6488-74.↩2. All section references are to the Internal Revenue Code of 1954, as amended.↩3. SEC. 354. EXCHANGES OF STOCK AND SECURITIES IN CERTAIN REORGANIZATIONS.(a) General Rule. -- (1) In general. -- No gain or loss shall be recognized if stock or securities in a corporation a party to a reorganization are, in pursuance of the plan of reorganization, exchanged solely for stock or securities in such corporation or in another corporation a party to the reorganization.↩4. SEC. 368. DEFINITIONS RELATING TO CORPORATE REORGANIZATIONS.(a) Reorganization. -- (1) In general. -- For purposes of parts I and II and this part, the term "reorganization" means --* * * (B) the acquisition by one corporation, in exchange solely for all or a part of its voting stock (or in exchange solely for all or a part of the voting stock of a corporation which is in control of the acquiring corporation), of stock of another corporation if, immediately after the acquisition, the acquiring corporation has control of such other corporation (whether or not such acquiring corporation had control immediately before the acquisition);↩5. SEC. 483. INTEREST ON CERTAIN DEFERRED PAYMENTS.(a) Amount Constituting Interest. -- For purposes of this title, in the case of any contract for the sale or exchange of property there shall be treated as interest that part of a payment to which this section applies which bears the same ratio to the amount of such payment as the total unstated interest under such contract bears to the total of the payments to which this section applies which are due under such contract.(b) Total Unstated Interest. -- For purposes of this section, the term "total unstated interest" means, with respect to a contract for the sale or exchange of property, an amount equal to the excess of -- (1) the sum of the payments to which this section applies which are due under the contract, over(2) the sum of the present values of such payments and the present values of any interest payments due under the contract.For purposes of paragraph (2), the present value of a payment shall be determined, as of the date of the sale or exchange, by discounting such payment at the rate, and in the manner, provided in regulations prescribed by the Secretary or his delegate. Such regulations shall provide for discounting on the basis of 6-month brackets and shall provide that the present value of any interest payment due not more than 6 months after the date of the sale or exchange is an amount equal to 100 percent of such payment.(c) Payments to Which Section Applies. -- (1) In general. -- Except as provided in subsection (f), this section shall apply to any payment on account of the sale or exchange of property which constitutes part or all of the sales price and which is due more than 6 months after the date of such sale or exchange under a contract -- (A) under which some or all of the payments are due more than one year after the date of such sale or exchange, and(B) under which, using a rate provided by regulations prescribed by the Secretary or his delegate for purposes of this subparagraph, there is total unstated interest.Any rate prescribed for determining whether there is total unstated interest for purposes of subparagraph (B) shall be at least one percentage point lower than the rate prescribed for purposes of subsection (b)(2).(2) Treatment of evidence of indebtedness. -- For purposes of this section, an evidence of indebtedness of the purchaser given in consideration for the sale or exchange of property shall not be considered a payment, and any payment due under such evidence of indebtedness shall be treated as due under the contract for the sale or exchange.(d) Payments That Are Indefinite as to Time, Liability, or Amount. -- In the case of a contract for the sale or exchange of property under which the liability for, or the amount or due date of, any portion of a payment cannot be determined at the time of the sale or exchange, this section shall be separately applied to such portion as if it (and any amount of interest attributable to such portion) were the only payments due under the contract; and such determinations of liability, amount, and due date shall be made at the time payment of such portion is made.(e) Change in Terms of Contract. -- If the liability for, or the amount or due date of, any payment (including interest) under a contract for the sale or exchange of property is changed, the "total unstated interest" under the contract shall be recomputed and allocated (with adjustment for prior interest (including unstated interest) payments) under regulations prescribed by the Secretary or his delegate.(f) Exceptions and Limitations. -- (1) Sales price of $ 3,000 or less. -- This section shall not apply to any payment on account of the sale or exchange of property if it can be determined at the time of such sale or exchange that the sales price cannot exceed $ 3,000.(2) Carrying charges. -- In the case of the purchaser, the tax treatment of amounts paid on account of the sale or exchange of property shall be made without regard to this section if any such amounts are treated under section 163(b) as if they included interest.(3) Treatment of seller. -- In the case of the seller, the tax treatment of any amounts received on account of the sale or exchange of property shall be made without regard to this section if no part of any gain on such sale or exchange would be considered as gain from the sale or exchange of a capital asset or property described in section 1231.(4) Sales or exchanges of patents. -- This section shall not apply to any payments made pursuant to a transfer described in section 1235(a) (relating to sale or exchange of patents).(5) Annuities. -- This section shall not apply to any amount the liability for which depends in whole or in part on the life expectancy of one or more individuals and which constitutes an amount received as an annuity to which section 72↩ applies.6. The dissenting opinion in Jeffers stated that the opinion of the trial judge in Solomon appeared to be contrary to the decision of this Court in Hamrick v. Commissioner, 43 T.C. 21">43 T.C. 21 (1964), as well as contrary to the decision of the Eighth Circuit in Carlberg. Our opinion in Solomon is not inconsistent with Hamrick or Carlberg because those cases merely dealt with whether contractual rights to additional shares constitute "stock" or "other property" for purposes of the "boot" provisions of sec. 356(a)(1). Possibly the statement is based upon the dissent's mistaken belief that the additional shares received by the taxpayers in these cases were "owned" from the date of the initial exchange. Moreover, our decision in Solomon is, like Hamrick↩, a division opinion and not merely the opinion of the trial judge. Sec. 7460(b) provides that "the report [opinion] of the division shall become the report [opinion] of the Tax Court within 30 days after such report [opinion] by the division, unless within such period the chief judge has directed that such report [opinion] shall be reviewed by the Tax Court." An opinion of one division of the Court under the provisions of the Internal Revenue Code quoted above is an opinion of the Tax Court and, although not reviewed by the full Court, it represents the opinion of the Tax Court.7. Fox is distinguishable for a second reason. The payments in Fox, if taxable, would have been ordinary income to the wife, whom the Third Circuit regarded as the "seller." In view of the fact that the payments could not have resulted in capital gain to her, they were excepted from sec. 483 by sec. 483(f)(3). In the instant case any realized gain, if recognized, would have been capital gain. Jeffers v. United States, 556 F.2d 986">556 F.2d 986↩ (Ct. Cl. 1977).8. Treatment of sellerParagraph (3) of section 483(f) excepts, in the case of the seller, amounts received on account of the sale or exchange of property from the tax treatment provided under section 483, if no part of any gain on such sale or exchange would be considered as gain from the sale or exchange of a capital asset or property described in section 1231 of the code. The determination of whether this exception applies is made without regard to whether, in fact, the sale or exchange results in a gain or whether the gain (if any) would be recognized↩, or whether section 1245 or section 1250 of the code applies to some or all of the gain (if any). [H. Rept. 749, 88th Cong., 1st Sess. A87 (1963), 1964-1 C.B. (Part 2) 335. Emphasis added.]	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621772/	Fletcher Plastics, Inc., Stephan Schaffan, Transferee, Petitioner v. Commissioner of Internal Revenue, RespondentFletcher Plastics, Inc. v. CommissionerDocket No. 7634-74United States Tax Court64 T.C. 35; 1975 U.S. Tax Ct. LEXIS 165; April 14, 1975, Filed 1975 U.S. Tax Ct. LEXIS 165">165 Rules 23(a)(1), 32(a), 34(a), 34(b)(7), 41(a), 41(d), and 60(a), Tax Court Rules of Practice and Procedure. -- A notice of deficiency was sent to "Atlas Tool Co., Inc., Successor to Fletcher Plastics, Inc." Within 90 days of the mailing of this notice of deficiency, a petition captioned "Fletcher Plastics, Inc., Stephan Schaffan, Transferee, Petitioner" was filed with this Court. Respondent moved to dismiss this petition for lack of jurisdiction on the ground that it had not been filed by a proper party. At a hearing on respondent's motion, held more than 90 days after the notice of deficiency was mailed, petitioner offered a properly amended petition, together with motions to amend the caption and its pleadings. Held: Respondent's motion to dismiss will be denied and petitioner's motions to amend the caption and its pleadings will be granted. The record clearly establishes that the petition filed to contest deficiencies determined in a notice of deficiency addressed to Atlas Tool was intended to be the petition of that company, even though it bore an incorrect caption as filed. Atlas Tool ratified the original defective petition by filing a proper amended petition. Edwin Fradkin and Harvey R. Zeller, for the petitioner. 1975 U.S. Tax Ct. LEXIS 165">167 Howard J. Kalson and Marwin A. Batt, for the respondent. Dawson, Chief Judge. DAWSON64 T.C. 35">35 OPINIONThis matter is before the Court on respondent's motion to dismiss for lack of jurisdiction on the ground that the petition in this case was not filed by a proper party.In a notice of deficiency dated June 20, 1974, respondent determined the following Federal income tax deficiencies:FYE Nov. 30 --Deficiency1968$ 14,985.42196922,161.3919701,238.66This notice of deficiency was addressed to "Atlas Tool Co. Inc., Successor to Fletcher Plastics, Inc." The petition filed herein on September 13, 1974, was captioned "Fletcher Plastics, Inc., Stephan Schaffan, Transferee, Petitioner." It alleged that Fletcher Plastics was a corporation organized under the laws of 64 T.C. 35">36 New Jersey but dissolved more than 3 years before the mailing of the notice of deficiency, and that Stephan Schaffan was its sole shareholder.On October 25, 1974, respondent filed a motion to dismiss this case for lack of jurisdiction on the ground that the petition had not been filed by a proper party. On November 12, 1974, counsel for Atlas Tool filed a memorandum objecting to respondent's1975 U.S. Tax Ct. LEXIS 165">168 motion to dismiss and a motion to amend the caption together with a motion to amend its petition pursuant to Rules 41(a) and 60(a), Tax Court Rules of Practice and Procedure. At the same time it also filed an amended petition in which the caption was the same as that set forth in the statutory notice of deficiency. These motions were heard in Washington, D.C., on December 4, 1974.There is no dispute that the petition captioned "Fletcher Plastics, Inc., Stephan Schaffan, Transferee, Petitioner" was timely filed. However, respondent asserts in his motion that neither Fletcher Plastics, Inc., nor Stephan Schaffan is the party to whom a notice of deficiency was sent nor are they legally entitled to institute a case on behalf of Atlas Tool Co., Successor to Fletcher Plastics, Inc., based on the notice of deficiency mailed in this case.The only issue for our decision is whether Atlas Tool Co., Inc., the taxpayer to whom the notice of deficiency was sent, can ratify and amend, after the 90-day statutory period has expired, a petition filed on its behalf and signed by its counsel which was intended to contest the deficiencies determined in that notice, but incorrectly captioned.The 1975 U.S. Tax Ct. LEXIS 165">169 jurisdiction of the Tax Court is specifically limited by statute, section 7442, 1 and the statutory requirements must be satisfied for us to acquire jurisdiction. See Cincinnati Transit, Inc., 55 T.C. 879">55 T.C. 879, 55 T.C. 879">882 (1971), affd. per curiam 455 F.2d 220 (6th Cir. 1972); Oklahoma Contracting Corp., 35 B.T.A. 232">35 B.T.A. 232, 35 B.T.A. 232">236 (1937).To invoke our jurisdiction, section 6213(a) requires that "the taxpayer" to whom a notice of deficiency is addressed must file a timely petition with this Court for a redetermination of the deficiency determined in such notice.64 T.C. 35">37 A review of the cases decided prior to the adoption of our new Rules of Practice and Procedure on January 1, 1974, indicates that the general rule is that a petition must be filed by the taxpayer against whom the deficiency was determined or his duly authorized1975 U.S. Tax Ct. LEXIS 165">170 representative, except in cases of transferee liability, see 55 T.C. 879">Cincinnati Transit, Inc., supra at 882-883; and except where a party is permitted to ratify an imperfect petition, after proving that the original filing was made on his behalf by one authorized to do so. Norris E. Carstenson, 57 T.C. 542">57 T.C. 542 (1972); Ruth Mintz Sack, 36 B.T.A. 595">36 B.T.A. 595, 36 B.T.A. 595">596-597 (1937); Ethel Weisser, 32 B.T.A. 755">32 B.T.A. 755 (1935). Compare Alex H. Davison, 13 T.C. 554">13 T.C. 554 (1949); Percy N. Powers, 20 B.T.A. 753">20 B.T.A. 753 (1930).Section 7453 provides that proceedings in this Court "shall be conducted in accordance with such rules of practice and procedure * * * as the Tax Court may prescribe." The conflict here arises because respondent believes that language in selected portions of the Notes accompanying the new Rules reflects a change in our attitude toward amendments to pleadings, even though the Note to Rule 41(a), 2 which deals with amendments to pleadings, expressly states that the new Rule does "not represent a change in present practice."1975 U.S. Tax Ct. LEXIS 165">171 Respondent notes that Rule 60(a) provides that a petition should be filed by and in the name of the person against whom the Commissioner determined a deficiency. He contends that since that was not done here, Rule 41(a) bars amendment of the petition. The pertinent part of that Rule reads as follows: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 * In support of his position, respondent stresses the Note following this Rule which reads:The rule of liberal amendment provided here applies to all pleadings, except for certain areas relating to the petition which concern the jurisdiction of the Court. The Court's jurisdiction is limited with respect to (a) the taxpayers whose tax deficiency or liability may be redetermined; (b) the years for which such redetermination may pertain. In these respects, a case is fixed by the petition as originally filed or as amended within the statutory period for filing the petition, and thereafter may not be altered by amendment as to 1975 U.S. Tax Ct. LEXIS 165">172 any of these 64 T.C. 35">38 areas. Miami Valley Coated Paper Co. v. Commissioner, 211 F.2d 422 (C.A. 6, 1954); Estate of Frank M. Archer, 47 B.T.A. 228">47 B.T.A. 228 (1942); Citizens Mutual Investment Association, 46 B.T.A. 48">46 B.T.A. 48 (1942); Percy N. Powers, 20 B.T.A. 753">20 B.T.A. 753 (1930); John R. Thompson Co., 10 B.T.A. 57">10 B.T.A. 57 (1928); Louis Wald, 8 B.T.A. 1003">8 B.T.A. 1003 (1927).Within the limits which apply to permissible amendments, see Par. (d) of this rule as to the relation back of the amendment to the initial date of filing of the pleading.To the contrary, petitioner argues that this is a procedural, not a jurisdictional, problem. After noting that Rules 23(a)(1) and 32(a) require that a proper caption 3 be placed on all pleadings filed with this Court, petitioner cites Rule 41(a) which provides, in relevant part, that a party may amend his pleadings either "by leave of court or by written consent of the adverse party; and leave shall be given freely when justice so requires." (Emphasis added.) Petitioner argues that this reflects a liberal1975 U.S. Tax Ct. LEXIS 165">173 attitude toward amendment of pleadings.In further support of his position, petitioner refers to Rule 60(a) which provides, in relevant part, that:A case timely brought shall not be dismissed on the ground that it is not properly brought on behalf of a party until a reasonable time has been allowed after objection for ratification by such party of the bringing of the case; and such ratification shall have the same effect as if the case had been properly brought by such party. * * The Note following this Rule further shows a liberal attitude toward amendment and/or correction of pleadings in a case like that presently before us:Where the intention is to file a petition on behalf of a party, the scope of this provision permits correction of errors as to the proper party or his identity made in a petition otherwise1975 U.S. Tax Ct. LEXIS 165">174 timely and correct. * * After careful examination of the record and the law, we will deny respondent's motion to dismiss and grant petitioner's motion to amend the caption and the pleadings. Atlas Tool clearly intended to file a petition to contest the deficiencies determined in a notice of deficiency sent to it and this petition was signed by its duly authorized counsel, as permitted by Rule 34(b)(7). 4Rule 60(a) expressly permits a party to timely ratify a 64 T.C. 35">39 defective petition filed on its behalf. The Note states that this Rule permits the correction of errors as to the proper party to be made where there was an intent to file a petition on behalf of a party.1975 U.S. Tax Ct. LEXIS 165">175 Our holding here is consistent with Rule 34(a) which provides that "Failure of the petition to satisfy applicable requirements may be ground for dismissal of the case." (Emphasis added.) The Note to this Rule explains the emphasized language as follows:The dismissal of a petition, for failure to satisfy applicable requirements, depends on the nature of the defect, and therefore is put in the contingent "may" rather than the mandatory "shall" of present T.C. Rule 7(a)(2). * In so acting, we are not taking jurisdiction of a matter which is outside our jurisdiction as determined by the petition originally filed. See Rule 41(a). A review of the cases cited in the Note to that Rule shows that most deal with untimely amendments relating to taxable years or categories of taxes different than those contained in the original petition. Motions to make such amendments are generally not granted since they would confer jurisdiction over a matter which otherwise would not be within our jurisdiction as determined by the petition as then on file. Miami Valley Coated Paper Co. v. Commissioner, 211 F.2d 422 (6th Cir. 1954), and Citizens Mutual Investment Assn., 46 B.T.A. 48">46 B.T.A. 48 (1942),1975 U.S. Tax Ct. LEXIS 165">176 are cases where the petitioner attempted to question for the first time, in his proffered amendment, the propriety of a different kind of tax than that raised in the original timely petition. Most of the other cited cases were untimely attempts to contest a determination for a taxable year not questioned in the original petition. See Estate of Frank M. Archer, 47 B.T.A. 228">47 B.T.A. 228 (1942); John R. Thompson Co., 10 B.T.A. 57">10 B.T.A. 57 (1928); and Louis Wald, 8 B.T.A. 1003">8 B.T.A. 1003 (1927), where we held that we have jurisdiction only over those years specifically raised in the original petition or a timely filed amendment. See also John L. Brooks, 63 T.C. 710">63 T.C. 710 (1975), for our discussion of these cases.64 T.C. 35">40 The remaining case cited in the Note, Percy N. Powers, 20 B.T.A. 753">20 B.T.A. 753 (1930), is not on point, but does illustrate that our policy on amendments involving parties is more liberal. In that case a joint petition was filed on behalf of 10 petitioners, but not signed by all of them. We refused to permit an untimely amendment to add the nonsigning petitioners1975 U.S. Tax Ct. LEXIS 165">177 because counsel had not signed the original petition and, furthermore, there was no showing of his authority to act on their behalf. See also 13 T.C. 554">Alex H. Davison, supra;Fred Shingle, 34 B.T.A. 875">34 B.T.A. 875, 34 B.T.A. 875">876 (1936); Consolidated Companies, Inc., 15 B.T.A. 645">15 B.T.A. 645, 15 B.T.A. 645">652 (1929); Bond, Inc., 12 B.T.A. 339">12 B.T.A. 339, 12 B.T.A. 339">340 (1928). However, we noted in 20 B.T.A. 753">Powers at page 757, that we had permitted amendments to petitions signed by taxpayer's counsel upon a showing that the person who signed the original petition had been duly authorized to do so. We reaffirmed this position in 32 B.T.A. 755">Ethel Weisser, supra;57 T.C. 542">Norris E. Carstenson, supra; and very recently in 63 T.C. 710">John L. Brooks, supra.The instant case is clearly distinguishable from Powers because the petition here was signed by counsel for Atlas Tool who had authority to sign the petition on its behalf, and Atlas Tool has timely ratified that act. Since the petition was filed on behalf of a party who has timely ratified the act of its authorized agent, this is not1975 U.S. Tax Ct. LEXIS 165">178 a case where the administrative problems noted in 20 B.T.A. 753">Percy N. Powers, supra at 756, and 12 B.T.A. 339">Bond, Inc., supra at 342, would arise.This situation is also distinguishable from those cases where a petition has been brought by a nonexistent party, see Great Falls Bonding Agency, Inc., 63 T.C. 304">63 T.C. 304 (1974), since Atlas Tool was in existence when the petition and amendment were filed. Finally, this case is to be distinguished from 55 T.C. 879">Cincinnati Transit, Inc., supra, and 35 B.T.A. 232">Oklahoma Contracting Corp., supra, where a party to whom a statutory notice of deficiency was not sent attempts to join, as a party-petitioner, the taxpayer to whom the notice of deficiency was sent. Here the statutory notice was sent to Atlas Tool on whose behalf a petition was filed. Atlas Tool has ratified that filing and seeks to amend that petition here.Accordingly, we conclude that although the original defective petition was not filed in the name of a proper party as required by Rule 60, and did not have a proper caption as required by Rules 23(a)(1) and 32(a), the clear1975 U.S. Tax Ct. LEXIS 165">179 language of Rule 60(a) bars dismissal under these particular facts. We hold that this is a proper case for amendment of the pleadings under Rule 41(a); and under 64 T.C. 35">*41 Rule 41(d) the amendment will relate back to the date of the filing of the original petition.An appropriate order will be entered. Footnotes1. Unless otherwise noted, all section references are to the Internal Revenue Code of 1954 as in effect during the years at issue.↩2. Unless otherwise noted, all references to a Rule or Rules are to the Tax Court Rules of Practice and Procedure.↩3. The practitioner can easily satisfy this requirement by using the name of the party to whom the notice of deficiency was sent, as it appears on the statutory notice, in the caption of the petition.↩4. It appears that the improper caption resulted from an attempt of counsel to make the caption consistent with his theory that Fletcher Plastics was liquidated rather than a party to a reincorporation under sec. 368(a)(1)(D) as determined by respondent. For this reason, Atlas Tool was referred to in the petition only as the sole client of Fletcher Plastics and the buyer of Fletcher Plastics' operating equipment. Counsel emphasized that Stephan Schaffan was Fletcher's sole shareholder, who was, as such, liable as a transferee.It is also alleged that the consents and papers relating to the deficiency were all in the name of Fletcher Plastics.While neither of these is a sufficient reason for failing to use a proper caption, they are not inconsistent with an intent to file a petition to contest the deficiencies determined against Atlas Tool.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621774/	F. A. PEASE, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Pease v. CommissionerDocket Nos. 50283, 50889, 65238, 66847.United States Board of Tax Appeals30 B.T.A. 17; 1934 BTA LEXIS 1389; March 6, 1934, Promulgated 1934 BTA LEXIS 1389">1389 Petitioner, "appointed and employed" as engineer by eight villages and one city in Ohio; compensated on a basis of percentage of cost of construction projects; furnishing, at his own expense, supplies, equipment, and necessary assistants, was not an officer of these municipalities but an independent contractor, and his earnings are subject to tax. John Enrietto, Esq., for the petitioner. Hartford Allen, Esq., for the respondent. GOODRICH 30 B.T.A. 17">17 OPINION. GOODRICH: In these proceedings, which were consolidated upon motion, petitioner contests respondent's determinations of deficiencies in income tax as follows: 1924$9,829.86192517,717.92192614,325.72192716,334.001928$1,946.6019292,348.1319302,125.38The sole issue is whether payments received by petitioner during these years from certain Ohio municipalities are exempt from Federal Tax. Petitioner contends that they are so exempt because he was an officer of each of these municipalities, and, as such, was engaged in carrying out an essential function of government. Respondent determined and maintains that petitioner was an independent contractor, and1934 BTA LEXIS 1389">1390 has laid a tax on his receipts. Petitioner does not claim to be a servant of the municipalities; respondent does not dispute that the municipalities were political subdivisions of the state. As our findings of fact we adopt the stipulation of counsel, but do not here repeat it since a briefer statement is sufficient for the purposes of this report. It appears that, under ordinances providing for the employment of an engineer adopted by their respective councils, petitioner was "employed and appointed" village engineer for each of eight villages in Ohio and served as such during the period here material. During this period also he served as city engineer for the city of Cleveland Heights, having been "employed and appointed" as such by the city manager, with the approval of the council, by written contract. Generally, his duties for all these municipalities were to supervise "the improvement and repair of streets, avenues, 30 B.T.A. 17">18 alleys, lands, bridges, viaducts, sidewalks, sewers, drains and water courses" within them. He passed on subdivision plats; he verified the list of property owners concerned under petitions for improvements. He, or his representative, attended1934 BTA LEXIS 1389">1391 council meetings and supplied requested information as to matters of engineering. He made surveys for improvements, prepared the plans, specifications, and estimates; and assisted, with his information, the solicitor in drafting ordinances pertaining to improvements. The proposal blanks and advertisements for bids on projects were prepared by him, and he received and tabulated the contractors' bids. After council awarded the work, he drafted the contract specifications and supervised its performance. He directed, inspected, and supervised the construction, tested materials (in the laboratory of his own corporation) and made monthly reports of the progress of the work on which the contractors received their pay, and issued certificates of completed contracts. After analyzing the cost of the completed improvements he prepared the assessment rolls and specified the amount to be levied against each property. In the performance of his duties he was responsible to the several village councils and, with respect to Cleveland Heights, to the city manager. He took no oath of office. During this time petitioner was free to accept professional engagements other than his work for these1934 BTA LEXIS 1389">1392 municipalities. He was president and principal stockholder of the Pease Engineering Co., did some work for it and received from it a salary of $16,500 annually. Some of petitioner's work for the municipalities was done with the facilities and employees of this company. He employed also an assistant (H. C. Gallimore). Petitioner's compensation from the municipalities was based upon a percentage of the cost of the projects undertaken, except as to Cleveland Heights, which paid him a fixed salary. Respondent allowed as deductions from income expenses paid by petitioner to the Pease Co. for use of its employees, laboratory, office, and an allowance for overhead, as well as the salary of his assistant; in short, all of his expenses in connection with these employments. His gross receipts from the municipalities, the expenses allowed, and the net amounts included in income (against which petitioner protests) are as follows: YearReceiptsExpensesAdditions to income1924$129,812.84$80,333.49$49,479.351925153,778.9382,656.1371,122.801926136,929.8766,286.9670,642.911927185,257.34101,159.1184,098.231928110,986.2698,886.0712,100.191929101,399.6583,568.0317,831.62193066,125.1645,988.7320,136.431934 BTA LEXIS 1389">1393 30 B.T.A. 17">19 In advertisements for bids, in correspondence, in certification of invoices, and in reports of examinations made by the Auditor and by the Bureau of Public Offices of Ohio, petitioner was designated and described as "village" or "city engineer" of these municipalities and was so listed (with respect to Cleveland Heights) in a directory of city officials compiled by a department of the State University. In attempting to determine petitioner's status, whether officer of a political subdivision or independent contractor, we are met by contradictions of evidence, a situation not unusual in cases involving this problem. Upon analysis the evidence in part supports petitioner's claim that he was an officer; in part it supports the view that he was an independent contractor, as respondent maintains. For instance, the designation of petitioner as village or city engineer (an office for which the state statute provides) by ordinance duly adopted and in official lists and directories; the assignment to him of important duties (some of which were prescribed by statute) and the reliance upon his skill and discretion in the performance of them; the right of the municipalities to1934 BTA LEXIS 1389">1394 call upon him for information and advice, to demand his time; and, in general, the acceptance of him by the public as an officer of these several municipalities, all tend to prove that such was his status. On the other hand, the fact that he took no oath (though the statute so required); the fact that he was not, and could not be, a qualified elector (another statutory requirement of a municipal officer in Ohio) of each of these several municipalities; the indefiniteness of his tenure in his various engagements, some of which could be terminated at the pleasure of the respective councils; the contractual characteristics of the various ordinances under which he was "appointed and employed"; the fixing (but not by statute), except in one instance, of his compensation upon a percentage basis, rather than as a definite salary; and the furnishing of his supplies, equipment, and assistants at his own, instead of the public expense - these aspects tend to characterize him as an independent contractor. We fully recognize that no single one of the considerations mentioned, nor of the other evidentiary bits disclosed in the record and not here set out, is controlling in an attempt to classify1934 BTA LEXIS 1389">1395 petitioner, but that all must be weighed together and the determination made upon the whole view. So doing, and following as best we can the few clear guides emerging from the welter of decision upon this highly controversial subject, and adding our unwillingness to believe that, for the purpose of exempting his earnings from the necessary burden of taxation, one may be deemed an "officer" of nine different municipalities at one and the same time - officering at wholesale so to speak - we conclude that respondent was right in his 30 B.T.A. 17">20 determination that petitioner was an independent contractor. See ; ; ; reversed, ; ; affirming . In support of the opposite view, petitioner relies heavily upon the decision of the Supreme Court of Ohio in , wherein a village engineer, "appointed and employed" and serving under facts almost identical with those respecting1934 BTA LEXIS 1389">1396 the situation of petitioner in the case at bar, was held to be an officer of the municipality and subject to the statutory prohibition against making and profiting from other contracts with the village which employed him. Petitioner urges, of course, that we are bound by this decision, in view of the well established practice of Federal tribunals of following the settled construction of state statutes without further inquiry. But that practice has been disregarded where, as here, the construction by the state court was occasioned upon considerations of law and policy wholly different from those underlying a case concerning Federal taxation. See , and cases there cited. Consequently, in determining petitioner's status in his attempt to save his income from taxation, we are not bound by the view of the state court respecting his relation to the municipalities, determined from a different angle in a different problem. Our conclusion precludes the necessity of classifying petitioner's various duties toward the municipalities, and his acts, as between proprietary and essential governmental functions. And, since there is nothing1934 BTA LEXIS 1389">1397 in the record to indicate that the laying of a tax upon petitioner's compensation as an independent contractor would impair his ability to perform his duties, or interfere with the ability of the municipalities to procure necessary aid to them in their undertakings, that feature need not be considered. Reviewed by the Board. Judgment will be entered under Rule 50.VAN FOSSAN VAN FOSSAN, dissenting: The petitioner contends that he was an officer of the several municipalities referred to in the findings of fact and that, therefore, the imposition of a Federal income tax on his receipts from the municipalities is in contravention of the doctrine that the Federal Government may not tax the governmental instrumentalities of a state or political subdivision thereof. The position of the respondent, on the other hand, is that the petitioner is merely a contractor who performed services which were not essential governmental 30 B.T.A. 17">21 functions and, therefore, the income in question is taxable. The facts of record are not disputed, albeit they are scantily presented in the majority opinion. Likewise that the municipalities are political subdivisions of a state is1934 BTA LEXIS 1389">1398 not questioned. The doctrine upon which the petitioner bases his contention is the settled law of the United States. ; ; . Although it is sometimes difficult to classify a particular instrumentality of a state so as to determine its right to exemption from Federal taxation, it is settled that one who is an actual incumbent of an office created by state statute and engaged in a government function falls within the established exemption and his income derived from the compensation of the office is immune from Federal taxation. ;; , and cases therein cited. Cf. . In the Metcalf & Eddy case the Supreme Court applied several tests to determine whether the plaintiffs were officers. The Court held that the facts failed to satisfy any of the tests applied. The Court said: We think it clear that neither of1934 BTA LEXIS 1389">1399 the plaintiffs in error occupied any official position in any of the undertakings to which their writ of error in No. 183 relates. They took no oath of office; they were free to accept any other concurrent employment; none of their engagements was for work of a permanent or continuous character; some were of brief duration and some from year to year, others for the duration of the particular work undertaken. Their duties were prescribed by their contracts and it does not appear to what extent, if at all, they were defined or prescribed by statute. We therefore conclude that plaintiffs in error have failed to sustain the burden cast upon them of establishing that they were officers of a state or a subdivision of a state within the exception of section 201(a). An office is a public station conferred by the appointment of government. The term embraces the idea of tenure, duration, emolument and dutis fixed by law. Where an office is created, the law usually fixes its incidents, including its term, its duties and its compensation. 1934 BTA LEXIS 1389">1400 ; . The term "officer" is one inseparably connected with an office; but there was no office of sewage or water supply expert or sanitary engineer, to which either of the plaintiffs was appointed. The contracts with them, although entered into by authority of law and prescribing their duties, could not operate to create an office or give to plaintiffs the status of officers. ;. There were lacking in each instance the essential elements of a public station, permanent in character, created by law, whose incidents and duties were prescribed by law. See ; ; . It do not believe, however, that the Metcalf & Eddy case is authority for the proposition that if there is actually an office to which an 30 B.T.A. 17">22 incumbent has been appointed, the immunity of his compensation from tax depends upon1934 BTA LEXIS 1389">1401 his ability to meet every one of the tests suggested by the court. We will first inquire, therefore, whether the positions held by Pease were public offices. The several municipalities to which the petitioner furnished supervisory services as an engineer were organized under the Home Rule Section of the Constitution of the State of Ohio and also pursuant to statutes of that State. Section 3 of Article XVIII of the Constitution of Ohio reads as follows: Municipalities shall have authority to exercise all powers of local self-government and to adopt and enforce within their limits such local police, sanitary and other similar regulations, as are not in conflict with general laws. (Adopted Sept. 3, 1912.) The phrase "all powers of local self-government" contained in the foregoing constitutional provision was construed by the Supreme Court of Ohio in ; . In that case the court said: As to the scope and limitations of the phrase "all powers of local self-government", it is sufficient to say here that the powers referred to are clearly such as involve the exercise of the functions of government, 1934 BTA LEXIS 1389">1402 and they are local in the sense that they relate to the municipal affairs of the particular municipality. It will not be disputed that one of the powers of government is that of determining what officers shall administer the government, which ones shall be appointed and which elected, and the method of their appointment and election. These are essentials, which are confronted at the very inception of any undertaking, to prepare the structure or Constitution for any government. Obviously such power would be included among "all powers of local self-government" which any municipality has authority to exercise under section 3 of Article XVIII as to any officers of such municipality, unless the election of such officers is not a matter of municipal concern, or unless such power has been excepted in some manner from those granted. The city of Cleveland Heights was organized on the "City Manager Plan", General Code of Ohio, section 3515-19. The charter provides for an elective council and for the election by the council from its own members of a president thereof with the title of mayor. It also provides for the appointment by the council of a city manager who shall be the chief1934 BTA LEXIS 1389">1403 administrative officer of the city. It creates several administrative departments and provides for the appointment of directors thereof. A department of engineering was not created by the charter, but it is provided that the city council may create and abolish any offices not specifically created by the instrument. The charter authorizes the city manager to appoint all administrative officers except as therein otherwise provided. As to the method of appointment of such administrative officers, it is stipulated by the parties to this proceeding as follows: 30 B.T.A. 17">23 The use of an agreement between the City Manager and the officer with confirmation and approval by the Council is the usual and ordinary method of filling all offices not specifically covered by the charter. This procedure has at all times been approved by the State Examiner from the Department of the Auditor of State, Bureau of Inspection and Supervision of Public Offices. Thereafter said F. A. Pease served continuously as City Engineer for the City of Cleveland Heights during the taxable years in question, all by virtue of appointments made by the City Manager of said City with the approval of the Council in each1934 BTA LEXIS 1389">1404 instance. The other eight municipalities were respectively governed by a mayor and council, section 3515-29, General Code of Ohio, the mayor and members of the council each being elected for terms specified in the statute. Section 3515-29 provides that the legislative authority of a municipality is vested in the council and section 3515-30 of the General Code of Ohio provides that the council may create and discontinue municipal departments and offices. Clearly, therefore, the legislative power vested in the council by the statute and the powers of local self-government conferred on municipalities by Article XVIII of the Constitution of Ohio, as contrued in , could only be exercised by the passage of ordinances not contrary to law. The office of engineer of a municipality was created by a statute of the State of Ohio. Sections 4364 and 4366 of the General Code of Ohio, which relate to cities and villages within the state, provide as follows: SEC. 4364. General duties. Under the direction of council, the street commissioner, or an engineer, when one is so provided by council, shall supervise the improvement and repair1934 BTA LEXIS 1389">1405 of streets, alleys, lands, lanes, squares, wards, landings, market houses, bridges, viaducts, sidewalks, sewers, drains, ditches, culverts, ship channels, streams and water courses. Such commissioner or engineer shall also supervise the lighting, sprinkling and cleaning of all public places, and shall perform such other duties consistent with the nature of his office as council may require. SEC. 4366. Duties of various officers; compensation. In each municipal corporation having a fire engineer, civil engineer or superintendent of markets such officers shall each perform the duties prescribed by this title and such other duties not incompatible with the nature of his office as the council by ordinance requires, and shall receive for his services such compensation by fees, salary or both as is provided by ordinance. The sections refer to the engineer's "office"; they describe his duties and speak of him as an "officer." Each of the nine municipalities, acting with the right of local self-government, and in the manner provided by the fundamental law of their respective governmental organization, appointed the petitioner to this office so created. That he was the engineer1934 BTA LEXIS 1389">1406 for each municipality is stipulated. With respect to the appointment 30 B.T.A. 17">24 by the city of Cleveland Heights, it is stipulated, in effect, that his appointment was made in the same manner as appointments to all other offices not specifically designated in the city's charter; namely, by contract executed by the city manager and approved by the mayor and council. His appointments so made by the city of Cleveland Heights were for definite terms of one year each and his compensation stated in the agreement of appointment was approved by the mayor and council. The other eight municipalities, acting by ordinances passed by their respective council, appointed Pease as village engineer. These ordinances, on their face, were acts of municipal legislation and not contracts. Some of these ordinances specified the petitioner's duties in terms substantially similar to those of section 4364 of the General Code of Ohio and the facts show that in respect to all of the municipalities involved herein his duties and powers were such as are defined in the statute. Moreover, it clearly appears in the facts that the petitioner's duties as engineer for the nine municipalities were such official1934 BTA LEXIS 1389">1407 duties as would be performed by a municipal officer only. As engineer he prepared an assessment roll, fixing special assessments against property benefited by public improvements, and determined what property was so benefited. As engineer he was a member of a board of review to review assessments made. These acts were quasijudicial in their nature and were of a character which is consistent only with an official status. In the case of ; , it appeared that the plaintiff in error had been designated to serve as village engineer for the village of Bedford, Ohio, by an ordinance similar in form to those involved in these proceedings. The basis of the action against Wright was an alleged violation of section 3808 of the General Code of Ohio. That section provides in substance that no officer of a municipal corporation shall have any interest in the expenditure of money on the part of the corporation other than his fixed compensation, and the section provides a penalty for violation. The fundamental issue was whether Wright was an officer. The Supreme Court of Ohio, referring to the resolution passed1934 BTA LEXIS 1389">1408 by the council of the village of Bedford, naming Wright as village engineer, said that all services performed by Wright were performed under the resolution. The court also said: In the case of , Judge Minshall discussed the essentials of a public office and reached the conclusion that a public officer is one who exercises in an independent capacity a public function in the interest of the people by virtue of law, which is only saying in another form that he exercises a portion of the sovereignty of the people delegated to him by law. Sections 30 B.T.A. 17">25 4364 and 4366 impose upon a city or village engineer the duty to "supervise the improvement and repair of streets, avenues, alleys, lands, lanes, squares, wards, landings, market houses, bridges, viaducts, sidewalks, sewers, drains, ditches, culverts, ship channels, streams and water courses." Those statutes further impose upon such engineer any other duties consistent with the nature of his office, as council may require. By reference to the resolution it will be seen that he was charged with the duty of preparing plans, 1934 BTA LEXIS 1389">1409 specifications, estimates and profiles, together with engineering work necessary for the installation of water improvements, pavements, sewers, and other contract improvements to their completion. He was also charged with inspection of all such improvements. Naturally the terms of the resolution would imply that he should supervise the letting of contracts, determine when the work was properly completed, and make preliminary and final estimates and certificates to authorize payment. The evidence shows that he in fact did all of these things. The statute having named an engineer as an officer, it only remains to be determined whether Wright in fact exercised the powers and performed the duties referred to in the statutes. Even without the aid of those statutes, it is inevitable that Wright should be determined to be an officer. His position was one which involved the exercise of judgment, skill, discretion, initiative. His judgment was depended upon by those who were charged with ultimate responsibility. It is said in 28 Cyc. 583: "A city engineer is an 'officer' within a statute providing for the appointment of officers by the municipal government * * . In determining whether1934 BTA LEXIS 1389">1410 a contract for street improvements has been substantially complied with, the city engineer acts in the exercise of quasi-judicial functions." An engineer certainly occupies a very responsible position in protecting the interests of the public in the expenditure of public funds. His inspection requires that he should ascertain and certify quantities and qualities of materials, and the nature of workmanship. Even in this village of 6,000 inhabitants the amounts of money expended for public construction during his period of service must have been approximately a million dollars. The engineer is peculiarly the officer who stands between the village and the threatened impositions of those who have dealings with the village in matters of public work. Tested by the standards of common law definitions, Wright must be held to fully measure up to the essential elements of a public officer. It is further claimed by Wright that the council created the office and filled it in the same resolution. We do not take this view of the matter. The office was created by Section 4364, General Code. It was filled by the resolution of council. The duties performed by the petitioner herein were1934 BTA LEXIS 1389">1411 the same class of duties as those performed by the plaintiff in error in the Wright case. No distinction exists between the facts in this case and those in the Wright case except that the petitioner in these proceedings performed services as engineer for nine municipalities, while in the Wright case it does not appear that the plaintiff in error acted as village engineer for more than one municipality. But there is no statute of Ohio declaring that the same individual may not be engineer for several municipalities, nor do we know of any statutory requirement in Ohio that an officer shall be a resident of the municipality in which he is an officer. 30 B.T.A. 17">26 It is my opinion that the Wright case is determinative of the question as to the character of the positions occupied by petitioner. He was an officer of the several municipalities. The contracts of appointment executed by the petitioner and the city manager of Cleveland Heights, with the approval of the mayor and council, did not create an office. They filled one already provided by statute, and the same is true with respect to the ordinances referred to in the findings of fact. 1934 BTA LEXIS 1389">1412 The respondent contends, however, and the majority opinion holds, that the case of Wright v. Clark, supra, does not bind the Federal Government. It is true that the Federal courts have held that the Federal taxing acts have their own criteria. ; . But it has also been held that state law controls where the operation of a taxing act, either by express language or by necessary implication, is dependent upon state law. ; ; . If we must consult state law to determine whether a building and loan company is of such a corporate character as to be exempt from Federal taxation under the taxing statutes (), it would seem that with like necessity we must refer to state statutes as interpreted by the highest court of the state to determine what offices have been created within the borders of a state and by what procedure they may be filled. 1934 BTA LEXIS 1389">1413 The interpretation of a state statute by the highest court of the state becomes a part of the statute itself and is as binding on the United States as the text of the statute. ; . However, even if the decision of the Ohio Supreme Court is not binding in the matter, I am of the opinion that it correctly interpreted the law and that our decision on the law of the instant case should be to the same effect. It is objected by the respondent that the petitioner took no oath of office and that, therefore, he was not an officer judged by the criteria stated by Mr. Justice Stone in Examination of the Court's opinion in that case leads to the conclusion that the Court does not hold that one can not be an officer unless he has taken an oath of office. I understand the Court's reference to an oath to mean that the taking of an oath is one of the customary requirements of office, and, therefore, one of the usual indicia of office. The statutes of Ohio provide that any municipal officer shall take an oath before entering upon1934 BTA LEXIS 1389">1414 the duties of his office, and section 4242 of the General Code provides in effect that the council may declare vacant the office of any person who has failed to take 30 B.T.A. 17">27 the oath of office. It does not follow, however, that the taking of the oath is a condition precedent to the incumbency of office. Unless the council has acted under the statute and declared the office vacant the incumbent is an officer, notwithstanding the failure to take an oath. The council of the municipalities involved herein did not declare the office of engineer vacant at any time and it is clear from the facts that the petitioner performed his duties during all of the taxable years. In the Wright case the plaintiff in error had taken no oath of office. Nevertheless the court held that he was an officer. It is contended also by the respondent that, since some of the ordinances provided that the petitioner's appointment might be rescinded on due notice and since, admittedly, any of the ordinances might be repealed at any time, there was no permanence attaching to his appointment and that, therefore, the facts in this respect fail to satisfy the test of permanence. 1934 BTA LEXIS 1389">1415 It is my opinion that these facts are of little importance with respect to the issue involved herein, for the reason that in general it is within legislative power to discontinue as well as to create and fill offices. . In , where the respondent, as in the present proceedings, contended that the petitioner was an independent contractor, we held that the fact that the petitioner's tenure was indeterminate in time did not of itself make him an independent contractor. Nor can it now be doubted that the functions performed by petitioner were essential governmental functions, a question mooted by the majority opinion. As said by the Supreme Court in , "the basis of the distinction [between governmental and proprietary powers] is difficult to state, and there is no establish rule for the determination of what belongs to the one or the other class." In , the Supreme Court observed that the decisions "indicate that1934 BTA LEXIS 1389">1416 the thought has been that the exemption of state agencies and instrumentalities from national taxation is limited to those which are of a strictly governmental character, and does not extend to those which are used by the state in the carrying on of an ordinary private business." In the case before us there is no suggestion of private business. Petitioner had supervision of the installation of all public improvements. The Supreme Court of Ohio, in ; , made the following observation: The state of Ohio has always recognized its obligation to keep the public ways open, and has delegated that duty to municipalities so far as streets and alleys within municipalities are concerned, and, further recognizing the public 30 B.T.A. 17">28 character of that obligation, has enjoined by § 3714, General Code, upon municipalities an obligation to keep them open, in repair, and free from nuisance. This duty was for the first time imposed by legislation on May 3, 1852 (50 Ohio Laws, p. 244 § 63), in practically the identical language in which that obligation is now couched in § 3714, General Code. By that enactment1934 BTA LEXIS 1389">1417 the Legislature of Ohio has removed all doubt as to the public character of streets and alleys within municipalities, and by the same token it has become firmly established that the maintenance of streets, alleys, and other highways is the performance of a governmental function. * * * Though the actual installation of public streets has been called a proprietary function by some courts, there would seem a valid distinction between the work of those actually installing the improvement and that of the official charged with the supervision, on behalf of the city, of such work, involving as it does the direct protection of the financial interests of the city and its taxpayers. This latter would seem clearly to be a governmental function. In , the Supreme Court of the United States held that the sprinkling of streets to keep down dust for the purpose of promoting the health and comfort of the general public is a public or governmental act. Certainly the supervision of the laying out of sewers for proper sanitation and the installation of similar public improvements are official duties incident to the provision of necessities1934 BTA LEXIS 1389">1418 essential to the health of the citizens. They are not functions capable of performance equally well by those acting in a private capacity. Nor are they conducted by the municipality for profit. Cf. I am of the opinion that the duties which petitioner performed were essential governmental functions. For the most recent discussion of the trend of the law on this subject see , in which the court reversed the Board. It will readily be admitted that in some respects petitioner bore resemblance to a contractor. He furnished the services of his organization for municipal projects, he maintained a testing laboratory and otherwise found it necessary to employ others to aid him. His charges were in some instances on a percentage of work done basis. I do not believe, however, that these facts are of preponderating weight, nor do they overcome the express holding of the Supreme Court of Ohio that a man in all ways similarly situated was an officer of the municipalities which he served as engineer. It is my opinion that the petitioner was an officer of the1934 BTA LEXIS 1389">1419 political subdivisions of the State of Ohio engaged in performing essential governmental functions and that, therefore, the Federal Government may not tax his compensation as such officer.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621775/	BRUCE R. AND VICKIE HUNSBERGER v. COMMISSIONER OF INTERNAL REVENUE, RespondentHunsberger v. CommissionerDocket No. 23330-81.United States Tax CourtT.C. Memo 1982-607; 1982 Tax Ct. Memo LEXIS 138; 44 T.C.M. 1428; T.C.M. (RIA) 82607; October 19, 1982. 1982 Tax Ct. Memo LEXIS 138">138 Petitioners claim that the self-employment taxes are unconstitutional because (1) there will not be sufficient funds in the Social Security system to pay petitioner-husband's benefits when due, and (2) the exemption provided by section 1402(g), I.R.C. 1954, improperly discriminates on the basis of religion. Held: (1) the self-employment taxes are not unconstitutional even if petitioner-husband receives no benefits under the Social Security system. (2) We do not decide whether the exemption provided by section 1402(g), I.R.C. 1954, is unconstitutional since, even if it were declared unconstitutional, petitioner-husband would still be subject to the self-employment taxes. Bruce R. Hunsberger and Vickie Hunsberger, pro se. Steven K. Dick,1982 Tax Ct. Memo LEXIS 138">140 for the respondent. CHABOTMEMORANDUM OPINION CHABOT, Judge: This proceeding is before us on respondent's motion for summary judgment. The issue is whether respondent is correct in his contention that, even if all the facts alleged by petitioners in their petition and in their tax return for 1977 are admitted, then as a matter of law petitioners are liable for self-employment taxes. A hearing was held on respondent's motion after the parties submitted written memoranda. Respondent determined a deficiency in Federal self-employment taxes against petitioners for 1979 in the amount of $1,572.62. When the petition in this case was filed, petitioners Bruce R. Hunsberger (hereinafter sometimes referred to as "Hunsberger") and Vickie Hunsberger, husband and wife, resided in Milford, Indiana. Attached to petitioners' joint Form 1040 for 1979 was a Schedule C which showed that Hunsberger operated Bruce's Station, apparently a gasoline sales and service station, as a sole proprietorship, which produced a profit of $19,415. Petitioners concede that this amount is self-employment income to Hunsberger. 11982 Tax Ct. Memo LEXIS 138">141 On this Form 1040 petitioners did not show any income for Hunsberger that was subjected to tax under chapter 21 (Federal Insurance Contributions Act). Attached to petitioners' Form 1040 was a "NOTICE & Affidavit of RELIGIOUS Resignation From the 'Social Security' Program", dated April 15, 1980, which, among other things, claimed that Hunsberger was entitled to have returned to him "all F.I.C.A./Social Security funds collected relative to my account since the year 1966 A.D. * * plus appropriate interest." Respondent determined that the entire $19,415 profit from Bruce's Station was subject to tax under section 1401. In their petition, petitioners explained their objections to this determination as follows: 1. We no longer wish to be involved in a Federal Insurance program. 2. There is tremendous information showing that there are no trust funds or any funds that there were are not depleted. Thereby offering us no security for our retirement. 3. We have decided to carry our own insurance to protect our own welfare. 4. To deny one person the right to exemption and to allow another person that right for religious reasons is a clear violation of the First Amendment1982 Tax Ct. Memo LEXIS 138">142 to the Constitution of the United States of America. Respondent maintains that his motion for summary judgment under Rule 121, 2 Tax Court Rules of Practice and Procedure, should be granted because (1) there is no dispute as to any material issue of fact and (2) the legal and constitutional issues involving the application of the self-employment taxes to Hunsberger's self-employment income should be decided in respondent's favor as a matter of law. Petitioners concede that Hunsberger had income that was subject to the self-employment taxes under the statute and that no provision of the statute exempts Hunsberger or his self-employment1982 Tax Ct. Memo LEXIS 138">143 income from these taxes. 3 Petitioners contend that this imposition is unconstitutional because (1) "Social Security is a fraud" in that it is not likely that the system will have enough money to pay petitioners' benefits thereunder when they come due, especially since "[t]he laws are constantly changed"; and (2) "to give one group of people an exemption under the Constitution and not another group of people is unconstitutional." They assert that "[i]f one group is exempt from Social Security, then everyone should be exempt under equal protection." We agree with respondent. The basic Social Security tax system is constitutional. Helvering v. Davis,301 U.S. 619">301 U.S. 619 (1937). This conclusion extends also to the self-employment taxes imposed by section 1401, 4 here in issue. Cain v. United States,211 F.2d 375">211 F.2d 375 (CA5 1954). 1982 Tax Ct. Memo LEXIS 138">144 The Social Security system does not provide the contractual rights normally thought to characterize an insurance program. Flemming v. Nestor,363 U.S. 603">363 U.S. 603, 363 U.S. 603">608-611 (1960); Davis v. Califano,603 F.2d 618">603 F.2d 618, 603 F.2d 618">628 (CA7 1979). See U.S. Railroad Retirement Bd. v. Fritz,449 U.S. 166">449 U.S. 166, 449 U.S. 166">174 (1980). The use of the word "insurance" in describing the system results neither in the guaranteeing of a benefit nor in the general voluntariness of participation in the system or payment of premiums. The self-employment taxes are taxes imposed by the Congress and enacted as part of the Internal Revenue Code. They do not apply to all who earn income. Some people are given an option to pay the tax or exclude themselves from both the taxes and the benefits that otherwise may be available to them under the Social Security system. In general, such classifications are tested under equal protection concepts by determining whether the classification involved has some rational relationship to a constitutional governmental purpose. E.g., 449 U.S. 166">U.S. Railroad Retirement Bd. v. Fritz,supra;Helvering v. Davis,301 U.S. 619">301 U.S. at 646;1982 Tax Ct. Memo LEXIS 138">145 Steward Machine Co. v. Davis,301 U.S. 548">301 U.S. 548, 301 U.S. 548">583-585 (1937); Bryant v. Commissioner,72 T.C. 757">72 T.C. 757, 72 T.C. 757">763-766 (1979). The general system of impositions of, and exemptions from, the self-employment taxes has been sustained under this test ( 301 U.S. 619">Helvering v. Davis,supra). Petitioners present no argument suggesting that, under this test, the situation they face requires any result different from that spelled out in 301 U.S. 619">Helvering v. Davis,supra.However, when one of certain basic rights is at stake, or when a "suspect classification" is involved, the usual presumption of constitutionality does not apply, the rational relationship test is not the touchstone, and "special scrutiny" must be given to the governmental action. Sherbert v. Verner,374 U.S. 398">374 U.S. 398, 374 U.S. 398">406-407 (1963). See, e.g., U.S. Railroad Retirement Bd. v. Fritz,449 U.S. 166">449 U.S. at 174; Harris v. McRae,448 U.S. 297">448 U.S. 297, 448 U.S. 297">312 (1980); Mobile v. Bolden,446 U.S. 55">446 U.S. 55, 446 U.S. 55">76 (plurality opin.) (1980); Personnel Administrator of Mass. v. Feeney,442 U.S. 256">442 U.S. 256, 442 U.S. 256">272-273 (1979); United States v. Carolene Products Co.,304 U.S. 144">304 U.S. 144, 304 U.S. 144">152 n. 4 (1938).1982 Tax Ct. Memo LEXIS 138">146 A classification according to religious beliefs is one that requires more than the usual rational relationship in order to sustain it. 374 U.S. 398">Sherbert v. Verner,supra;Fowler v. Rhode Island,345 U.S. 67">345 U.S. 67, 345 U.S. 67">69 (1953). See United States v. Seeger,380 U.S. 163">380 U.S. 163, 380 U.S. 163">176 (1965); Golden Rule Church Association v. Commissioner,41 T.C. 719">41 T.C. 719, 729-230 (1964). On its face, paragraph (1) of section 1402(g)5 appears to make such a classification.1982 Tax Ct. Memo LEXIS 138">147 Notwithstanding the foregoing, we do not apply the special scrutiny test in the instant case because of the problem of petitioners' standing to raise the issue. On this point, we follow the approach illustrated by Lingenfelder v. Commissioner,38 T.C. 44">38 T.C. 44 (1962); accord, Ward v. Commissioner,608 F.2d 599">608 F.2d 599, 608 F.2d 599">601 (CA5 1979), affg. a Memorandum Opinion of this Court. 6Even if petitioners were to persuade us that the exemption in section 1402(g) is unconstitutional (under the First Amendment, or under the equal protection element of the due process clause of the Fifth Amendment) because it improperly discriminates in favor of adherents of only a certain religion or group of religions, it would not help petitioners because we have not been shown any appropriate method of granting them relief. Unlike the situation in Moritz v. Commissioner,469 F.2d 46">469 F.2d 46 (CA10 1972), revg. 55 T.C. 113">55 T.C. 113 (1970), petitioners have not shown us a way to expand section 1402(g) to provide an exemption to Hunsberger, without also gutting the basic compulsory structure that the Congress created in chapter1982 Tax Ct. Memo LEXIS 138">148 2, the Self-Employment Contributions Act of 1954. 7 Since the basic constitutionality of the broad application of the Social Security tax structure has been established, this course is not open to us. The alternative course of action, striking down the exemption provided by section 1402(g), would still leave Hunsberger liable for the same amount of tax that respondent has determined. Accordingly, the result in the instant case--a decision for respondent--would be the same, whether or not we held section 1402(g) to be constitutional. Under these circumstances, we decline to rule on the constitutionality of section 1402(g) in the context presented in the instant case. An appropriate order granting respondent's motion for summary judgment, and decision for respondent, will be entered.Footnotes1. The filing of a joint return makes both petitioners liable for the self-employment taxes even though only Hunsberger had self-employment income, because the self-employment taxes are income taxes under subtitle A. Sections 6013(a), 6013(d)(3), and 6017; section 1.6017-1(b)(2), Income Tax Regs.; cf. Guest v. Commissioner,72 T.C. 768">72 T.C. 768, 72 T.C. 768">779-780 (1979). Unless indicated otherwise, all subtitle, chapter, and section references are to subtitles, chapters, and sections of the Internal Revenue Code as in effect for the year in issue.↩2. RULE 121. SUMMARY JUDGMENT (a) General: Either party may move, with or without supporting affidavits, for a summary adjudication in his favor upon all of any part of the legal issues in controversy. * * (b) Motion and Proceedings Thereon: * * * A decision shall * * * be rendered if the pleadings, answers to interrogatories, depositions, 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. * * *↩3. Petitioners do not contend that Hunsberger's "Notice", supra, constitutes an effective application for exemption under section 1402(g)↩.4. Sec. 1401 provides, in pertinent part, as follows: SEC. 1401. RATE OF TAX. (a) Old-Age, Survivors, and Disability Insurance.--In addition to other taxes, there shall be imposed for each taxable year, on the self-employment income of every individual, a tax as follows: (3) in the case of any taxable year beginning after December 31, 1978, and before January 1, 1981, the tax shall be equal to 7.05 percent of the amount of the self-employment income for such taxable year; (b) Hospital Insurance.--In addition to the tax imposed by the preceding subsection, there shall be imposed for each taxable year, on the self-employment income of every individual, a tax as follows: (3) in the case of any taxable year beginning after December 31, 1978, and before January 1, 1981, the tax shall be equal to 1.05 percent of the amount of the self-employment income for such taxable year;↩5. SEC. 1402. DEFINITIONS. (g) Members of Certain Regious Faiths.-- (1) Exemption.--Any individual may file an application (in such form and manner, and with such official, as may be prescribed by regulations under this chapter) for an exemption from the tax imposed by this chapter if he is a member of a recognized religious sect or division thereof and is an adherent of established tenets or teachings of such sect or division by reason of which he is conscientiously opposed to acceptance of the benefits of any private or public insurance which makes payments in the event of death, disability, old-age, or retirement or makes payments toward the cost of, or provides services for, medical care (including the benefits of any insurance system established by the Social Security Act). Such exemption may be granted only if the application contains or is accompanied by-- (A) such evidence of such individual's membership in, and adherence to the tenets or teaching of, the sect or division thereof as the Secretary may require for purposes of determining such individual's compliance with the preceding sentence, and (B) his waiver of all benefits and other payments under titles II and XVIII of the Social Security Act on the basis of his wages and self-employment income as well as all such benefits and other payments to him on the basis of the wages and self-employment income of any other person, and only if the Secretary of Health, Education, and Welfare finds that-- (C) such sect or division thereof has the established tenets or teachings referred to in the preceding sentence, (D) it is the practice, and has been for a period of time which he deems to be substantial, for members of such sect or division thereof to make provision for their dependent members which in his judgment is reasonable in view of their general level of living, and (E) such sect or division thereof has been in existence at all times since December 31, 1950. An exemption may not be granted to any individual if any benefit or other payment referred to in subparagraph (B) became payable (or, but for section 203 or 222(b) of the Social Security Act, would have become payable) at or before the time of the filing of such waiver.↩6. T.C. Memo. 1979-39↩.7. Petitioners do not claim that they are entitled to an exemption based on membership in any particular class of taxpayers, religious or otherwise.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621776/	Grant T. Rudie, Jr., and Karen Rudie, Petitioner v. Commissioner of Internal Revenue, RespondentRudie v. CommissionerDocket No. 6032-65United States Tax Court49 T.C. 131; 1967 U.S. Tax Ct. LEXIS 15; November 29, 1967, Filed 1967 U.S. Tax Ct. LEXIS 15">15 Decision will be entered under Rule 50. Upon the termination of a lease on the building where he operated a drugstore, petitioner purchased the business of his only competitor in a community of 1,500 persons. The purchase price of $ 23,750 included amounts allocated to the business name, land, building, fixtures, prescription file, and a covenant by the owner not to compete for 5 years. After remodeling the building, petitioner moved his business there under his own business name and then operated the only drugstore in the community. Petitioner did not advertise the purchase of the prescription file or directly solicit the business of customers whose names appeared in the file. Held, petitioners failed to established a cost or limited useful life of the prescription file entitling them to amortize its cost over a 3-year period. Held, further, since the covenant not to compete was separately bargained for, the cost was properly amortized over its 5-year life. John R. McDonald, for the petitioners.Gerald P. Moran, for the respondent. Dawson, Judge. DAWSON49 T.C. 131">131 Respondent determined deficiencies in petitioners' income taxes of $ 113.30 in 1961, $ 543.83 in 1962, and $ 510 in 1963. By amended answer filed after the trial of this case, respondent claims increased deficiencies of $ 55.04 in 1961, $ 285 in 1962, and $ 255 in 1963.Two issues are presented: (1) Whether prescription records obtained by petitioner in the purchase of a drugstore constituted an intangible asset with a value of $ 3,000 and a useful life of 3 years, the cost of which can be depreciated under section 167(a), I.R.C. 1954; 1 and (2) whether a covenant not to compete was a distinct part of the transaction for which separate consideration was received, entitling petitioner to amortize the cost over the 5-year life of the covenant.1967 U.S. Tax Ct. LEXIS 15">17 FINDINGS OF FACTSome of the facts have been stipulated and are found accordingly.Petitioners Grant T. Rudie, Jr. (herein called petitioner), and Karen Rudie, husband and wife, were legal residents of Westby, Wis., when their petition was filed herein. Their joint Federal income tax returns for the calendar years 1961, 1962, and 1963 were filed with the district director of internal revenue at Milwaukee, Wis.In 1948, petitioner, a licensed pharmacist, began working for his father who had operated Rudie's Drugstore (herein called Rudie's) in 49 T.C. 131">132 Westby, Wis., since 1927. In 1949 petitioner became a partner and a few years later purchased his father's interest in the drugstore. Petitioner operated Rudie's as a sole proprietorship through the tax years in issue.The Unseth Rexall Drugstore (herein called Rexall), established in Westby around 1900 and operated by various owners continuously until 1961, was Rudie's sole competition in the drug business from 1927 to 1961. The last owner of Rexall was Larry Day (herein called Day) who purchased the store along with its prescription records in 1956. Day had a good reputation in the Westby area as a pharmacist. In addition to1967 U.S. Tax Ct. LEXIS 15">18 the drug business, Day offered a wide variety of merchandise for sale at Rexall. In contrast, Rudie's was primarily a pharmaceutical dispensing store with only a small gift line, greeting cards, and a fountain. The two drugstores filled about the same number of new prescriptions each year.Generally, a minimum population of between 3,500 and 4,000 is required to support a profitable drugstore. Westby had a population of only 1,500 with a per capita income less than the Wisconsin State average. Vernon County, in which Westby is located, suffered an 8-percent decrease in population between 1950 and 1960 and was considered a poor market area. Petitioner's net profit from the operation of Rudie's was $ 4,739.08 in 1959 and $ 8,662.01 in 1960. During the years 1959 and 1960 the average compensation for Wisconsin druggists in management positions was $ 10,000.On January 1, 1961, petitioner was notified that he would have to vacate the building he was leasing from the Westby Telephone Co. His subsequent attempts to secure a lot in town upon which to build were unsuccessful. After hearing that Day was interested in leaving Westby, petitioner offered to purchase the Rexall building1967 U.S. Tax Ct. LEXIS 15">19 and inventory and Day's home, if necessary. No agreement was reached at that time. Subsequently, Harold Nelson, a newspaperman from Lancaster, Wis., who was interested in inducing Day to open a drugstore in Lancaster, prompted further negotiations between petitioner and Day. On May 20, 1961, the parties agreed to a sales price of $ 23,750 and executed without legal advice a witnessed written agreement, as follows:We, Larry Day and Grant Rudie, Jr., Westby, Wisconsin, do this 20th day of May, 1961, hereby agree:(1) That Grant Rudie, Jr. purchase goodwill of Unseth Rexall Drugs, Westby, for $ 13,750.00 for cash upon presentation of title to building.(2) That Grant Rudie, Jr. purchase Unseth Rexall Drugs building, Westby, for $ 10,000 cash.(3) That Larry Day agrees to move stock and fixtures of Unseth Rexall Drugs out of Westby and cease business on or before September 1, 1961; and that said Larry Day agrees not to enter drug store business in Westby for a period of at least 10 years hence.49 T.C. 131">133 That this agreement covers a total of $ 23,750.00 for business and building. $ 1 earnest money paid down on this agreement.Dated this 20th day of May, 1961 at Westby, Wis.By mutual1967 U.S. Tax Ct. LEXIS 15">20 agreement, the parties consulted an attorney, Lester D. Skundberg (herein called Skundberg) to "finalize" their previous understanding. Skundberg represented both parties in drafting an agreement to buy and sell which differed from the May 20 agreement only in excluding the term '"goodwill" and including as items of purchase the business name "Unseth Rexall Drug Store," the prescription file, and fixtures on the second floor of the building. Petitioner was given the right to immediate possession of the building though transfer of title was scheduled for September 1, 1961. After Skundberg explained the significance of the 10-year covenant not to compete, petitioner requested that it be retained and Day acquiesced, subject to an oral understanding that it would be changed if Skundberg determined the term unreasonable under State law. As a result of Skundberg's admonition, the parties understood that they would agree later to a reasonable allocation of the purchase price to the separate assets for income tax purposes. Skundberg ascertained the fair market value of the building and land, but he did not advise either party as to applicable tax law.Petitioner met with a certified 1967 U.S. Tax Ct. LEXIS 15">21 public accountant between May 22 and August 18, 1961, and made the following allocation of the purchase price:Prescription file$ 3,000Building13,000Fixtures1,000Covenant not to compete3,750Land2,000Goodwill1,00023,750Petitioner did not believe any goodwill was involved in the purchase and made the $ 1,000 allocation to it only upon the accountant's insistence.Petitioner had not examined the prescription file before the valuation was made. He had, however, checked the volume of Rexall's prescription business for several years and knew that Day was filling approximately 6,000 new prescriptions each year. Based upon his own business, which handled about the same volume of new prescriptions, petitioner estimated that Day was refilling about 8,000 or 9,000 prescriptions per year. He also estimated that Day's file contained about 8,000 or 9,000 current and usable prescriptions. Petitioner first examined the prescription file on August 19, 1961, and found that he had purchased 36,000 prescriptions.49 T.C. 131">134 The $ 3,750 allocation to the covenant not to compete was based on the 10-year period in the buy and sell agreement and constituted the balance of 1967 U.S. Tax Ct. LEXIS 15">22 the $ 23,750 total purchase price after allocations had been made to all other assets. Thereafter, at a closing conference on August 18, 1961, the covenant period was reduced by written agreement to 5 years upon the advice of Skundberg. Day was informed of petitioner's allocation at the conference and agreed to it. At that time Day and his wife formally conveyed all the property to petitioner and his wife.Day subsequently moved to Lancaster, Wis., and opened a drugstore which he has continued to operate. Immediately upon his purchase, petitioner closed the Unseth Rexall Drugstore and began renovating the building. None of Day's employees was retained by petitioner. After 6 weeks the store front had been changed, the ceiling lowered, and the interior completely remodeled. On the day after the sale, petitioner transferred the newly purchased prescription file to his leased premises where he continued to do business until October 1, 1961, at which time he moved his entire operation to the renovated building, retaining the business name "Rudie's Drugstore."Petitioner's profits from the operation of Rudie's Drugstore for years material to this controversy were as, follows:YearGross profitNet profit1959$ 58,099.14$ 4,739.08196062,211.068,662.01196180,191.0410,929.501962137,883.7023,872.641963142,404.3723,937.851967 U.S. Tax Ct. LEXIS 15">23 A prescription normally indicates the name of the licensed prescriber, the name of a drug, the patient's name, the prescribed method of use, the date the prescription was written, and a designation of the number of times the prescription can be filled. Each prescription is stamped according to a consecutive numbering system and is placed in a permanent record or file. Under Wisconsin and Federal law a dangerous or "legend" drug may be obtained only by written prescription and may be refilled only as designated. A prescription may allow no refills, a specific number of refills or, by the designation "PRN" or "ad lib," it may allow refills as needed without limit as to time. Pharmacists commonly suggest that PRN prescriptions be reconfirmed every 6 months or yearly. The American Medical Association does not consider PRN to be a valid authorization for a legend drug. Prescriptions may be copied, but the copy is not valid authorization for a refill at another drugstore. In Wisconsin prescription records must be maintained for at least 5 years. The School of Pharmacy of the University of Wisconsin recommends a period of not less than 6 years.Generally, less than 20 percent of 1967 U.S. Tax Ct. LEXIS 15">24 all prescription orders contain renewal authorization. National averages indicate that few prescriptions 49 T.C. 131">135 are refilled after a 1-year period, the number becoming inconsequential after about 5 years. Petitioner estimated that of the 36,000 prescriptions purchased from Day approximately 8,000 or 9,000 (22 to 25 percent) were current with a useful life of 3 years. Petitioner based his estimates, made after he had used the prescription file in his business for over 4 months, upon his own experience and upon the advice of other pharmacists. Petitioner had not previously been involved in the purchase or sale of a prescription file. Using the month of December for 5 years as a representative sample, refills 2 of prescriptions in the file purchased by petitioner were made as follows:December 1962108December 196371December 196460December 196557December 1966291967 U.S. Tax Ct. LEXIS 15">25 It is customary in the pharmacy profession to advertise once or twice in local newspapers the acquisition of a prescription file, but the file is never used to solicit business by personal contact with previous customers. Petitioner did not publicly advertise that he had acquired the Rexall prescription file, nor did he use the file to solicit customers.Prescription files are often insured under a "valuable documents coverage." The insurable interest consists of the approximate cost in time and effort to reconstruct the file in the event of its loss or destruction. On this basis, the average value placed by insurance companies on a single prescription is between $ 3 and $ 3.50. A somewhat lower figure of $ 2 is frequently recommended in Wisconsin.Petitioner attempted to amortize, on the straight-line method, the cost of both the prescription file and the covenant not to compete over a 3-year period. Petitioner had misinformed his accountant that the covenant period was 3 years instead of 5 years. In his notice of deficiency the respondent disallowed any deduction for the cost of purchasing the prescription file but allowed a decreased deduction for the covenant not to compete1967 U.S. Tax Ct. LEXIS 15">26 on the basis of a 5-year amortization period.OPINIONOn the first issue, respondent contends that the cost of the prescription file cannot be amortized 3 because the file is a single indivisible 49 T.C. 131">136 capital asset which is not exhausted by the passage of time or is in the nature of goodwill, or, alternatively, because petitioner has failed to establish a cost of $ 3,000 or a useful life of 3 years. Petitioner characterizes the file as an intangible asset, useful in his business for only a limited period, and argues that the allocation was at arm's length and the useful life was estimated with reasonable accuracy.1967 U.S. Tax Ct. LEXIS 15">27 In support of his position that the cost of the prescription file cannot be amortized, respondent draws an analogy to customer and subscription lists. As a general rule, no amortization of such intangible assets has been allowed. Anchor Cleaning Service, Inc., 22 T.C. 1029">22 T.C. 1029 (1954); Aaron Michaels, 12 T.C. 17">12 T.C. 17 (1949); The Danville Press, Inc., 1 B.T.A. 1171">1 B.T.A. 1171 (1925). Without question, a prescription file does serve as an inducement for those customers with refillable prescriptions to return to the drugstore which holds the file. In this sense it is in the nature of goodwill. See Rodney B. Horton, 13 T.C. 143">13 T.C. 143 (1949). Statistics show, however, that the average prescription will be refilled for only a limited period of time, either because a specific number of refills was designated or because the person will cease to need the drug. At this point the prescription itself has little or no value as an inducement for customers to return. The same thing may be said of the collection of "unrefillable" prescriptions. A pharmacist, then, is in the unique position, as 1967 U.S. Tax Ct. LEXIS 15">28 a result of custom in the pharmacy profession, of being unable to solicit business by directly contacting those persons whose names appear in the prescription file. The only acceptable advertising with respect to a prescription file is a general announcement of its acquisition. This basic difference weakens the analogy drawn by respondent between a customer list and a prescription file.In addition, the peculiar facts in this case do not establish a goodwill element in the prescription file. The file was not purchased to provide a means of contact with Rexall's customers. Petitioner reasonably believed that this would naturally flow from "buying out" his only competitor in an area where it was unlikely that other competition would develop. Accordingly, we think the customer and subscription list cases cited by respondent do not govern the instant case. We conclude, however, that petitioners are not entitled to the claimed depreciation deductions based upon the cost of the prescription file because they have failed to establish a cost or reasonable life of the file.The Commissioner's notice of deficiency is presumptively correct, and the petitioners have the burden of proving1967 U.S. Tax Ct. LEXIS 15">29 it to be wrong. Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933). Here the petitioners characterize 49 T.C. 131">137 the value of the prescription file to them merely as a "convenience" and a "time saver" and assert that the $ 3,000 allocation agreed to by the parties establishes its "cost." We cannot agree. The only evidence to support the $ 3,000 allocation was testimony of an insurable interest in a prescription file based upon a value of between $ 2 and $ 3.50 per prescription, which represents the cost in time and effort to reconstruct the file. We believe that under these circumstances the insurance value has no substantial relationship to fair market value, but, assuming the contrary to be true, petitioner has failed to show a computation based upon the insurance value which bears any relationship with the $ 3,000 allocation.Under these particular circumstances we give little weight to petitioner's unilateral allocation, especially since there were no adverse tax interests to assure a fair allocation. "While the amounts allocated to these intangibles were seemingly in fair proportions, by their nature they resist precise appraisal, and rest on wholly1967 U.S. Tax Ct. LEXIS 15">30 subjective considerations. Estimates and crude approximations of losses are not sufficient." Golden State Towel and Linen Service, Ltd. v. United States, 373 F.2d 938 (Ct. Cl. 1967).Although petitioner had never before participated in a sale or purchase of a prescription file, he contends that his estimate of a 3-year useful life, based upon his own experience and the advice of other pharmacists, was reasonable and sufficient under the statute and regulations. The regulations are clear, however, that "No allowance will be permitted merely because, in the unsupported opinion of the taxpayer, the intangible asset has a limited useful life." Sec. 1.167(a)-3, Income Tax Regs.In support of his opinion, petitioner relies on national averages which show few prescriptions are filled after a 1-year period, with declining numbers thereafter. We attach little significance or probative weight to the evidence of national averages because it is indefinite and inconclusive and because petitioner has failed to establish any relationship between the national averages and the facts of this case. Moreover, the previous effort made by this Court to rely primarily1967 U.S. Tax Ct. LEXIS 15">31 upon statistical data to determine the useful life of an intangible asset met with no success. See Commissioner v. Indiana Broadcasting Corporation, 350 F.2d 580 (C.A. 7, 1965), reversing 41 T.C. 793">41 T.C. 793 (1964), certiorari denied 382 U.S. 1027">382 U.S. 1027. Nor is the pharmacy industry practice a sufficient indication of the prescription file's probable useful life. Cf. Coca-Cola Bottling Co., 6 B.T.A. 1333">6 B.T.A. 1333 (1927).The only other evidence in this case indicating a useful life is the stipulated record of refills of prescriptions purchased from Day during the month of December for the years 1962 to 1966. This record does not include refills of new prescriptions written by a physician for the 49 T.C. 131">138 same drug covered by a still refillable prescription of Rexall. Assuming the record to be accurate and representative, we conclude that it augurs against rather than for a 3-year useful life. In the fourth year after sale the petitioner was refilling more than half as many Rexall prescriptions as he did in the year of sale. In the fifth year the number had dropped to only one-fourth. 1967 U.S. Tax Ct. LEXIS 15">32 Under petitioner's theory of the value of the prescription file to him, it is plain that its useful life was greater than 3 years. This record simply does not establish that 3 years was a reasonably accurate estimate of the useful life of the prescription file. Since insufficient evidence was introduced from which we can calculate with "reasonable accuracy" the average useful life of the prescription file or its usual life span, we cannot indulge in surmise and speculation by arbitrarily declaring an average useful life. Consequently, we are constrained to conclude on this record that the petitioner has failed to prove respondent erred in his determination that the prescription file had an indeterminable useful life.By raising in an amended answer the issue of petitioner's right to a ratable deduction for the cost of the covenant not to compete, an issue not relied upon in determining the deficiency, respondent has assumed the burden of proof. Sheldon Tauber, 24 T.C. 179">24 T.C. 179 (1955). We find that respondent has failed to carry that burden.Respondent contends that there was neither economic reality to the covenant not to compete nor separate bargaining1967 U.S. Tax Ct. LEXIS 15">33 with respect to it so as to establish a distinct value. Alternatively, he argues that the amounts allocated to both the covenant and the prescription file represent the capital cost of the elimination of competition over an unlimited period and are thus nondeductible. Petitioner, on the other hand, emphasizes the separate treatment accorded the covenant in the agreements and the specific allocation of $ 3,750 agreed to by the parties, and argues that the facts establish its independent significance.Generally, the purchaser of a covenant not to compete is entitled under section 167 to amortize the price paid for the covenant ratably over the life of the covenant if "severable consideration for it can be shown, and it has some basis in fact or arguable relationship with business reality so that reasonable men might bargain for such an agreement." Benjamin Levinson, 45 T.C. 380">45 T.C. 380, 45 T.C. 380">389 (1966). As a result of the specific exclusion of goodwill as a depreciable asset by section 1.167(a)-3, Income Tax Regs., it is clear that there must be "independent significance" to the covenant apart from merely assuring the effective transfer of goodwill. Ullman v. Commissioner, 264 F.2d 305, 3071967 U.S. Tax Ct. LEXIS 15">34 (C.A. 2, 1959), affirming 29 T.C. 129">29 T.C. 129 (1957). The choice is not, however, between "goodwill" on one hand and "covenant not to compete" on the other, for the two most often are interrelated, whether 49 T.C. 131">139 or not separate significance can be attributed to the covenant. In the case at hand, the facts establish to our satisfaction that the covenant was a principal asset of the purchase, was separately bargained for, and did, indeed, have independent significance.Day covenanted not to compete with petitioner in each agreement executed by the parties. After his attorney explained the significance of the covenant, petitioner specifically requested its inclusion in the formal buy and sell agreement. A specific allocation of $ 3,750 was made to the covenant by petitioner and was approved by Day. The fact that the allocation was made subsequent to the sales agreement does not alter its efficacy since the parties recognized a value to the covenant by contract provision, leaving specific allocation to later agreement. In addition, the change of the covenant period from 10 to 5 years was within their contemplation since they understood that Skundberg would 1967 U.S. Tax Ct. LEXIS 15">35 reduce the 10-year limit if he thought it would not be legally enforceable. At the closing conference the 5-year period and the $ 3,750 allocation were approved by both parties. It is true that once a transaction has crystallized the parties may not manipulate tax consequences by "window dressing" in subsequent contracts. George H. Payne, 22 T.C. 526">22 T.C. 526 (1954). But here the parties did not reach final agreement until the closing conference.Respondent insists that the separate bargaining element is missing because of the lack of negotiation or discussion of price. As we stated in 45 T.C. 380">Benjamin Levinson, supra, "The answer to this is that [the seller] apparently never objected to the price attributed to the covenant by the purchasers -- so there was little reason for them to negotiate it." We agree that "the effectiveness taxwise of an agreement is not measured by the amount of preliminary discussion had respecting it. It is enough if parties understand the contract and understandingly enter into it." Hamlin's Trust v. Commissioner, 209 F.2d 761, 765 (C.A. 10, 1954).The economic condition1967 U.S. Tax Ct. LEXIS 15">36 of the Westby area reveals the real importance of the covenant to petitioner. In view of Wesby's location in a poor market area, it was unlikely that someone would open a new drugstore there when Day left. Thus, with Day's covenant, petitioner was assured a virtual monopoly in the drug business. In this position, petitioner did not need to trade upon the goodwill of Rexall in order to secure new customers. As a matter of fact, petitioner has operated the only drugstore in Westby from 1961 until the present time at a substantial increase in profits. Absent the covenant, Day, who concededly had a good reputation in Westby as a pharmacist, would have been free to relocate there if his enterprise in Lancaster had failed. Thus, there was sufficient "business reality" to induce reasonable men to bargain for such an agreement. In addition, the allocation of 49 T.C. 131">140 $ 3,750 to the covenant, or about one-half of the purchase price attributable to the intangible assets, seems reasonable under the circumstances.Alternatively, respondent characterizes the cost of the covenant as a nondeductible cost of eliminating competition for an indefinite period of time, citing B. T. Babbitt, Inc., 32 B.T.A. 693">32 B.T.A. 693 (1935).1967 U.S. Tax Ct. LEXIS 15">37 A "cost of eliminating competition" characterization was made in Babbitt, but it was determined that the specific covenant period agreed to established a definite useful life over which the capital asset was exhaustible. While the petitioner may enjoy the benefits of the economic situation in Westby originating with the agreement with Day for a much longer period than 5 years, we think the covenant period is a reasonable measure of the life of the asset purchased from Day.To reflect the conclusions reached herein,Decision will be entered under Rule 50. Footnotes1. All statutory references herein relate to the Internal Revenue Code of 1954 unless otherwise indicated.↩2. Refills under a new prescription written by a physician for the same drug which was covered by a prior and still refillable prescription of Rexall are not included.↩3. SEC. 167. DEPRECIATION.(a) General Rule. -- There shall be allowed as a depreciation deduction a reasonable allowance for the exhaustion, wear and tear (including a reasonable allowance for obsolescence) -- (1) of property used in the trade or business, or(2) of property held for the production of income.Sec. 1.167(a)-3, Income Tax Regs., provides, in pertinent part, as follows:If an intangible asset is known from experience or other factors to be of use in the business or in the production of income for only a limited period, the length of which can be estimated with reasonable accuracy, such an intangible asset may be the subject of a depreciation allowance. Examples are patents and copyrights. An intangible asset, the useful life of which is not limited, is not subject to the allowance for depreciation. No allowance will be permitted merely because, in the unsupported opinion of the taxpayer, the intangible asset has a limited useful life. No deduction for depreciation is allowable with respect to goodwill.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621777/	Oahu Beach and Country Homes, Limited, a Dissolved Corporation, Pauline E. King, Trustee in Dissolution, Petitioner, v. Commissioner of Internal Revenue, Respondent. Pauline E. King, Transferee, Petitioner, v. Commissioner of Internal Revenue, RespondentOahu Beach & Country Homes, Ltd. v. CommissionerDocket Nos. 27473, 27474United States Tax Court17 T.C. 1472; 1952 U.S. Tax Ct. LEXIS 253; March 12, 1952, Promulgated 1952 U.S. Tax Ct. LEXIS 253">253 Decisions will be entered under Rule 50. Corporation not subject to tax on gain realized on condemnation sale of property made by its stockholder where the corporation had conducted no negotiations for sale prior to liquidation and purchaser had made no commitment prior to distribution by the the corporation to the stockholder. Samuel P. King, Esq., and E. R. Cameron, C. P. A., for the petitioners.E. A. Tonjes, Esq., for the respondent. Arundell, Judge. ARUNDELL17 T.C. 1472">1473 The respondent has determined a deficiency of $ 13,322.45 in the income tax of the petitioner corporation, Oahu Beach and Country Homes, Limited, a dissolved corporation, for the calendar year 1946 and has asserted transferee liability in this amount against the petitioner Pauline E. King, individually, as transferee of the assets of the petitioner corporation. The petitioners have contested this deficiency and, in addition, claim a refund of the $ 4,903.83 paid as corporation income tax for the calendar year 1946.The parties have stipulated that any deficiency in income tax of the petitioner corporation for the calendar year 1946, to the extent of $ 13,322.45, plus interest as provided by law, constitutes a liability of the petitioner, Pauline E. King, as transferee.The principal issue is whether the gain realized on the condemnation sale of land referred1952 U.S. Tax Ct. LEXIS 253">255 to herein as section 1-A was taxable to the petitioner corporation. If the gain is taxable to the petitioner corporation, the alternative issues are whether a part of this gain and the $ 23,789.52 gain realized and reported by the petitioner corporation in 1946 on the condemnation sale of land referred to herein as section 2 was taxable in 1945 rather than 1946 and, further, whether these gains are taxable as ordinary income or capital gain. The petitioners also claim the benefit of a net operating loss carryback deduction in the amount of $ 176 resulting from a net operating loss suffered by the petitioner corporation in 1948.The cases were consolidated for hearing and opinion. All stipulated facts are found as stipulated.FINDINGS OF FACT.Pauline E. King (hereinafter sometimes referred to as Pauline) is the duly constituted and acting trustee for the creditors and stockholders of Oahu Beach and Country Homes, Limited (hereinafter sometimes referred to as the petitioner corporation), a Hawaiian corporation, which was duly dissolved by the treasurer of the Territory of Hawaii on July 3, 1945. The corporation return for the period here involved was filed with the collector of1952 U.S. Tax Ct. LEXIS 253">256 internal revenue, district of Hawaii, at Honolulu.The accounting methods and fiscal years of the petitioner corporation and of Pauline E. King, as trustee for the creditors and stockholders of the dissolved corporation, and as an individual as well, were the cash receipts and disbursements method and the calendar year.17 T.C. 1472">1474 Oahu Beach and Country Homes, Limited, was organized under the laws of the Territory of Hawaii on May 15, 1934. The stockholders of the corporation upon its incorporation were as follows:StockholderSharesSamuel Wilder King96Pauline E. King1Francis Evans1Henry Chock1Marguerite Lino1Total100Samuel Wilder King (hereinafter sometimes referred to as S. W. King) and Pauline E. King are husband and wife. Francis Evans is Pauline E. King's brother. Henry Chock and Marguerite Lino were employees of Samuel Wilder King.The officers and directors of the corporation upon its incorporation were as follows:S. W. KingPresident, treasurer and directorFrancis EvansVice-president and secretary and directorMarguerite LinoDirectorKing remained the president and a director of the petitioner corporation until 1944 at1952 U.S. Tax Ct. LEXIS 253">257 which time Pauline E. King, who theretofore held no office, became the president and a director.The articles of association of the corporation permitted the corporation to engage in any business whatsoever which a corporation could lawfully conduct.The petitioner corporation was organized by S. W. King to purchase, subdivide, and sell a tract of land of approximately 28 acres in Honolulu. From the time this land was sold in 1937 until the purchase in 1940 of land known as the Armstrong Tract, the petitioner corporation was not actively engaged in any operation but was used for the convenience of S. W. King for such minor matters as holding title to certain lots.On July 1, 1940, the petitioner corporation purchased certain land at Pearl City, Oahu, totaling 85.432 acres (hereinafter referred to as the Armstrong Tract) for $ 42,500. All of the Armstrong Tract, with the exception of what is known as section 1-A and part of what is known as section 2, was sold in private sales prior to July 1945. Part of section 2 was leased to the United States (represented by the U. S. Navy) on December 15, 1941. Title to this acreage was subsequently acquired by the U. S. Government in a condemnation1952 U.S. Tax Ct. LEXIS 253">258 proceeding that began on July 1, 1944, and continued until at least the following year. An award of $ 33,610.48 for the taking of this acreage was deposited with the court on May 29, 1945, and on June 15, 1945, the petitioner corporation filed a motion and order for payment of the award and receipted for the award.17 T.C. 1472">1475 An amended, stipulated award of $ 57,400 was filed April 22, 1946. A stipulated judgment thereon was signed April 24, 1946, and on June 6, 1946, Pauline E. King, as trustee, receipted for the additional award of $ 23,789.52.The payments of $ 33,610.48 and $ 23,789.52 received in 1945 and 1946, respectively, were included by the petitioner corporation in determining its statutory net income for the calendar years 1945 and 1946. The entire sum of $ 23,789.52 was reported as a long term capital gain.The U. S. Navy entered upon and used 4.434 of the 12.604 acres comprising section 1-A of the Armstrong Tract from January 17, 1944, and 1.17 of the remaining acres from January 19, 1945. On March 9, 1945, the United States began proceedings for the condemnation of the entire 12.604 acres comprising section 1-A by filing a petition for condemnation in a suit known1952 U.S. Tax Ct. LEXIS 253">259 as Civil No. 551, which was a suit to condemn 111.392 acres of land, including section 1-A.The petition and the motion and order granting immediate possession in Civil No. 551 were filed March 9, 1945. Neither the petitioner corporation, Pauline, nor anyone with an interest in the petitioner corporation was specifically named in the petition.Since some time prior to June 1945, S. W. King, the organizer and manager of the petitioner corporation, was serving as an officer in the U. S. Navy. In the spring of 1945, he was preparing to participate in the planned invasion of Japan and while on leave in Honolulu he and his wife, Pauline, who then held all but 10 shares of the petitioner corporation, decided to liquidate and dissolve the petitioner corporation since at that time nearly all of its holdings had been disposed of. S. W. King also considered this to be a desirable step in his plan to settle his wife's affairs before his departure.Thereafter, on June 12, 1945, appropriate resolutions were passed by the stockholders providing for the liquidation and dissolution of the petitioner corporation. Pursuant to this resolution, section 1-A was deeded on July 11, 1945, by the petitioner1952 U.S. Tax Ct. LEXIS 253">260 corporation to Pauline, who was then the sole stockholder. 1Prior to the time when steps were taken to liquidate and dissolve the petitioner corporation, the board of directors, at a meeting held on December 18, 1944, made the following authorization which was recorded in the minutes:The Secretary, Francis Evans, was authorized to continue negotiations with the Navy re condemnation of the Armstrong Tract on the basis of $ 134,550.00, or not less than $ 130,000.00, for the balance of the Armstrong Tract (excluding the Loko of 3.50 acres, more1952 U.S. Tax Ct. LEXIS 253">261 or less), the offer of the Navy, if any, to be finally 17 T.C. 1472">1476 approved by the Directors. The appraisal of Mr. C. C. Crozier for the Navy amounts to $ 110,000.00. The foregoing values are based as follows:Main sub-division (leased to Navy)23.56 acresC. C. Crozier at $ 2,122 per acre$ 50,000O. B. & C. H. Ltd. at $ 3,000 per acre$ 70,600The property listed as "Tank Area and Adjacent Land on Lehua St." is the property known as section 1-A. The petitioner corporation did not enter into any agreement for the private sale of section 1-A to the Government.On December 14, 1945, a motion for an order to amend the petition for condemnation in Civil No. 551 was filed and allowed. This motion added "Samuel & Pauline E. King" as defendants. The petitioner corporation was not named as a defendant in this condemnation proceeding although the original petition did include as defendants "all other * * * corporations, either known or unknown, who claim to have or own any right, title or interest of any character whatever in said land" which appeared after the specific naming of defendants.On the same day, December 14, 1945, there was filed in the District1952 U.S. Tax Ct. LEXIS 253">262 Court of the United States for the District of Hawaii a Declaration of Taking No. 1 dated November 9, 1945, and Order and Judgment on Declaration of Taking No. 1 dated December 14, 1945, relating to several parcels of land, including the 12.604 acres comprising section 1-A. Also, on December 14, 1945, the sum of $ 25,000 was deposited with the registry of the court for the use and benefit of Samuel and Pauline E. King as compensation for the taking. On December 18, 1945, Samuel E. King and Pauline were served with a summons (which was issued to "Samuel and Pauline E. King" on December 14, 1945) together with the original petition, as amended, and the motion and order of immediate possession and Order and Judgment on Declaration of Taking No. 1.Motion and order for payment of the award by and to Pauline E. King and disclaimer of Samuel W. King were filed on March 1, 1946, at which time Pauline E. King receipted for the $ 25,000.An amended award of $ 30,000 was stipulated by Pauline E. King and the United States on March 5, 1946, filed April 22, 1946, and judgment thereon signed and filed on April 24, 1946. Pauline E. King receipted for the additional award of $ 5,000 on July 11, 1952 U.S. Tax Ct. LEXIS 253">263 1946.Pauline individually paid a capital gains tax for the calendar year 1945 on the long term capital gain that she realized upon the dissolution of the petitioner corporation, which gain she computed by treating the fair market value of section 1-A as a receipt on account of full payment for her stock of the corporation.Pauline E. King, trustee for the creditors and stockholders of the 17 T.C. 1472">1477 dissolved petitioner corporation incurred and paid operating expenses during the calendar year 1948 as follows:Accounting fee$ 175Interest1$ 176No income was realized during the calendar year 1948. The payment of $ 176 was not claimed as a deduction from net income in the corporation's income tax return for the calendar year 1946, nor was the amount allowed by the Commissioner as a deduction from the taxpayer's gross income for the calendar year 1946 in the Commissioner's determination of the taxpayer's net income for the year 1946.OPINION.The principal question is whether the gain on the condemnation sale of land to the Government by the petitioner Pauline E. King in her individual capacity is taxable to the petitioner corporation. This land, known as section 1-A1952 U.S. Tax Ct. LEXIS 253">264 of the Armstrong Tract, was distributed to Pauline as sole stockholder in the complete liquidation of the petitioner corporation.The basic issue has been considered in numerous cases, particularly Commissioner v. Court Holding Co., 324 U.S. 331">324 U.S. 331, and United States v. Cumberland Public Service Co., 338 U.S. 451">338 U.S. 451; see Steubenville Bridge Co., 11 T.C. 789. In the Court Holding Co. case, 2 T.C. 531, we found that the sale had been made and the gains realized by the corporation but, as explained by the Supreme Court in referring to our decision, "There the corporation had negotiated for the sale of its assets and had reached an oral agreement of sale" and also "One thousand dollars already paid to the corporation was applied as part payment of the purchase price." 338 U.S. 451">United States v. Cumberland Public Service Co., supra, at pp. 453-454.There are no similar circumstances in the case before us now. The Commissioner relies on the authorization given by the board of directors of the petitioner corporation which provided that 1952 U.S. Tax Ct. LEXIS 253">265 the secretary "continue negotiations with the Navy re condemnation of the Armstrong Tract." But regardless of this authorization it is clear from the record, considered in its entirety, that the petitioner corporation did not enter into a contract of sale either oral or written, or any other agreement for the private sale of section 1-A to the Government. In fact, instead of acquiring the land by private sale as authorized by 50 U.S. C. A., section 171, the Government resorted to condemnation and filed a petition for the condemnation of section 1-A on March 9, 1945.17 T.C. 1472">1478 Furthermore, the fact that the proceeding for the condemnation of section 1-A began March 9, 1945, which was a few months prior to the dissolution and liquidation of the petitioner corporation, does not warrant the conclusion that the sale by Pauline should be attributed to the petitioner corporation. The filing of the petition, together with the motion and order granting immediate possession, was but a preliminary step in a proceeding which, as explained in detail in our findings of fact, was not terminated until more than one year later. This step was not the result of1952 U.S. Tax Ct. LEXIS 253">266 any preliminary agreement; it represented no offer, no acceptance or any settlement as to terms. In fact, the petitioner corporation was not named as a defendant in the condemnation proceeding except insofar as it was included in the general reference to "all other * * corporations, either known or unknown, who claim to have or own any right, title or interest of any character whatever in said land," which was placed in the petition after the listing of specifically named defendants. Furthermore, no one having an interest in section 1-A was specifically named as a party or served with any pleadings until December 14, 1945, which date was more than 9 months after the petition was filed and more than 5 months after section 1-A was conveyed to the petitioner, Pauline E. King. On that date the petitioner Pauline E. King and her husband were named defendants. The petitioner corporation was never named a party defendant in the proceeding.Nor did this preliminary step in the condemnation proceeding commit the United States to purchase the property. The final disposition remained uncertain and title did not pass prior to December 14, 1945, at which time the declaration of taking was1952 U.S. Tax Ct. LEXIS 253">267 filed and the sum of $ 25,000 was deposited as compensation for the taking, Catlin v. United States, 324 U.S. 229">324 U.S. 229; Moody v. Wickard, 136 F.2d 801; United States v. Sunset Cemetery Co., 132 F.2d 163; Hanson Co. v. United States, 261 U.S. 581">261 U.S. 581. Until that time the United States could have abandoned or discontinued the condemnation proceeding, Danforth v. United States, 308 U.S. 271">308 U.S. 271; Moody v. Wickard, supra;Kanakanui v. United States, 244 F. 923">244 F. 923; Revised Laws of Hawaii, 1945, Title I, chapter 8, section 318; 30 C. J. S., Eminent Domain, section 335, or could have amended its petition by reducing the estate it sought from a fee simple title to a temporary use and occupancy even though it had gone into possession. United Statesv. 5,901.77 Acres of Land, 65 F. Supp. 454">65 F. Supp. 454.For these reasons, we are of the view that there were no continued negotiations culminating in a substantial agreement that was deferred until 1952 U.S. Tax Ct. LEXIS 253">268 a later date, or any other circumstances from which we may conclude that the sale made by the petitioner Pauline E. King should be attributed to the petitioner corporation. Cf. Commissioner v. Falcon 17 T.C. 1472">1479 ., 127 F.2d 277, affirming 41 B. T. A. 1128; Amos L. Beaty & Co., 14 T.C. 52; 338 U.S. 451">United States v. Cumberland Public Service Co., supra.It is not necessary that we decide the alternative issues since the petitioners agreed to abandon them if it were found that the 12.604 acres in section 1-A were sold by Pauline E. King rather than the petitioner corporation.The parties have stipulated that the petitioner corporation incurred operating expenses in the amount of $ 176 in the calendar year 1948 and realized no income in that year. Respondent has raised no argument in opposition to the petitioner's contention that this sum should be deducted from the petitioner corporation's gross income for the calendar year 1946 as a net operating loss carry-back. The petitioner corporation is entitled to this deduction in the amount of $ 176. Section 122 (b) (1), 1952 U.S. Tax Ct. LEXIS 253">269 Internal Revenue Code.Decisions will be entered under Rule 50. Footnotes1. On December 10, 1941, S. W. King, holder of 655 shares in the petitioner corporation, transferred his shares to his son, S. P. King. The remaining 345 shares were held by Pauline. On February 5, 1943, S. P. King transferred 10 shares to Charlotte King McAndrews and 645 shares to Pauline. On June 20, 1945, Charlotte King McAndrews transferred her 10 shares to Pauline. Thereupon and thereafter, Pauline became and remained the sole stockholder in the petitioner corporation.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621778/	APPEAL OF SPENCER PENROSE.Penrose v. CommissionerDocket No. 2982.United States Board of Tax Appeals3 B.T.A. 329; 1926 BTA LEXIS 2703; January 14, 1926, Decided Submitted November 5, 1925. 1926 BTA LEXIS 2703">2703 Letter appealed from held not a deficiency letter. M. C. Elliott and C. C. Hamlin, Esqs., for the taxpayer. A. Calder Mackay, Esq., for the Commissioner. TRAMMEL 3 B.T.A. 329">329 Before PHILLIPS and TRAMMELL. TRAMMELL: This appeal came on for hearing on motion of the Commissioner to dismiss for want of jurisdiction of the Board upon the grounds: (1) That the taxpayer in his petition is not appealing from a deficiency determined subsequent to the enactment of the Revenue Act of 1924; (2) that the letter of February 17, 1925, which is attached to the petition as the deficiency letter, is merely a statement by the Department of its position with respect to the assessment theretofore made and is not a statement of the determination of the Commissioner; and (3) that the petition merely calls for the determination by the Board that the assessment for 1917 is barred by the statute of limitations and does not ask for a determination of the deficiency. The taxpayer, on or about March 15, 1918, filed his return for 1917 showing a tax liability for that year in the amount of $250,546.53, which was duly paid. In December, 1918, the Commissioner assessed1926 BTA LEXIS 2703">2704 additional taxes for 1917 of $55,909.04, which assessment was forwarded to the collector of internal revenue at Denver, who notified taxpayer on February 15, 1919, of the additional assessment. On February 22, 1919, taxpayer filed a claim for the abatement of $55,211.70 of the additional tax assessed and made payment of the balance. The claim for abatement was duly considered, and in September, 1919, taxpayer was notified by the Commissioner that it would be allowed to the extent of $11,188.25 and rejected for $44,023.45. No 3 B.T.A. 329">330 formal certificate of overassessment appears to have been issued. Upon request of the taxpayer the claim for abatement was given further consideration by the Commissioner, and in a letter dated March 7, 1924, the Commissioner advised the taxpayer that the claim for abatement would be rejected for the reason that a reexamination of the return disclosed a tax liability in excess of the amount assessed. In a letter dated March 11, 1924, the taxpayer was advised that a reexamination of the return indicated a liability for 1917 in the amount of $47,305.29 in excess of all sums previously assessed and that, since the five-year period provided in section1926 BTA LEXIS 2703">2705 250(d) of the Revenue Act of 1921 within which assessments of additional tax for 1917 might be made had expired, no assessment of the additional amount of $47,305.29 for that year could be made, unless a waiver was signed consenting to a redetermination of the tax liability, and the taxpayer was advised that he would be given an opportunity to present exceptions to any adjustments made before the additional assessment was made, provided the waiver was filed. In December, 1924, the claim for abatement of $55,211.70 was rejected in full and the collector was notified to collect the amount assessed with interest. The collector thereafter, on January 15, 1925, notified taxpayer of such rejected and demanded payment of such assessment of $55,211.70, with interest in the amount of $27,288. On February 17, 1925, the Commissioner wrote a letter to an attorney, who represented the taxpayer, in response to a letter from such attorney, dated January 22, 1925, and advised him of the basis for the rejection of the claim for abatement. Since this letter is referred to by the taxpayer as the deficiency letter from which the appeal is taken, it is quoted in full as follows: Reference is1926 BTA LEXIS 2703">2706 made to your letter dated January 22, 1925, in regard to the 1917 return filed by Spencer Penrose, Colorado Springs, Colorado. Relative to the deficiency in tax of $47,305.29 of which Mr. Penrose was notified in an office letter dated March 11, 1924, you are advised that since this deficiency was not determined until more than six years from the time that the return was filed and since Mr. Penrose did not choose to sign a waiver or pay the tax, as suggested by this office, the assessment of this amount is barred by the Statute of Limitation. Regarding your question as to whether the Department can collect that portion of the abatement claim, in the amount of $11,188.25 which should be allowed but which is rejected at this time upon the grounds of the taxpayer's liability for additional tax, the assessment of which is now barred by the statute, your attention is called to Law Opinion 1080, Cumulative Bulletin #5, Page 246. In this ruling it states in part that the validity of an assessment depends upon the law and actual facts existing. The amount of the tax depends upon the true statutory net income. Therefore an assessment made by mistake or upon items erroneously included1926 BTA LEXIS 2703">2707 may not be abated or remitted because 3 B.T.A. 329">331 so made if, at the time its validity is passed upon, this office is in possession of evidence which shows that an equivalent or greater amount of tax is properly due in connection with the income upon which the assessment was predicated. The fact that the statute of limitation had run would not affect its existence. This would preclude the Bureau from abating any portion of the additional tax of $55,211.70 for which the abatement claim was filed. The records of this office indicate that the notice received by Mr. Penrose of a tax due amounting to some $80,000.00 represents the deficiency of $55,211.70 which was assessed within the statutory period, plus the interest due thereon as computed in the office of the Collector. Respectfully, (s) C. B. ALLEN, Acting Deputy Commissioner.The above letter is in no sense the determination by the Commissioner of a deficiency in tax. It is merely an explanation to the taxpayer's counsel of the action of the Commissioner theretofore taken. It does not indicate that the Commissioner had reconsidered his former action or that he was at that time determining any tax liability. 1926 BTA LEXIS 2703">*2708 Without passing upon any other jurisdictional question raised, it is sufficient to say that the appeal was not taken within 60 days from the determination of a deficiency by the Commissioner. The letter of February 17, 1925, did not advise the taxpayer of a deficiency in tax. This being true, the Board is without jurisdiction to hear and determine the appeal. The appeal is dismissed.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621779/	SAM PRESLEY, SR., and ESTATE OF LOUISE PRESLEY, Deceased, SAM PRESLEY, SR., Administrator, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent; SAM PRESLEY, SR., Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentPresley v. Comm'rDocket Nos. 1867-70, 5051-70, 4720-71. United States Tax Court T.C. Memo 1979-339; 1979 Tax Ct. Memo LEXIS 189; 38 T.C.M. 1301; T.C.M. (RIA) 79339; August 27, 1979, Filed 1979 Tax Ct. Memo LEXIS 189">189 Held:(1) H and W filed joint Federal income tax returns for 1963 and 1964. (2) Except for $200.00 in 1962 and $468.41 in 1965, H and W did not underreport their taxable income from an illegal casino. (3) H and W are entitled to offset their 1962 and 1963 wagering income from a casino by their 1962 and 1963 wagering losses from H's other gambling activities. (4) H and W failed to prove they incurred gambling losses in 1965. (5) H and W did not have unreported income from the operation of a bar and lounge. (6) H and W did not carry their burden of proving they were entitled to deduct certain automobile expenses. (7) H and W did not carry their burden of proving they were entitled to deduct certain telephone expenses. (8) H and W did not carry their burden of proving they were entitled to deduct certain travel expenses. (9) H and W are not entitled to bad debt deductions for 1964 and 1965 because they failed to prove the debts became worthless in such years. (10) H and W are entitled to claim a dependency exemption for H's sister. (11) W is not relieved of liability for the deficiencies for 1962 and 1965 under the provisions of sec. 6013(e), I.R.C. 1954, but she is not liable 1979 Tax Ct. Memo LEXIS 189">190 for the deficiencies for 1963 and 1964 because the Commissioner did not send her either a joint or separate notice of deficiency. (12) No part of any of the underpayments of tax was due to fraud on the part of either H or W. Roland J. Mestayer, Jr., for the petitioners. Frank Simmons, for the respondent. SIMPSONMEMORANDUM FINDINGS OF FACT AND OPINION SIMPSON, Judge: The Commissioner determined the following deficiencies in and additions to the petitoners' Federal income taxes: Addition to TaxSec. 6653 (b)PetitionerYearDeficiencyI.R.C. 1954 1Sam Presley, Sr.,1962$144,936.09$ 72,468.05and Louise1965106,030.4153,015.21PresleySam Presley, Sr.1963194,092.1797,046.091964206,468.81103,234.40The parties have settled some of the issues. The issues remaining for decision are: (1) Whether the income tax returns signed and filed by Sam Presley, Sr., for 1963 and 1964 were joint Federal income tax returns of both Sam and Louise Presley; (2) whether Sam and Louise had unreported income from the operation of an illegal casino at the Sage Patch; (3) whether Sam 1979 Tax Ct. Memo LEXIS 189">191 and Louise were entitled to a deduction for Sam Presley's other gambling losses in 1962 and 1963 to the extent such losses exceeded his other gambling income; (4) whether Sam incurred other gambling losses in 1965 of at least $4,500; (5) whether Sam and Louise had unreported income frm the operation of a bar and lounge at the Sage Patch; (6) whether Sam and Louise were entitled to deduct certain automobile expenses as business expenses for each of the years in issue; (7) whether Sam and Louise were entitled to deduct certain telephone expenses as ordinary and necessary business expenses for 1962, 1963, and 1964; (8) whether Sam and Louise were entitled to deduct certain travel expenses as ordinary and necessary business expenses while away from home for each of the years in issue; (9) whether Sam and Louise were entitled to a deduction for bad debts for 1964 and 1965; (10) whether Sam and Louise were entitled to claim a dependency exemption for Doris Presley, Sam's sister; (11) whether the estate of Louise Presley is relieved of liability for any of the deficiencies either because Louise qualified as an innocent spouse under the provisions of section 6013(e) or because for 1963 and 1979 Tax Ct. Memo LEXIS 189">192 1964 the only deficiency notice in this case was a separate notice issued to Sam; and (12) whether the petitioners are liable for the additons to tax under section 6653(b) because a portion of the underpayment of taxes for each of the years in issue was due to Sam's fraud with intent to evade tax. FINDINGS OF FACT General FindingsSome of the facts have been stipulated, and those facts are so found. The original petitioners, Sam Presley, Sr., and Louise Presley, were husband and wife, and resided in Biloxi, Miss., at the time they filed their petitins in this case. They filed their Federal income tax returns for the years in issue with the District Director of Internal Revenue, Jackson, Miss. Since the filing of their petitoins, Mrs. Presley has died, and her estate has been substituted as a party. Mr. Presley will sometimes be referred to as the petitoner or Sam, and Mrs. Presley, as Louise. The petitioner was born in 1899. His formal education consisted of completing the first six grades of elementary school and part of the seventh grade. He became a professional gambler in 1933, and he continued in such occupation throughout the years in issue. Issue 1. Joint ReturnFINDINGS 1979 Tax Ct. Memo LEXIS 189">193 OF FACT For 1962, 1965, and for many years prior to 1962, Sam and Louise filed joint Federal income tax returns. For 1967 through 1969, they filed joint Federal and State income tax returns. For 1963 and 1964, the Federal income tax returns filed by Sam listed the taxpayers as "Sam & Louise Presley." On such returns, the filing status box "Married filing joint return (even if only one had income)" was checked, and exemptions for both Sam and Louise were claimed. Both returns had been signed by Sam, and he also signed Louise's name to such returns after securing her oral permission to do so. At the time he signed her name to the 1963 tax return, Louise wasill. On the 1964 Federal income tax return, Sam indicated he had signed Louise's name by adding under her name "By S.P." Sam did not receive a written and signed power of attorney from Louise, and no such instrument was submitted with the 1963 or 1964 tax returns. In his notice of deficiency, the Commissioner determined that Sam and Louise did not file joint Federal income tax returns for 1963 and 1964. OPINION The first issue for decision is whether Sam and Louise filed joint Federal income tax returns for 1963 and 1964. The 1979 Tax Ct. Memo LEXIS 189">194 Commissioner argues that Sam did not follow the requirements in the regulations relating to returns filed and prepared by agents and that, therefore, the returns were not joint. The petitoners argue that because Sam and Louise intended to file joint returns, and because Sam and Louise treated the 1963 and 1964 returns as joint returns, they are joint returns. Under section 6012(a), Sam and Louise were required to file Federal income tax returns. Under the provisions of section 6013(a), they could elect to file a joint return. Section 1.6013-1(a)(2), Income Tax Regs., provides: (2) A joint return of a husband and wife (if not made by an agent of one or both spouses) shall be signed by both spouses. The provisions of paragraph (a)(5) of § 1.6012-1, relating to returns made by agents, shall apply where one spouse signs a return as agent for the other * * * For the years here at issue, section 1.6012-1(a)(5) provided in part: (5) Returns made by agents. The return of income may be made by an agent if the person liable for the making of the return is unable to make it by reason of illness * * * Whenever a return is made by an agent it shall be accompanied by the prescribed power of attorney, 1979 Tax Ct. Memo LEXIS 189">195 Form 935, except that an agent holding a valid and subsisting general power of attorney authorizing him to represent his principal in making, executing, and filing the incom return, may submit a certified copy thereof in lieu of the authorization on Form 935. * * However, in 1973, such regulations were amended to provide in relevant part as follows: (5) Returns made by agents. The return of income may be made by an agent if, by reason of disease or injury, the person liable for the making of the return is unable to make it. * * * Whenever a return is made by an agent it must be accompanied by a power of attorney (or copy thereof) authorizing him to represent his principal in making, executing, or filing the return. A form 2448, when properly completed, is sufficient. In addition, where one spouse is physically unable by reason of disease or injury to sign a joint return, the other spouse may, with the oral consent of the one who is incapacitated, sign the incapacitated spouse's name in the proper place on the return followed by the words "By Husband (or Wife)", and by the signature of the signing spouse in his own right, provided that a dated statement signed by the spouse 1979 Tax Ct. Memo LEXIS 189">196 who is signing the return is attached to and made a part of the return stating-- (i) The name of the return being filed, (ii) The taxable year, (iii) The reason for the inability of the spouse who is incapacitated to sign the return, and (iv) That the spouse who is incapacitated consented to the signing of the return. Here, Sam testified that Louise was ill when he signed her name to the 1963 return, and that he secured her oral permission to sign both the 1963 and 1964 returns. However, he did not have, nor did he submit with such returns, a written power of attorney authorizing him to sign them. In addition, he did not submit with the tax returns the dated and signed statement required by the present regulations, explaining why he signed her name. Therefore, whether we look to the old or new regulations, Sam did not meet their requirements. Yet, it has long been settled that the absence of the signature of one spouse does not prevent a return from being a joint return, where it is clear that the spouses intended to file a joint return. Estate of Temple v. Commissioner,67 T.C. 143">67 T.C. 143, 67 T.C. 143">164 (1976); Estate of Campbell v. Commissioner,56 T.C. 1">56 T.C. 1, 56 T.C. 1">12 (1971); Hennen v. Commissioner,35 T.C. 747">35 T.C. 747, 35 T.C. 747">748 (1961). 1979 Tax Ct. Memo LEXIS 189">197 Whether Sam and Louise intended to file joint income tax returns for 1963 and 1964 is a question of fact to be resolved on the basis of all the facts and circumstances. 56 T.C. 1">Estate of Campbell v. Commissioner,supra.The petitioners bear the burden of proof on this issue, and based on all of the evidence, we conclude that they have met their burden. The evidence establishes that both returns were filled out as joint returns, and that prior and subsequent to 1963 and 1964, Sam and Louise filed joint income tax returns. Sam acknowledges that he signed the returns, but it is undisputed that he secured Louise's oral permission to do so. Accordingly, we hold that the 1963 and 1964 returns were the joint Federal income tax returns of Sam and Louise Presley. Issue 2. Unreported Casino IncomeFINDINGS OF FACT During the years, in issue, Sam was the owner of a business, known as the Sage Patch, located on the Alabama-Mississippi State line. The front room of the Sage Patch was used as a bar and louge, and the back room, which was completely seprate from the front room, was used to operate an illegal gambling casino. The Sage Patch had toilet facilities, as well as a small room off the back 1979 Tax Ct. Memo LEXIS 189">198 room used as a business office. During the years in issue, the casino was managed and operated by the petitioner, his two nephews, Charles Raymond Presley (Ray) and Pat Presley (Pat), and Morris Machefsky (Morris). The casino had several other employees, including dealers and, at times, a cashier. It was generally open 7 days a week from 7:00 p.m. until the players left, which was usually between 3:00 and 5:00 a.m. During the years in issue, a patron of the casino could play blackjack, dice, and roulette. Though the casino had only one roulette wheel during the years in issue, it had two dice tables, and two or three blackjack tables. However, most of the time, only two or three tables were in use. At all tables, the players were required to gamble with chips purchased at the Sage Patch. At the blackjack table, the chips were purchased from the dealer, who put the money through a slot which was on the top of the blackjack table and which led to a box attached to the underside of such table. At the dice tables, a player purchased chips by giving him money to the dealer, who passed it to the "box man," the person at such table who was in charge of a wooden money box. The box 1979 Tax Ct. Memo LEXIS 189">199 man counted the money and placed it in a box which was either on top of the table or attached to the underside of the table just below a slot in the table. Then, the box man instructed the dice dealer to give the player an equivalent amount of chips. During the earlier years, a player at any of the tables cashed out, i.e., exchanged chips for an equivalent amount of cash, by bringing his chips to a dealer at a dice table. The dealer counted the chips and passed them to the box man, who also counted them and then gave the player an equivalent amount of cash. The box man made a notation on a pad of paper recording the amount of the cashout. In later years, a cashier was employed to cashout players. At the beginning of the evening, the cashier was given a fixed sum of money. A player wishing to cashout brought his chips to the cashier, who counted them and gave the player an equivalent amount of cash. On occasion, the cashier also cashed a check of a player when instructed to do so by Same, Ray, Pat, or Morris. The cashier also kept irregular records on a ledger sheet of some of the cashout transactions. At the end of the evening, the cashier had to have cash, checks, and chips 1979 Tax Ct. Memo LEXIS 189">200 equivalent to the amount of cash that she started with at the beginning of the evening. Generally, the cashier was closed out either by Pat or Ray. At the conclusion of each evening's business, the boxes under the blackjack tables, and the boxes on or under the dice tables were taken to the office of the casino and the contents thereof were counted. As a means of checking up on his employees and allowing them to protect themselves, Sam insisted that a minimum of two people be present when the nightly proceeds were counted. Frequently, three or even four people were present when the money was counted. Those generally present when the proceeds were counted were Ray, Pat, Morris, and on occasion, Ivan A. Wixon (Ivan). Since Sam frequently left the casino prior to closing, he participated in the counting only occasionally. Sometime during the 1950s, Sam decided to adopt accounting procedures for the casino which would accurately reflect his income. Accordingly, Sam adopted the practice of having either Ray or Pat summarize on paper the casino's daily gambling activites. The daily summary was called a "daily report" and the typical report had the following entries: Name Date Cash on 1979 Tax Ct. Memo LEXIS 189">201 hand to open $ CASH RECEIPTS: Chips Sold $ Total Cash Receipts $ Total Cash on hand & Cash Receipts $ CASH DISBURSEMENTS: Chips Cashed $ Actual Cash Payroll Utilities Total Cash Disbursements $ Cash on hand at close $ Remarks: Manager Generally, nothing was written in the "Name" entry, but the daily report was always dated. In the line "Cash on hand to open," there was entered the amount of the casino's bankroll, i.e., the accumulated and undistributed profits at the beginning of the day's play. The bankroll was considered the working capital of the casino: a portion of it was kept in a safety deposit box, a portion was kept by the cashier to cashout players, a portion was kept in one of the boxes, and the remainder was kept on the person of one of the employees at the casino, usually Morris, in case extra cash was need to cashout players. Under "Cash Receipts," the first entry was made on the line "Chipa Sold." Such amount reflected the dollar amount of chips sold for cash during the evening, and it was computed by adding the amount of cash in the boxes at the end of the evening to the dollar amount of chips cashed out during the course of the evening and by subtracting any amounts 1979 Tax Ct. Memo LEXIS 189">202 placed in the boxes from the bankroll. The amount of chips cashed out was computed from the notations that were made by the boxman at the time of the cashouts, and the notations were destroyed sometime thereafter. The chips sold entry did not include chips that were purchased with checks by players. On the blank line directly below "Chips Sold," the word "Collected" or "Collections" and a dollar amount were handwritten on some of the daily reports. Such entry represented the casino's accounting procedure for checks. A player at the casino could purchase chips with a personal or business check if approved by either Pat, Ray, Sam, or Morris. At the end of the evening when the nightly proceeds were being counted, the checks received that day were not included in the daily report, but each check was listed on a ledger sheet containing the maker and the amount of the check. Every few days, the checks were taken to the Merchants & Marine Bank in Pascagoula, Miss. (the bank), by either Pat, Ray, or Sam and presented for collection. The person who endorsed the checks generally took them to the bank. Under an arrangement Sam had with the bank, all of the checks were taken to the head 1979 Tax Ct. Memo LEXIS 189">203 teller, who cashed them. In addition, checks which had been cashed at the bank on prior occasions and which had been dishonored for one reason or another were repurchased from the bank for cash. Upon returning to the casino, such person had to produce cash and dishonored checks equal to the dollar amount of checks which he had presented and cashed at the bank that day. The net amount of the checks cashed, i.e., checks presented and cashed minus dishonored checks repurchased, was treated as a cash item and entered on the daily report as collections on the day of the banking transaction. A check which had been cashed and not dishonored was marked off the ledger sheet. The sum of "Chips Sold" and "Collected" equalled the next entry, "Total Cash Receipts." Cash on hand to open was then added to total cash receipts to arrive at the next entry "Total Cash on hand & Cash Receipts." The next portion of the daily report recorded "Cash Disbursements." In the line "Chips Cashed," there was entered the amount paid out by the casino to cashout players. In the line "Actual Cash Payroll," there was entered the weekly wages paid to employees of the casino, including Morris, Pat, and Ray. In the 1979 Tax Ct. Memo LEXIS 189">204 line "Utilities," there was entered the operating expenses of the casino, such as electric, gas, telephone, bookkeeping, social security taxes, withholding taxes, dice, charity, and maintenance. The sum of all of the cash disbursements equalled the next entry, "Total Cash Disbursements. " By subtracting total cash disbursements from total cash on hand and cash receipts, "Cash on hand at close" was computed. Such amount also represented the next day's cash on hand to open. Sam, as owner of the Sage Patch, occasionally declared a "dividend" when the casino's bankroll became sufficiently large. Under his employment arrangements with Ray, Pat, and Morris, he agreed to pay them a weekly wage and to give them a percentage of the profits while they worked at the casino. Pat, ray, and Morris were simply employees of Sam; they did not have any writen agreement with Sam, and they were not required to make any capital contribution to be entitled to a percentage of the profits. Sam determined how much to pay his employees and how the profits were to be divided. Sam generally received between 70 and 75 percent of the profits, and the rest was split among Pat, Ray, and Morris.On the days that 1979 Tax Ct. Memo LEXIS 189">205 dividends were declared, the amount of the dividend was subtracted from the "Cash on hand at close" to reflect the decrease in the operating capital of the casino.Sam seldom counted money at the end of the evening, he never filled out a daily report, and he only occasionally took the checks to the bank. The daily reports were relied on by Sam, Pat, Ray, and Morris in dividing the profits. A check from the Whiteney National Bank of New Orleans, La., dated July 1, 1965, in the amount of $468.41 to Reco Construction Co. was endorsed by Louise. She received the check from Sam, and on July 13, 1965, she deposited it in her account at the Gulf National Bank, Gulfport, Miss. On March 9, 1962, Louise deposited in her account at the Hancock Bank, Gulfport, Miss., a check dated March 6, 1962, in the amount of $200. Louise also received this check from Sam. During the mid-1960s, John E. Montgomery, a special agent in the Intelligence Division of the IRS, audited and investigated the Presley's Federal income tax returns for the years in issue.In conducting this investigation, he was assisted by revenue agent Robert E. Waterbury and special agent James R. Kelly. At the outset of the investigation, 1979 Tax Ct. Memo LEXIS 189">206 Sam was asked to produce all of his books and records. At the beginning of the audit, Sam provided them with the daily reports for 1962, 1963, and 1964, but he did not produce the daily reports for 1965 during the audit. These were the only records Sam turned over to the agents. None of the underlying records were made available to the agents. As part of theinvestigation, all three agents, with authorization from Sam, examined certain records at the bank. Their purpose was to search the bank records on specific dates for checks endorsed by Sam, Pat, Ray, Morris, or Louise. Upon finding on the bank's microfilm records a check endorsed by any of such persons, the agents made a printout of the front and back of the check. The agents printed on such copies the day on which, according to the bank's records, the check had been presented for collection at the bank. Thereafter, the agents contacted many of the markers of the checks and asked why they had drafted the check and if they had any additional checks which had endorsed by Sam, Pat, Ray, Morris, or Louise. Then, for each of the years in issue, Messrs. Montgomery and Waterbury examined the tellers' cash books for certain designated 1979 Tax Ct. Memo LEXIS 189">207 dates, usually Mondays, searching for dishonored checks which had been picked up by someone from the casino. Upon finding such a check, they copied down the date it had been picked up, by whom, and the amount of the chieck. The revenue agents collated and summarized in their work papers the checks cashed, the dishonored checks retrieved, and the amount reported as collections on specific dates as follows: TotalTotal BadCollectionChecksChiecksAmount InDateCashedRetrievedDaily Reports19621/2 $ 616.13 $ 750.001/221,516.371,619.001/29450.002/51,498.002,819.002/19635.482/23277.57 $ 225.003/26745.35525.004/23564.281,030.005/28868.65665.005/29187.00187.007/5198. 01338.007/30785.00635.008/13576.00651.008/15200.009/6300.0050.009/171,933.51755.0010/8 2,150.30350.001,733.0010/291,843.071,788.0011/2450.00100.00362.0011/7547.67975.0011/121,44 1.201,694.0011/191,817.07225.00862.0011/262,233.51300.001,827.0012/31,452.19400.001,072.0012/18918.30970.0077.00$24,204.69$4,175.00$18,829.0019631/7$ 3,478.45 $ 10.00$ 1,986.001/141,140.211,571.001/21672.401,742.001/281,568.753,693.002/41,951.51280.001,672.002/112,575. 20335.002,574.002/183,311.5775.001,736.003/41,788.14620.00663.003/112,305.75825.002,216.003/18 485.93358.003/251,486.421,061.004/11,720.68727.004/8706.02200.004/15988.73150.00903.004 /22866.351,026.004/292,892.82440.002,601.005/61,573.26300.001,881.005/138,245.28550.003,912.0 06/31,593.81500.001,504.006/201,390.87100.001,206.007/82,673.462,763.007/9300.00152.2046.00 7/22629.76400.00670.007/296,002.945,810.009/39,837.398,404.009/51,500.009/92,841.329/23331. 40356.0010/11654.291,010.0011/14500.0050.0011/26697.19150.00647.0012/21,943.931,673.0012/9 1,596.48310.001,125.0012/132,162.022,292.0012/161,695.833,045.0012/231,615.18300.001,397.0012/271,110.001,110.0012/304,932.535,052.0012/31550.00105.00545.00$82,315.87$6,862.20$67,967.0019641/13$ 3,448.73$ 3,200.00$ 3,398.001/17405.61550.0035.001/311,390.00330.001,140.002/242,629 .55930.003,765.003/324.003/9280.0012,139.003/1215,100.0015,100.003/26500.008.003/271,000.00 3/301,733.131,954.004/4200.004/15490.001,812.004/221,500.00115.00560.004/272,792.462,544. 005/8725.14800.005/22420.00400.005/251,257.161,505.006/450.006/5780.204,067.006/11383.00 570.006/12145.0021.04380.006/23650.007/8737.50900.007/10782.00250.001,063.0010/9994.903,120.0 010/24200.0011/23,160.22177.0011/31,571.003,707.0011/30935.0012/71,362.50772.531,190.0012/43 ,036.89153.005,116.0012/18165.6065.0012/21636.5380.001,754.0012/22703.91888.0012/282,247.882,513.00$52,437.91$12,376.57$64,695.001979 Tax Ct. Memo LEXIS 189">208 In his answer, the Commissioner determined, based on the agents' workpapers, that the petitioner had unreported income from checks as follows: Collected AmountsLess TotalShown InTotal ChecksBad ChecksUnreportedDateDaily ReportsCashedRetrievedIncome19621/29 $ 450.00 $ 450.002/19635.48635.482/23277.57 $ 225.0052.573/6Checks deposited to Mrs. Sam Presley, Sr., acct.200.003/26745.35525.00220.355/28665.00868.65203.657/30635.00785.001 50.008/15200.00200.009/6300.0050.00250.009/17775.001,933.511,158.5110/81,733.002,150.30 350.0067.3010/291,788.001,843.0755.0711/19862.001,817.07225.00730.0711/261,827.002,233.54300.00106.54$ 8,285.00$14,239.54$1,675.00$4,479.0019632/18$ 1,736.00$ 3,311.57 $ 75.00$ 1,500.573/4663.001,788.14620.00505.143/18358.00485.93127.933/251,061.001,486.42425.424/1727.001,720.6899o.684/8706.02200.00506.025/133,912.008,245.28555.003,778.286/201,206.001,390.87100.0084.8 77/946.00300.00152.20101.807/295,810.006,002.94192.949/38,404.009,837.391,433.399/51,500 .001,500.009/92,841.322,841.3211/14500.0050.00450.0012/21,673.001,943.93270.9312/91,125.001,596.48310.00161.48$26,721.00$43,656.97$2,062.20$14,873.7719643/3 $ 24.00 $ 24.003/26500.00 $ 8.00492.003/271,000.001,000.004/4200.00200.004/22 $ 560.001,500.000115.00825.004/272,544.002,792.46248.466/450.0050.006/23650.00650.0010/24200.00200.0011/23,160.00177.002,983.2211/30935.00935.0012/1865.00165.00100.00$ 3,169.00$11,117.18 a1979 Tax Ct. Memo LEXIS 189">209 $ 300.00$7,708.0019657/1Checkdeposited to Mrs. Sam Presley, Sr., acct. $ 468.41The agents also audited the daily reports for 1962, 1963, and 1964. Based on their entire investigation, they concluded that the operating expenses of the casino, as reflected in the daily reports, were reasonable and that Sam actually incurred such expenses. They also determined that Sam had receipts in the amounts indicated on the "Chips Sold" entries. For 1965, they projected receipts and expenses based on the 1962 through 1964 daily reports since the 1965 daily reports were not then available to them. In his original report, Mr. Waterbury proposed to allow all of the cash disbursements reflected on the daily report each day to the extent such disbursements were not in excess of the daily cash receipts. However, on the days cash disbursements exceeded cash receipts, he proposed to disallow the daily excess losses. In the notices of deficiency for 1962, 1963, and 1965, the Commissioner adopted the conclusion of the agents, except that for each of such years, only $100,000 of the claimed chips cashed was disallowed. The casino income, including income from the operation of the bar and lounge, was recomputed as follows: 1979 Tax Ct. Memo LEXIS 189">210 Item196219631965Gross receipts: Sage Patch casino$743,912.00$738,921.00$1,178,535.75Bar profits8,851.219,045.6514,572.89Unreported gamblingreceipts4,479.5414,873.77468.41Total Sage Patchincome$757,242.75$762,840.42$1,193,577.05Expenses: Chips cashed488,357.00474,240.00819,629.83Other expenses a97,120.00107,835.10145,805.93Total expenses$585,477.00$582,075.10 $ 965,435.76Net profit$171,765.75$180,765.32 $ 228,141.29Sage Patch incomeper return ad-justed for depre-ciation and ac-counting expenses55,058.2569,340.9052,543.11Understatementof income$116,707.50$111,424.42 $ 175,598.18For 1964, the Commissioner recomputed the petitioner's income from the Sage Patch casino by disallowing on a daily basis all cash disbursements in excess of cash receipts. The following is a summary of the Commissioner's reconstruction of the petitioner's income from the casino and the bar: Gross receipts$933,198.00Less: Payouts and chips cashed728,178.00Net$205,020.00Plus: Net daily loss disallowed222,167.00Net wager income$427,187.00Add: Bar profits12,027.07Unreported gambling receipts7,708.18Total Sage Patch income$446,922.25Other expenses a1979 Tax Ct. Memo LEXIS 189">211 125,392.10Net profit$321,530.15Sage Patch income per return(adjusted for depreciationand accounting expense)74,144.90Unreported Sage Patch income$247,385.25In amended answers, the Commissioner adjusted the petitioner's income for 1962, 1963, and 1965 by disallowing daily cash disbursements to the extent they exceeded daily cash receipts. In addition, since the Commissioner had access to the daily reports for 1965 prior to filing the amended answer, he adjusted the actual figures to reflect the amounts in the daily reports, and he abandoned the projected figures. The following is a summary of the adjustments which increased the deficiencies and additions to tax for 1962 and 1963 and decreased such amounts for 1965: Item196219631965Gross receipts$743,912.00$738,921.00$1,031,521.00Less: payout and chips588,357.00574,240.00787,070.00Net$155,555.00$164,681.00 $ 244,451.00Plus: net daily lossdisallowed153,135.00177,042.00119,840.00Net wager income$308,690.00$341,723.00 $ 364,291.00Add: bar profit8,851.219,045.6514,572.89unreported gam-bling income4,479.5414,873.77468.41Total Sage Patchincome$322,020.75$365,642.42 $ 379,332.30Minus: other expenses97,120.00107,835.10195,803.30Net profit$224,900.75$257,807.32 $ 183,529.00Sage Patch incomeper return adjustedfor acconting anddepreciationexpenses55,058.2569,340.9052,543.11Understatement of$169,842.50$188,466.42 $ 130,985.89incomeOPINION 1979 Tax Ct. Memo LEXIS 189">212 The issue for decision is whether Sam and Louise had unreported income from the operation of the casino. In the deficiency notices, the Commissioner in effect took the position that Sam's method of accounting for the profits and losses of the casino, as reflected in the daily reports, did not accurately reflect the casino's income. The Commissioner maintains that the daily reports of the casino are not adequate records within the meaning of section 1.6001-1(a), Income Tax Regs., which imposes on all taxpayers the duty of maintaining "permanent books of account or records * * as are sufficient to establish the amount of gross income, deductions, credits, or other matters required to be shown by such person in any return of such tax or information." Schooler v. Commissioner,68 T.C. 867">68 T.C. 867, 68 T.C. 867">870-871 (1977). Accordingly, the Commissioner reconstructed the casino income under section 446(b), which provides that "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, does clearly reflect income." In his deficiency notices, 1979 Tax Ct. Memo LEXIS 189">213 the Commissioner took a two-pronged approach to reconstructing the petitioner's income from the casino: one prong dealt with the deductions claimed for "Chips Cashed," and the other prong dealt with amounts reported as "Collected." As to the deductions for chips cashed, the Commissioner, in his deficiency notices, reconstructed the casino income for 1962, 1963, and 1965 by simply disallowing $100,000 of deductions claimed for chips cashed. In the notice of deficiency for 1964, and in amended answers for 1962, 1963, and 1965, the Commissioner reconstructed the casino's income by disallowing, on a daily basis, losses to the extent they exceeded winnings. On the days that daily winnings exceeded daily losses, the Commissioner allowed such losses. The amendments to the answers increased the deficiencies for 1962 and 1963 and decreased the deficiency for 1965. Under certain circumstances, the disallowance of daily net gambling losses is not an arbitrary, erroneous, or unreasonable method of reconstructing income. Stein v. Commissioner,322 F.2d 78 (5th Cir. 1963), affg. a Memorandum Opinion of this Court; Plisco v. United States,306 F.2d 784 (D.C. Cir. 1962), cert. denied 371 U.S. 948">371 U.S. 948 (1963); 1979 Tax Ct. Memo LEXIS 189">214 Green v. Commissioner,66 T.C. 538">66 T.C. 538, 66 T.C. 538">544 (1976). Such method is based on the theory that the claimed winnings are an admission against interest and the claimed losses are self-serving declarations which must be proved by verifiable data. 66 T.C. 538">Green v. Commissioner,supra.The amount of losses sustained presents an issue of fact to be decided on the basis of all the facts and circumstances. 68 T.C. 867">Schooler v. Commissioner,supra at 869; 66 T.C. 538">Green v. Commissioner,supra at 545. As a general rule, the deficiency determinations of the Commissioner are presumptively correct ( Welch v. Helvering,290 U.S. 111">290 U.S. 111, 290 U.S. 111">115 (1933)), and the petitioner bears the burden of proving otherwise (Rule 142, Tax Court Rules of Practice and Procedure2; 66 T.C. 538">Green v. Commissioner,supra at 544). However, where the Commissioner pleads in his answer "new matter, increases in deficiency, and affirmative defenses," he bears the burden of proving such allegations. Rule 142(a). Here, the parties agree that the Commissioner bears the burden of proof as to the increases in the deficiencies for 1962 and 1963, and that "the decrease in the deficiency for 1965 constitutes new matter under T.C. Rule 142(a) which shifts the burden to respondent 1979 Tax Ct. Memo LEXIS 189">215 for that year, but only to the extent of the ground for the decrease." Accordingly, as to the first $100,000 of losses disallowed in 1962 and 1963 and as to the losses for 1964 disallowed in the notices, the petitioners bear the burden of proof, and as to the remainder of casino losses disallowed for 1962 and 1963 and the new matter for 1965, the Commissioner bears the burden of proof. The Commissioner concedes that the daily reports accurately reflect the number of chips sold; that they accurately reflect the "actual cash payroll"; and that they accurately reflect the other operating expenses of the casino. In addition, the Commissioner does not challenge the credibility of the witnesses, nor does he contend that the daily reports were "fudged." To establish the taxable income of the casino, exclusive of the checks, the petitioners presented the testimony of San, Pat, Ray, and Ivan, and we found their testimony to be consistent, credible, generally unequivocal, and reliable. The Commissioner's basic objection is that the petitioners have not substantiated the "chips cashed" 1979 Tax Ct. Memo LEXIS 189">216 entry to his satisfaction. However, in our view, the evidence presented at trial convincingly establishes that the casino was operated in a businesslike manner and that the daily reports, which were filled out at the end of each evening's activities, constitute a clear, systematic, and consistent record of the gambling activities throughout the years in issue. They were always prepared with two or more people present, and Sam used them to divide the profits and to prepare his tax returns for the years in issue. See 66 T.C. 538">Green v. Commissioner,supra at 546. The fact that the persons generally present at the counting each stood to share in the profits provided each person with an interest for assuring an accurate counting; and the presence of several of them meant that each could check on the accuracy of the other. Although the records containing the notations as to the amount of chips cashed out each day have not been preserved, the testimony consistently establishes that such records were available for the daily counting and were used for such purpose. Moreover, since the amount of chips sold each day was computed by adding the amount of cash in the boxes at the end of the day to the 1979 Tax Ct. Memo LEXIS 189">217 amount of chips cashed as revealed by the notations made at the time, any error in overstating the amount of chips cashed would cause a corresponding increase in the amount of chips sold, and the error would not affect the net profit or loss for the day. Thus, whether we look at the daily net winnings or losses, or whether we look at the individual entries which comprise such figures, we are satisfied that the daily reports accurately reflect the income and expenses of the casino. The Commissioner's reliance on Stein v. Commissioner,supra, and Plisco v. United States,supra, is misplaced since both cases are factually distinguishable. The taxpayer in Stein was a professional gambler who engaged in many gambling activities, including poker, dice, gin rummy, and betting on sports events. His method of accounting for his gambling transactions was to carry two or three bankrolls in different pockets: one for his gambling, one for his partnership gambling, and one for his personal expenses. He allegedly counted such bankrolls at the beginning of each day, and then conducted his transactions out of the appropriate pocket during the day. At the end of the day, he counted the bankrolls 1979 Tax Ct. Memo LEXIS 189">218 in each pocket and then wrote down on napkins, matchbook covers, soap wrappers, or anything else that was available, the amount of his daily winnings or losses. Such records were allegedly kept in a drawer and at the end of the year, totaled, summarized, and then destroyed. At the trial, the taxpayer relied on the summarized records, supported only by his testimony as to the method of their preparation and not supported by any daily systematically kept records, to prove his gambling gains and losses. These records were found on the whole to be unreliable and the truthfulness of the taxpayer's testimony was also questioned. In Plisco, the Commissioner's disallowance of daily net losses was sustained because the court found that the taxpayer's records were summaries of the original records which had been destroyed and were not reliable. In both of these cases, the taxpayers failed to carry their burden of proving the amount of losses they had incurred, whereas here, we are convinced that the casino paid out substantial sums to redeem chips, and that the daily reports accurately reflect such amounts. See Green v. Commissioner,66 T.C. 538">66 T.C. 545-546. On brief, the Commissioner also 1979 Tax Ct. Memo LEXIS 189">219 seems to be arguing that the excess daily losses can be disallowed under section 165(d). However, it is settled that Sam and Louise are entitled to net their gambling winnings and losses on a yearly basis. Humphrey v. Commissioner,162 F.2d 853 (5th Cir. 1947), affg. on this issue a Memorandum Opinion of this Court, cert. denied 332 U.S. 817">332 U.S. 817 (1948); Jennings v. Commissioner,110 F.2d 945 (5th Cir. 1940), cert. denied 311 U.S. 704">311 U.S. 704 (1940); Offutt v. Commissioner,16 T.C. 1214">16 T.C. 1214 (1951); Joseph v. Commissioner,43 B.T.A. 273">43 B.T.A. 273 (1941). The Commissioner also determined that Sam and Louise had unreported income from checks in the amounts of $4,479.54 for 1962, $14,873.77 for 1963, $7,708.18 for 1964, and $468.41 for 1965. Such amounts were based on the Commissioner's conclusion that Sam and Louise had neglected to include such amounts as "collections" on the daily reports. 31979 Tax Ct. Memo LEXIS 189">220 The Commissioner's determination on this issue is presumptively correct, and the petitioners bear the burden of proving the error in such determination. 290 U.S. 111">Welch v. Helvering,supra.To determine whether the petitioners have carried their burden of proving the error in the Commissioner's determination, we must analyze and weigh all of the evidence. On the one hand, the petitioners presented persuasive evidence detailing how the casino was operated and the accounting procedures followed with respect to the checks. On the other hand, the Commissioner presented the testimony of the agents who had audited and investigated the Presley's returns to support his determination that Sam and Louise had unreported income from checks. After carefully analyzing the Commissioner's method of reconstructing the petitioners' income, we are convinced that such method is not reliable. Based on the agents' workpapers, 1979 Tax Ct. Memo LEXIS 189">221 the Commissioner, in his answers, determined that on 13 days in 1962, 16 days in 1963, and 12 days in 1964, the amount Sam reported as collected was less than the amount he should have reported. However, the workpapers also indicate that on many of the days, Sam reported substantially more income than he should have. In the following table, there is set forth the number of days investigated by the agents for each of the year in issue, and their conclusions as to whether Sam over, under, or correctly reported his income for such days: 196219631964(1) Correctly reportedincome111(2) Over reported income132120(3) Under reportedincome111714In addition, the following summary demonstrates that if the agents' results are annualized, Sam and Louise had substantially less unreported income from checks for 1962 and 1963 than the Commissioner determined, and they substantially over reported their income from checks for 1964: Collections Deter-Collections onUnreportedYearmined by AgentsDaily ReportsIncome1962$20,029.69$18,829.00$ 1,200.69196375,453.6767,967.007,486.67196440,061.3464,695.00(24,633.66) There are several possible explanations for the differences between the amounts shown as collections 1979 Tax Ct. Memo LEXIS 189">222 in the daily reports and the agents' computations. For example, the agents could have incorrecty transcribed the date on the checks; they could have incorrectly transcribed the dates or amounts from the tellers' cash books; they could have missed several bad checks completely; or perhaps Sam adjusted some of the entries to reflect a negative collection amount on a prior day. In addition, the agents did not know when the tellers made their entries in the cash books, or whether a check had to be received by a certain time each day to be recorded as cashed that day. Regardless of the explanation of the differences, the facts remain that the Commissioner's method of reconstructing the petitioners' income was clearly misleading and erroneous and that the petitioners presented substantial evidence that they properly accounted for the checks. We are convinced that the error lies in the Commissioner's method of reconstructing the petitioners' income and not in Sam's daily reports. At the trial, the Commissioner sought to introduce into evidence the agents' summaries of the tellers' cash books, copies of the checks cashed (exclusive of the checks admitted by stipulation), and the agents' 1979 Tax Ct. Memo LEXIS 189">223 work-papers. On the basis of hearsay, the petitioners objected to the admission of the copies of such checks to the extent the Commissioner relied on them and the statements of the makers to prove that the checks were negotiated at the Sage Patch and the date of such negotiation. The petitioners also objected to the admission of the agents' summaries of the tellers' cash books based on the best evidence and hearsay rules. It is clear that the agents' handwritten date notations on the checks, their testimony as to where the checks were negotiated, and their handwritten transcriptions of the tellers' cash books all violate the hearsay rule if such evidence were admitted for the truth of the matter asserted therein. Rules 801(c), 802, 804, Federal Rules of Evidence.In addition, the handwritten transcriptions of the tellers' cash books do not constitute either an original or duplicate of such records and, therefore, are not admissible to prove the contents of such books. Rules 1001(3) and (4), 1002, Federal Rules of Evidence. However, it has long been the rule that the Commissioner need not rely solely on admissible evidence for his deficiency determination ( Suarez v. Commissioner,58 T.C. 792">58 T.C. 792, 58 T.C. 792">817 (1972); 1979 Tax Ct. Memo LEXIS 189">224 Rosano v. Commissioner,46 T.C. 681">46 T.C. 681, 46 T.C. 681">687 (1966)), and where the petitioners are questioning the reasonableness of such determination, the Commissioner may introduce evidence as to how he went about computing such deficiency. Weimerskirch v. Commissioner,596 F.2d 358 (9th Cir. 1979), revg. on another issue 67 T.C. 672">67 T.C. 672 (1977); Avery v. Commissioner,574 F.2d 467, 468 (9th Cir. 1978), affg. per curiam a Memorandum Opinion of this Court. Such evidence is admissible only to show how the deficiency was computed, and unless it satisfies the general requirements for admissibility, it may not be used for other purposes. As to the two checks Louise deposited in her bank account, the evidence establishes that they were given to Louise by Sam, and the Commissioner determined in his deficiency notice that they represented unreported income from the casino. The Commissioner's determination is presumptively correct, and the petitioners have the burden of proving otherwise. Sam's testimony respecting such checks lacked specificity, and he had difficulty recalling exactly what happened with respect to such checks. Though we understand that memories fade over the years, Sam's testimony is insufficient 1979 Tax Ct. Memo LEXIS 189">225 to prove the checks were not income during 1962 and 1965. In summary, based on all the evidence, we conclude that the petitioners have carried their burden of proving that the "chips cashed" and "collections" entries in the daily reports properly reflected the income of the casino for the years in issue; that the Commissioner has not carried his burden of proving the petitioners are liable for the increased deficiencies for 1962 and 1963; that the Commissioner has not carried his burden as to the new matter; and that the petitioners failed to prove the two checks given to Louise by Sam were not unreported income of the casino. However, the parties have conceded that there were minor mathematical errors in the computation of income for each of the years in issue. These adjustments should be given effect in the computations under Rule 155. Issue 3. Other Gambling Income - 1962 and 1963FINDINGS OF FACT On their 1962 Federal income tax return, Sam and Louise claimed an "In & around Mobile, Ala. (Loss)" in the amount of $18,485.00, and on their 1963 tax return, they claimed a "Hotel (Loss)" in the amount of $24,070.00. In addition to the operation of the casino, Sam regularly engaged 1979 Tax Ct. Memo LEXIS 189">226 in other gambling activities outside the casino, and both of such losses resulted from Sam's gambling activities outside the casino. Sam had a small pocket notebook in which he contemporaneously recorded all of his winnings and losses from his gambling activities outside the casino. The following is a summary of the notations in the notebook for 1962 and 1963: Type of BetDateor PlayerWonLost1962 - In & Around Mobile Loss5/16Whitey Rough0$ 4,1008/20Freddie Barnes01,5008/20Whitey Rough05,8008/26Whitey Rough$1,00009/6Whitey Rough04,8009/6Freddie Barness01,8009/15Football03309/22Football01659/29Football044010/6Football1,280 010/13Football066010/27Football055011/3Football150011/13Football033011/17Football0440Total$2,430$20,915Loss per return$18,4851963 - Hotel Loss1/13Ziggie Burns0$ 7,0003/2Whitey Rough$ 3,55003/6Freddie Barnes06,2003/15Whitey Rough45004/12Whitey Rough29005/20Whitey Rough05,8005/31Ziggie Burns01,5005/31Whitey Rough40006/5Whitey Rough02,0907/15Whitey Rough1,00007/20Whitey Rough02,2009/5Ziggie Burns98009/8Ziggie Burns1,100010/5Junior Moore03,00011/2Whitey Rough1,500011/8Whitey Rough500011/9Cleo Vaughns1,100012/1Cleo Vaughns07,150Total$10,870$36,640Loss per return$24,070 For 1979 Tax Ct. Memo LEXIS 189">227 1962, the Commissioner disallowed the excess gambling losses from Sam's other gambling activities because Sam did not establish that "any amount constitutes an ordinary and necessary expense or was expended for the purpose designated." In his notice of deficiency for 1963, the Commissioner disallowed the excess gambling losses from Sam's other gambling activities because section 165(d) limits losses from wagering transactions to the extent of the gains from such transactions. OPINION Section 165(d) provides "Losses from wagering transactions shall be allowed only to the extent of the gains from such transactions." We must decide whether the income from the casino may be offset by the losses from Sam's other gambling activities. The petitioners argue that they are entitled to net such winnings and losses because Sam was a professional gambler, and the Commissioner argues that such items may not be netted. Apparently, the Commissioner also means to question the adequacy of Sam's records to substantiate his losses, but we are satisfied that the records maintained by him contemporaneously provide adequate substantiation for such losses. 41979 Tax Ct. Memo LEXIS 189">228 At the time the predecessor of section 165(d) was first enacted in 1934, the House Ways and Means Committee explained the reasons for the provision as follows: Existing law does not limit the deduction of losses from gambling transactions where such transactions are legal. Under the interpretation of the courts, illegal gambling losses can only be taken to the extent of the gains on such transactions. A similar limitation on losses from legalized gambling is provided for in the bill. Under the present many taxpayers take deductions for gambling losses but fail to report gambling gains. This limitation will force taxpayers to report their gambling gains if they desire to deduct their gambling losses.[H. Rept. No. 704, 73d Cong., 2d Sess. (1934), 1939-1 (Part 2) C.B. 554, 570.] For a similar statement, see S. Rept. No. 558, 73d Cong., 2d Sess. (1934), 1939-1 (Part 2) C.B. 586, 605. Over the years, based in part on such 1979 Tax Ct. Memo LEXIS 189">229 legislative history, the courts have held that "wagering transactions" include all gambling activities, whether legal or illegal, or whether the wagering occurred as part of a trade or business or for "sport and recreation." E.g., Humphrey v. Commissioner,162 F.2d 853 (5th Cir. 1947), affg. on this issue a Memorandum Opinion of this Court, cert. denied 332 U.S. 817">332 U.S. 817 (1948); Jennings v. Commissioner,110 F.2d 945 (5th Cir. 1940), cert. denied 311 U.S. 704">311 U.S. 704 (1940); Offutt v. Commissioner,16 T.C. 1214">16 T.C. 1214 (1951); Joseph v. Commissioner, 43 B.T.A. 273">43 B.T.A. 273 (1941); Skeeles v. United States,118 Ct. Cl. 362">118 Ct. Cl. 362, 95 F. Supp. 242">95 F. Supp. 242 (1951), cert. denied 341 U.S. 948">341 U.S. 948 (1951); see also Green v. Commissioner,66 T.C. 538">66 T.C. 538, 66 T.C. 538">548 (1976); Gordon v. Commissioner,63 T.C. 51">63 T.C. 51, 63 T.C. 51">81 (1974), revd. per curiam on another issue 572 F.2d 193 (9th Cir. 1977), cert. denied 435 U.S. 924">435 U.S. 924 (1978). For example, in Jennings v. Commissioner,supra, the petitioner was in the trade or business of gambling, and the Court held the predecessor of section 165(d) applied to such gambling winnings and losses. In 16 T.C. 1214">Offutt v. Commissioner,supra at 1214, the petitioner's business activity "consisted, in large part, of 'handicapping' horses in 1979 Tax Ct. Memo LEXIS 189">230 each race, that is, estimating their chances, and 'making future book,' that is, setting up a list of the horses in each race with the odds which he would be willing to accept." Under such circumstances, we specifically held that the predecessor of section 165(d) applied to such income even though the petitioner's trade or business was that of gambling. In 43 B.T.A. 273">Joseph v. Commissioner,supra, the taxpayer was engaged in the trade r business of wagering on horses. We held such activity constituted "wagering transactions" within the meaning of the predecessor of section 165(d). Just recently, in 63 T.C. 51">Gordon v. Commissioner,supra, in determining whether a taxpayer's income from a gambling business was averagable income within the meaning of the income averaging provisions, we defined "wagering transaction," based principally on the cases interpreting section 165(d), to include income from a gambling trade or business. Accordingly, we conclude that the casino income in this case represents gains from wagering transactions within the meaning of section 165(d). We must now decide whether the excess wagering winnings from the casino may be netted against Sam's other wagering losses. The Commissioner 1979 Tax Ct. Memo LEXIS 189">231 argues that such losses may not be used to offset the casino income as a matter of law because such losses were "personal" gambling losses. However, such argument is not persuasive. Sam was a professional gambler from 1933 until the time of trial. Though he admittedly was in the trade or business of operating an illegal casino, he was also in the trade or business of being a professional gambler. See 118 Ct. Cl. 362">Skeeles v. United States,supra.His other gambling activities were not recreational, occasional, or casual, but constituted an actual trade or business to which he devoted a considerable amount of time. The law is clear that the petitioners are entitled to net all of their business wagering winnings and losses. Humphrey v. Commissioner,supra;Drews v. Commissioner,25 T.C. 1354">25 T.C. 1354, 25 T.C. 1354">1355 (1956); 118 Ct. Cl. 362">Skeeles v. United States,supra.Moreover, regardless of whether we characterize such gambling activities as personal or business, the case law is equally clear that all wagering losses are deductible to the extent of wagering gains. For example, in both Jennings and Joseph, the court held that individual gambling losses could be used to offset gambling income from a partnership engaged in 1979 Tax Ct. Memo LEXIS 189">232 the trade or business of gambling. See also Humphrey v. Commissioner,supra; 67 T.C. 143">Offutt v. Commissioner,supra; 35 T.C. 199">Skeeles v. Commissioner,supra.Accordingly, we hold that the petitioners are entitled to a deduction of $18,485.00 in 1962 for the "In & Around Mobile, Ala. (Loss)" and a deduction of $24,070.00 in 1963 for the "Hotel (Loss)." Issue 4. Other Gambling Income - 1965FINDINGS OF FACT During 1965, Sam played gin rummy with Fredrick G. Levin. On May 10, 1965, Sam won $4,500 from Mr. Levin, which Mr. Levin paid to him in two checks: one dated May 10, 1965, in the amount of $2,250, and one dated June 1, 1965, in the amount of $2,250. Over the years, Mr. Levin and Sam have played gin rummy on numerous occasions, and in the long run, Sam lost more than he won. In his notice of deficiency, the Commissioner determined that Sam and Louise realized additional gross income of $4,500 in 1965 as a result of the checks from Mr. Levin. OPINION The petitioners admit that Sam won $4,500 from Mr. Levin in 1965, but they argue that in such year Sam lost more than $4,500 to Mr. Levin. The Commissioner's determination that Sam and Louise had such additional income is presumptively correct, and 1979 Tax Ct. Memo LEXIS 189">233 the petitioners bear the burden of proving that Sam's alleged offsetting losses were in fact sustained and the amount thereof. The issue is a factual one to be decided on the basis of all the evidence. Schooler v. Commissioner,68 T.C. 867">68 T.C. 867, 68 T.C. 867">869 (1977); Green v. Commissioner,66 T.C. 538">66 T.C. 538, 66 T.C. 538">544 (1976). Section 1.6001-1(a), Income Tax Regs., imposes on all taxpayers the duty of maintaining "permanent books of account or records * * as are sufficient to establish the amount of gross income, deductions, credits, or other matters required to be shown by such person in any return of such tax or information." Unlike 1962 and 1963, Sam did not keep any records of his other gambling transactions in 1965. In addition, in his testimony, Sam failed to prove any specific gambling losses in 1965. There is absolutely no evidence as to how much he won and lost in 1965 from all of his other gambling activities, and the evidence is equally vague and unsatisfactory as to the specific amounts he won from and lost to Mr. Levin in 1965. As a consequence, there is absolutely no basis for estimating his alleged 1965 losses. Though we accept that over the years Sam lost more to Mr. Levin than he won, 1979 Tax Ct. Memo LEXIS 189">234 such fact does not establish what happened in 1965. As we stated in 68 T.C. 867">Schooler v. Commissioner,supra at 871: Deductions for other purposes are not allowable unless substantiated by adequate records. * * It is clear that for such purposes, the kind of general evidence presented by the petitioner in this case is not sufficient. There is surely no reason to treat taxpayers such as the petitioner who claim to have sustained wagering losses more favorably than other taxpayers, by allowing a deduction for wagering losses when the evidence is vague and inadequate. We recognize that this Court has applied the rule of Cohan v. Commissioner,39 F.2d 540, 543-544 (2d Cir. 1930), and permitted deductions based on estimates where it was convinced that net losses were in fact sustained; however, the record in the case before us provides no satisfactory basis for estimating the amount of the petitioner's winings or losses, nor does it convince us that in fact his losses exceeded his unreported gains. * * * Accordingly, we hold that Sam and Louise had additional gross income in 1965 of $4,500 from Sam's other gambling activities. Issue 5. Unreported Bar IncomeFINDINGS OF FACT During the 1979 Tax Ct. Memo LEXIS 189">235 years in issue, the petitioner also operated a bar and lounge at the Sage Patch. Generally, one person was employed in the bar, and such employee acted as a bartender and waitress. The manager of the bar was Albert "Larry" Slaughter, known to everybody as Slick. At the bar, whiskey, beer, soft drinks, and various miscellaneous items, such as nuts, were available. The bar was equipped with an automatic whiskey dispenser, which metered the number of drinks dispensed each evening. The bar was also equipped with a cash register to record sales. The cash register was equipped with three specific keys, a whiskey key, a beer key, and a miscellaneous key, which were used to register sales in each category. At the beginning of the evening, Slick gave the bartender a predetermined amount of cash with which to open that evening's business. A patron of the bar was generally required to pay for his drinks in cash. The bartender was required to record each sale on the cash register according to the type of sale, i.e., whiskey, beer, or miscellaneous. The bartender also served mixed drinks, beer, and soft drinks to players in the casino. Upon approval by Sam, Pat, Ray, Morris, or Slick, 1979 Tax Ct. Memo LEXIS 189">236 players received complimentary drinks from the bar. Normally, a player was not required to pay for his drinks. If a player was given a free whiskey drink, the bartender was required to ring up the sale as a whiskey sale and have the cash register receipt signed by the person who authorized the free drink. The signed cash register receipt was then placed in the cash register drawer. Such sales were denominated "give aways," and they were registered at their retail price. Upon request, the players were also given free beer and soft drinks, if the requisite approval was received; but these give aways were not rung up on the cash register. At the end of the evening when the bartender closed out the cash register, she was required to have cash and signed register tapes, adjusted for the amount of cash she opened with, equal to the total dollar amount of sales registered on the cash register. In addition, the dollar amount of registered whiskey sales had to be equivalent to the number of drinks dispensed on the metered whiskey dispensing machine. She did not have to account for give aways of beer and soft drinks. The cash register was usually checked out by Slick, but on occasion, either 1979 Tax Ct. Memo LEXIS 189">237 Pat or Ray also checked the cash register against the nightly proceeds. After the register had been closed out, Slick, and occasionally Pat or Ray, prepared a "daily ticket" for the bar. The first figure on the daily ticket was the bar bankroll, which consisted of prior sales minus prior operating expenses. Separately stated thereunder were the whiskey, beer, and miscellaneous sales for the evening, as taken from the cash register. Whiskey sales included whiskey give awasy. The total daily sales were added to the beginning bankroll, and total cash disbursements (or the daily operating expenses, such as laundering of linens, and beer, whiskey, and soft drink purchases) were subtracted from such bankroll. The resulting figure represented the closing balance, which was then used as the following day's opening balance. At the bottom of the daily ticket, a circled dollar amount indicated the dollar value of whiskey give aways for the evening. All of the receipts for cash disbursements were attached to the daily ticket. Every night, a daily ticket for the bar was prepared in this manner. Slick was primarily responsible for the preparation of such ticket, and as a general rule, Sam 1979 Tax Ct. Memo LEXIS 189">238 did not participate in nightly accounting procedures for the bar. In addition to providing patrons with complimentary drinks, Sam also provided a weekly buffet dinner for his gambling patrons at which he served free food and drinks. He also frequently gave bottles of liquor to regular patrons, especially at Christmas. At the end of the month, the daily tickets and all attached receipts were given to W. W. Kerr, a public accountant, for the purpose of preparing and filing monthly State sales tax returns. An employee of Mr. Kerr, Trinell Ros, used such records for each of the years in issue to prepare the Mississippi sales tax returns. Ms. Ros was informed that the whiskey sales on the daily tickets did not include give aways, so she added the give aways to the whiskey sales in computing gross sales and the sales tax liability. During the audit, Sam provided agent Waterbury with no records relating to the operations of the bar and lounge; accordingly, the agent reconstructed the income from the bar as follows: 1962196319641965Whiskey sales$10,173.80$10,463.50$14,747.23$18,271.20Beer sales8,324.028,458.389,368.9014,537.03Total sales$18,497.82$18,921.88$24,116.13$32,808.23Whiskey purchases$ 5,992.37$ 6,163.00$ 8,686.12$10,769.63Beer purchases3,654.243,713.233,402.947,465.71Total purchases$ 9,646.61$ 9,876.23$12,089.06$18,235.34Gross profit8,851.219,045.6512,027.0714,572.89(total salesless totalpurchases)In 1979 Tax Ct. Memo LEXIS 189">239 computing such figures, he relied primarily upon the monthly Mississippi sales tax returns filed by Sam. Based on such tax returns for 1963 through 1965, he computed the dollar amount of sales for both beer and whiskey for such years. For 1962, he knew the dollar amount of sales tax paid, and using a ratio of sales tax paid over gross sales for 1963 through 1965, he computed the gross beer and whiskey sales for 1962. To compute the operating expenses of the bar for 1965, the agent obtained records of beer and whiskey purchases by the Sage Patch from the Mississippi Sales Tax Commission, and based on such records, he computed the dollar amount of beer and whiskey purchases. He used the 1964 Mississippi Sales Tax Commission records to compute the beer purchases for 1964 in the same manner, but such records were not available for the 1964 whiskey purchases. Thus, he estimated the 1964 whiskey purchases by assuming that whiskey purchases in 1964 were in the same proportion to 1964 whiskey sales as was the case in 1965. For 1962 and 1963, he computed the whiskey purchases in the same manner as he did the 1964 purchases. For 1962 and 1963 beer purchases, no records were available; 1979 Tax Ct. Memo LEXIS 189">240 accordingly, he estimated the beer purchases in such years by assuming that they were in the same proportion to 1962 and 1963 beer sales as were the average beer purchases to beer sales for 1964 and 1965. The agent did not allow for any other expenses, and he made no allowance for give aways. At the trial of this case, the petitioner presented his daily tickets for the bar for 1964 and 1965. Attached to such tickets were receipts for cash disbursements. These were the records that Ms. Ros had used to compute the sales tax returns, and prior to trial, she had been given such records and had been asked to audit them and prepare a profit and loss statement. In preparing such statement, she added the value of the give aways to the whiskey, beer, and miscellaneous sales, and then she allowed the value of the giveaways as a deduction. The following is a summary of Ms. Ros' results: 19641965SalesWhiskey$10,325.97$12,758.40Beer8,556.7512,647.96Miscellaneous920.201,269.50Give aways5,309.866,429.20Gross sales25,112.78$33,105.06Less: Give aways5,309.866,429.20Purchases andexpenses20,307.8125,273.88Profit or (loss)$ ( 504.89)$ 1,401.98Ms. Ros attributed the minor differences between the gross 1979 Tax Ct. Memo LEXIS 189">241 sales reflected in the sales tax returns and the profit and loss statement to mathematical errors. She was not aware, at the time she computed the sales tax return or at the time she prepared the profit and loss statement, that the give aways were already included in the whiskey sales. During 1964, Sam was required to supplement the bar bankroll in the following amounts because the bar income was insufficient: DateAmount4/29/64$197.005/6/64230.005/20/64140.0012/30/64620.00OPINION The issue for decision is whether the petitioners had unreported income from the operation of the bar and lounge at the Sage Patch. Since Sam and Louise produced no records relating to the bar during the audit, the Commissioner reconstructed the income and expenses generated by the bar. See secs. 6001, 446; sec. 1.446-1, Income Tax Regs. As detailed in our Findings of Fact, such income and expenses were estimated based on State sales tax returns, State Sales Tax Commission records, and projections based on such records. The Commissioner's determination that the bar operated at a profit is presumptively correct, and the petitioners bear the burden of proving such determination is in error. Rule 142; Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933). 1979 Tax Ct. Memo LEXIS 189">242 To establish that the bar did not operate at a profit, the petitioners presented the testimony of Slick and several other employees of the bar and casino. Their testimony established that the bar was operated in a businesslike manner and that a systematic accounting procedure was used to determine profits and losses. At trial, the petitioners also produced the daily tickets for the bar with the attached receipts for cash disbursements for 1964 and 1965. In the statement of profit and loss prepared by Ms. Ros, it appears that the bar operated at a loss in 1964 and at a small profit in 1965. In preparing such statement and the State sales tax returns, Ms. Ros was not aware that the give aways had been included twice: once as part of the whiskey sales and once as a separate item. If the give aways are properly accounted for in the sales tax returns and in the profit and loss statements, it is clear that the bar did not operate at a profit in 1964 and 1965. Finally, Sam, Pat, Ray, Slick, and the bartender all testified that because of the give aways, the bar did not operate at a profit for any of the years in issue. Their opinions are fully corroborated by the daily tickets for 1964 1979 Tax Ct. Memo LEXIS 189">243 and 1965. Though the petitioners did not produce any records for 1962 and 1963, Slick testified that the bar was operated in the same manner in such years as in 1964 and 1965. Ms. Ros confirmed that in 1962 and 1963 she used daily tickets to compute the sales tax returns. Despite all of this evidence, the Commissioner insists that his determination that the bar operated at a profit for the years in issue should be sustained. He emphasizes that at the time of the audit, Sam and Louise provided the auditing agents with no records, and that therefore, it was reasonable to reconstruct their income from the bar. Under the circumstances, the propriety of reconstructing their income can hardly be questioned. However, at trial, the petitioners presented persuasive evidence that the bar did not operate at a profit. The Commissioner's method grossly understimated the expenses incurred in operating the bar, since it took into consideration only purchases of beer and whiskey, and not the many other substantial expenses reflected in the receipts attached to the daily tickets. In addition, he made absolutely no adjustment for the give aways in his computation. The daily tickets for 1964 1979 Tax Ct. Memo LEXIS 189">244 and 1965 establish that several thousand dollars worth of whiskey was given away. The Commissioner contends that some of the bar's expenses were deducted on the daily reports of the casino, but the evidence does not support such contention. The common expenses of the bar and casino, such as utility bills, and expenses solely attributable to the casino, such as the cost of dice, were deducted on the daily reports of the casino and not on the daily tickets of the bar. However, expenses solely attributable to the bar, such as the cost of soft drinks and the cost of laundering linens, were deducted only on the daily tickets of the bar. The Commissioner points us to no specific instance where the same expense was deducted on the daily tickets of the bar and the daily reports of the casino. Finally, the daily tickets establish that the Commissioner's method of reconstructing the bar income grossly overestimated the profit from the bar in 1964 and 1965, and since the income and expenses for 1962 and 1963 were based in part on projections from 1964 and 1965, his determinations for 1962 and 1963 have incorporated the same errors. Using the actual income and expenses of the bar for 1964 1979 Tax Ct. Memo LEXIS 189">245 and 1965 and projecting such experience back to 1962 and 1963, as did the Commissioner, it is reasonable to conclude that the bar also operated at a loss in 1962 and 1963. Accordingly, based on all of the evidence, we hold that the petitioners have carried their burden of proving that their expenses from the bar at least equaled their income and that, therefore, they had no taxable income from the bar during the years in issue. 5Issue 6. Automobile ExpensesFINDINGS OF FACT For the years in issue, the following automobile expenses were deducted by Sam and Louise: YearAmount1962$3,300.0019633,300.0019643,300.0019653,000.00For 1962, 1963, and 1964, they computed such expenses by multiplying 30,000 miles by 11 cents per mile. For 1965, they computed the deduction by multiplying 30,000 miles by 10 cents per mile. At the trial, Sam acknowledged that, of the 30,000 miles traveled each year, 7,750 miles were the result of commuting between his home and his principal place of business. 1979 Tax Ct. Memo LEXIS 189">246 Many of the remaining miles were traveled between Mobile, Ala., and Pascagoula, Miss.In his notices of deficiency, the Commissioner disallowed the deductions because the petitioners had not established the business purpose nor substantiated the amount of the business expenses. OPINION The issue for decision is whether Sam and Louise are entitled to deduct as a business expense for each of the years in issue the cost of driving 22,250 miles. The petitioners argue that such expenses were ordinary and necessary business expenses, whereas the Commissioner argues that the petitioners have not established the expenses were business expenses and that they have not substantiated the number of miles traveled. We agree with the Commissioner. Section 162allows a deduction for the ordinary and necessary expenses paid during the taxable year in carrying on a trade or business. To prevail, the petitioners must show that the claimed business expenses were not incurred primarily for personal purposes ( Henry v. Commissioner,36 T.C. 879">36 T.C. 879, 36 T.C. 879">884 (1961)), and that there was a proximate relationship between the expenses and Sam's business. 36 T.C. 879">Henry v. Commissioner,supra;Reed v. Commissioner,35 T.C. 199">35 T.C. 199 (1960); 1979 Tax Ct. Memo LEXIS 189">247 Larrabee v. Commissioner,33 T.C. 838">33 T.C. 838 (1960). The issue is primarily one of fact to be resolved based on all of the facts and circumstances. Commissioner v. Heininger,320 U.S. 467">320 U.S. 467 (1943); Schulz v. Commissioner,16 T.C. 401">16 T.C. 401 (1951). The petitioners bear the burden of proof (Rule 142); Welch v. Helvering,290 U.S. 111">290 U.S. 111 (1933), and on this record, they have failed to carry such burden. The evidence does not establish how many miles Sam drove each year and how many of such miles were traveled for personal reasons. Though Sam claimed he traveled 30,000 miles in pursuit of his gambling business, at the trial, he admitted that 7,750 of such miles were traveled in commuting between his home and the Sage Patch. As to the remaining 22,250 miles, the evidence does not establish that Sam did in fact travel such miles, or that the purpose of such travel was business related, rather than personal. The petitioners' reliance on Cohan v. Commissioner,39 F.2d 540 (2d Cir. 1930), is misplaced since they have not established that any of the expenses were business expenses. On this record, we hold that the petitioners are not entitled to the deduction for automobile expenses for any of the years 1979 Tax Ct. Memo LEXIS 189">248 in issue. Issue 7. Telephone ExpenseFINDINGS OF FACT Sam and Louise claimed deductions for telephone expenses on their 1962, 1963, and 1964 Federal income tax returns as follows: YearAmount1962$400.001963400.001964258.32Sam estimated the amounts of the expenses for 1962 and 1963. In his notices of deficiency, the Commissioner disallowed the deductions because Sam and Louise had not substantiated the amount nor the business purpose of the expenses. OPINION Section 162 allows a deduction for all ordinary and necessary business expenses paid during the taxable year. The petitioners bear the burden of proving they are entitled to deductions for telephone expenses. The petitioners presented no evidence substantiating that Sam incurred or paid such telephone expenses or that such expenses were business related. The petitioners' reliance on Cohan v. Commissioner,39 F.2d 540 (2d Cir. 1930), is misplaced since they have not established that any of the expenses were business related. Accordingly, we hold that the petitioners are not entitled to a deduction for telephone expenses for 1962, 1963, or 1964. Issue 8. Traveling ExpensesFINDINGS OF FACT On their 1962 through 1965 Federal 1979 Tax Ct. Memo LEXIS 189">249 income tax returns, Sam and Louise claimed deductions for traveling expenses as follows: TotalTravelingYearHotelMealsTipsExpenses1962 $ 364.04$198.00 $ 33.00 $ 595.041963700.00210.0070.00980.001964388.48159.0053.00600.43 a19651,068.43249.00120.001,437.43For 1962, 1963, and 1965, Sam had hotel receipts for the following expenses: YearHotelMealsTelephone1962$249.37$15.06$132.571963560.655.82250.441965840.578.6755.77Included in the hotel expenses was a State sales tax. Most of the hotel bills were incurred when Sam traveled to Alabama. In his notices of deficiency, the Commissioner disallowed the deductions for travel because Sam and Louise had not substantiated the amount nor the business purpose of the expenses. OPINION Section 162 allows a deduction for traveling expenses, including expenses for meals and lodging, if (1) the expenses are reasonable and necessary, (2) they are incurred while away from home, and (3) they are incurred in pursuit of business. Commissioner v. Flowers,326 U.S. 465">326 U.S. 465, 326 U.S. 465">470 (1946). However, for taxable years ending after December 31, 1962, deductibility of such expenses is limited by the substantiation 1979 Tax Ct. Memo LEXIS 189">250 requirement of section 274(d), which provides in part: No deduction shall be allowed-- (1) under section 162 * * * for any traveling expense (including meals and lodging while away from home), * * unless the taxpayer substantiates by adequate records or by sufficient evidence corroborating his own statement (A) the amount of such expense or other item, (B) the time and place of the travel, * * (C) the business purpose of the expense or other item * * * See Rev. Act of 1962, Pub. L. 87-834, sec. 4(c), 76 Stat. 977. Under the regulations, the petitioners are required to substantiate the amount, time, place, and business purpose of Sam's travel expenses "by adequate records or by sufficient evidence corroborating his own statement." Sec. 1.274-5(c)(1), Income Tax Regs. To meet the "adequate records" requirement, a taxpayer must maintain an account book, diary, statement of expense, or similar record prepared contemporaneously with the expenditure and, in certain situations, produce documentary evidence, which ogether establish each element of an expenditure. Sec. 1.274-5(c), Income Tax Regs.; Sanford v. Commissioner,50 T.C. 823">50 T.C. 823 (1968), affd. per curiam 412 F.2d 201 (2d Cir. 1969), 1979 Tax Ct. Memo LEXIS 189">251 cert. denied 396 U.S. 841">396 U.S. 841 (1969). Specifically, the regulations provide the following requirements for substantiating the business purpose of the expenditures: (b) Substantiation of business purpose. In order to constitute an adequate record of business purpose within the meaning of section 274(d) and this subparagraph, a written statement of business purpose generally is required.However, the degree of substantiation necessary to establish business purpose will vary depending upon the facts and circumstances of each case. Where the business purpose of an expenditure is evident from the surrounding facts and circumstances, a written explanation of such business purpose will not be required. * * [Sec. 1.274-5(c)(2)(ii)(b), Income Tax Regs.] In the absence of adequate records, a taxpayer may alternatively establish an element of an expense: (i) By his own statement, whether written or oral, containing specific information in detail as to such element; and (ii) By other corroborative evidence sufficient to establish such element. If such element is * * * the cost, time, place, or date of an expenditure, the corroborative evidence shall be direct evidence, such as a statement in 1979 Tax Ct. Memo LEXIS 189">252 writing or the oral testimony of persons entertained or other witness setting forth detailed information about such element, or the documentary evidence described in subparagraph (2) of this paragraph. If such element is * * the business purpose of an expenditure, the corroborative evidence may be circumstantial evidence. [Sec. 1.274-5(c)(3), Income Tax Regs.; emphasis supplied.] 50 T.C. 823">Sanford v. Commissioner,supra; Ashby v. Commissioner,50 T.C. 409">50 T.C. 409 (1968). The evidence presented by the petitioners fails to establish for each of the years in issue that any of the traveling expenses were incurred in the pursuit of business. The only explanation proffered by the petitioners for the business purpose of such expense was that Sam believed his pysical presence in cities like Mobile, Ala., helped his business in the casino. Surely, based on such testimony, the relationship between the expenditures and his business is far too tenuous to conclude that they were ordinary and necessary business expenses. The need for more specific evidence is especially clear when the evidence also indicates that Sam pursued personal endeavors while on such trips. In addition, as to the years 1963, 1964, and 1979 Tax Ct. Memo LEXIS 189">253 1965, the evidence submitted by the petitioners does not come close to the type of substantiation required by section 274(d), either under the adequate records standard or the "sufficient evidence corroborating his own statement" standad. Specifically, under both standards, the petitioners have not established the business purpose of the expenditures. Finally, the petitioners. reliance on Cohan v. Commissioner,39 F.2d 540 (2d Cir. 1930), for 1962 is misplaced since they have not established that the traveling expenses were incurred in the pursuit of business. Moreover, for 1963, 1964, and 1965, Congress specifically rejected the rule of Cohan when it enacted section 274(d): This provision is intended to overrule, with respect to such expenses the so-called Cohan rule. In the case of Cohan v. Commissioner,39 F.2d 540 (C.A. 2d, 1930), it was held that where the evidence indicated that a taxpayer had incurred deductible expenses but their exact amount could not be determined, the court must make "as close an approximation as it can" rather than disallow the deduction entirely. Under your committee's bill, the entertainment, etc., expenses in such a case would be disallowed entirely. 1979 Tax Ct. Memo LEXIS 189">254 The requirement that the taxpayer's statements be corroborated will insure that no deduction is allowed solely on the basis of his own unsupported, self-serving testimony. * * * [H. Rept. No. 1447, 87th Cong., 2d Sess. (1962), 1962-3 C.B. 405, 427; S. Rept. No. 1881, 87th Cong., 2d Sess. (1962), 1962-3 C.B. 707, 741.] See also Sanford v. Commissioner,50 T.C. 823">50 T.C. 828; Ashby v. Commissioner,50 T.C. 409">50 T.C. 415. Accordingly, we hold the petitioners are entitled to no deduction for traveling expenses for each of the years in issue. Issue 9. Bad DebtFINDINGS OF FACT On their Federal income tax returns, Sam and Louise claimed a bad debt deduction of $2,100.00 for 1964 and $5,644.15 for 1965. For 1964, the deduction was based on two separate debts: one from Robert Coleman in the amount of $100.00, and one from William Petrie in the amount of $2,000.00. A check drafted by Mr. Petrie to cash and endorsed by Sam for the amount of $1,930.00, dated December 16, 1963, had been dishonored because of insufficient funds. Sam was unsure when he loaned the $2,000.00 to Mr. Petrie. At the trial and on brief, the petitioners conceded that the debt from Mr. Coleman to Sam did not become worthless 1979 Tax Ct. Memo LEXIS 189">255 in 1964. For 1965, the bad debt deduction was based on two loans: one to C. A. McGillen, Jr., in the amount of $3,574.15, and one to Coast Development, Inc., in the amount of $2,070.00. None of the Loans was evidenced by a promissory note. In his notices of deficiency, the Commissioner disallowed the bad debt deductions, because the petitioners had not established that the loans were made or when they became worthless. OPINION Section 166(a)(1)provides a deduction for any debt which becomes wholly worthless within the taxable year. The regulations require the existence of a bona fide debt, which is defined as "a debt which arises from a debtor-creditor relationship based upon a valid and enforceable obligation to pay a fixed or determinable sum of money." Sec. 1.166-1(c), Income Tax Regs.; Malinowski v. Commissioner,71 T.C. 1120">71 T.C. 1120 (1979). In addition, for a creditor to establish that a debt has become worthless, he must prove that he made every reasonable effort to locate the debtor and to collect the debt. Allen-Bradley Co. v. Commissioner,112 F.2d 333, 334-335 (7th Cir. 1940), affg. 39 B.T.A. 1243">39 B.T.A. 1243 (1939); A. Finkenberg's Sons, Inc. v. Commissioner,17 T.C. 983">17 T.C. 983, 17 T.C. 983">984 (1951); 1979 Tax Ct. Memo LEXIS 189">256 Runyon v. Commissioner,8 T.C. 350">8 T.C. 350, 8 T.C. 350">357 (1947); Brickell v. Commissioner,17 B.T.A. 711">17 B.T.A. 711, 17 B.T.A. 711">712-713 (1929). However, if the creditor can establish that the debtor's financial position was such that attempts to collect would have been useless, then the creditor is excused from collection activities, since the law does not require a creditor to engage in futile acts. Sec. 1.166-2(b), Income Tax Regs.; Sherman v. Commissioner,18 T.C. 746">18 T.C. 746, 18 T.C. 746">752 (1952); American Warehouse Co. v. Commissioner,19 B.T.A. 8">19 B.T.A. 8, 19 B.T.A. 8">11-12 (1930). Whether a debt is worthless depends upon an analysis of all the pertinent facts and circumstances. Mueller v. Commissioner,60 T.C. 36">60 T.C. 36 (1973), revd. on other issues 496 F.2d 899 (5th Cir. 1974); Skolnik v. Commissioner,55 T.C. 1055">55 T.C. 1055 (1971). The petitioners bear the burden of proving they are entitled to the deductions (see 71 T.C. 1120">Malinowski v. Commissioner,supra), and based on this record, they have failed to carry such burden. For 1964, the evidence establishes that Mr. Petrie owed Sam $2,000.00 and a check in the amount of $1,930.00 dated December 16, 1963, had been dishonored by the bank because of insufficient funds. The evidence also establishes that Sam had loaned $3,574.15 1979 Tax Ct. Memo LEXIS 189">257 to C. A. McGillen, Jr., and that he loaned $2,070.00 to Coast Development, Inc. However, there is absolutely no evidence that Sam attempted to collect such loans, or that the debtors were insolvent or otherwise unable to repay the loans. Based on the evidence presented, we hold that the petitioners have not established the debts were worthless in 1964, 1965, or any other years. Issue 10. Dependency ExemptionFINDINGS OF FACT On their 1964 and 1965 Federal income tax returns, Sam and Louise claimed a dependency exemption for Sam's sister, Doris Presley, who was an invalid during such years. Sam had provided for her full support for her entire life, and during 1964 and 1965, he provided all of her support. In his notices of deficiency, the Commissioner disallowed the dependency exemptions for Doris Presley because Sam and Louise had not established that they furnished more than one-half of her support during 1964 and 1965.OPINION The issue for decision is whether the petitioners are entitled to claim dependency exemptions for 1964 and 1965 for Doris Presley, Sam's sister. The Commissioner argues that the petitioners have not established that they provided over half of her support. 1979 Tax Ct. Memo LEXIS 189">258 Section 151(a) allows a deduction for personal exemptions. Section 151(e)(1)(A) provides an exemption for each dependent "whose gross income for the calendar year in which the taxable year of the taxpayer begins is less than $600." Under section 152(a)(1) and (8), a dependent is defined to include a taxpayer's sister or sister-in-law over half of whose support for the taxable year was received from the taxpayer. The petitioners bear the burden of proving they are entitled to the exemptions (Rule 142), and based on the entire record, we conclude that they have met their burden. The evidence establishes that Doris Presley was an invalid her entire life and that Sam and Louise provided all of her support for 1964 and 1965.The Commissioner, while not actually disputing such evidence, contends that it is insufficient because the petitioners have not established exactly how much was expended for her total support.In cases where two or more taxpayers disagree over which of them is entitled to a dependency exemption, it is essential that the dollar amount of the dependent's support be established and that each party prove exactly how much of such support was provided by him. See, e.g., 1979 Tax Ct. Memo LEXIS 189">259 Seraydar v. Commissioner,50 T.C. 756">50 T.C. 756, 50 T.C. 756">760 (1968); Stafford v. Commissioner,46 T.C. 515">46 T.C. 515, 46 T.C. 515">518 (1966). However, where there are no conflicting claims for an exemption, and where the evidence clearly establishes that the taxpayers claiming the exemption provided all of the dependenths support, it is not essential that the taxpayers establish exactly how much was expended for the dependent's total support. Boettiger v. Commissioner,31 T.C. 477">31 T.C. 477, 31 T.C. 477">486 (1958); Wayman v. Commissioner,14 T.C. 1267">14 T.C. 1267, 14 T.C. 1267">1270 (1950). For such reasons, the Commissioner's reliance on 50 T.C. 756">Seraydar v. Commissioner,supra, and 46 T.C. 515">Stafford v. Commissioner,supra, is misplaced. On brief, the Commissioner also raised for the first time questions about wher Doris Presley lived and whether she had other sources of income, but such matters were not pursued no raised by him prior to or at the trial. Sam testified unequivocally that he provided her full support during 1964 and 1965, and such testimony was the only evidence presented on this issue; it would be unrealistic and unfair of us to require the petitioners at trial to anticipate every hypothetical objection which the Commissioner may wish to raise on brief. Accordingly, 1979 Tax Ct. Memo LEXIS 189">260 on the basis of this record, we hold that the petitioners are entitled to dependency exemptions for Doris Presley in 1964 and 1965. Issue 11. Louise's LiabilityFINDINGS OF FACT During the years in issue, Louise, who died on January 2, 1977, was a housewife. Sam periodically gave her sums of money to run their household, but she did not participate in her husband's businesses. For 1963 and 1964, the deficiency notices sent to Sam were addressed as follows: Mr. Sam Presley, Sr. 211 Balmoral Street Biloxi, Mississippi 39531 For 1963 and 1964, the Commissioner did not send a separate or joint notice of deficiency to Louise. OPINION On brief, the Commissioner conceded that there was no fraud on the part of Louise, and therefore, we need only address the estate's liability for the deficiencies.For 1962 and 1965, we must decide whether the estate is entitled to be relieved of liability for the deficiencies under section 6013(e)(1), which provides: (e) Spouse Relieved of Liability in Certain Cases-- (1) In general.--Under regulations prescribed by the Secretary, if-- (A) a joint return has been made under this section for a taxable year and on such return there was omitted from gross 1979 Tax Ct. Memo LEXIS 189">261 income an amount properly includable therein which is attributable to one spouse and which is in excess of 25 percent of the amount of gross income stated in the return, (B) the other spouse establishes that in signing the return he or she did not know of, and had no reason to know of, such omission, and (C) taking into account whether or not the other spouse significantly benefitted directly or indirectly from the items omitted from gross income and taking into account all other facts and circumstances, it is inequitable to hold the other spouse liable for the deficiency in tax for such taxable year attributable to such omission, then the other spouse shall be relieved of liability for tax (including interest, penalties, and other amounts) for such taxable year to the extent that such liability is attributable to such omission from gross income. The petitioners bear the burden of proving Louise complied with each of the three conditions for each of the years in issue. Rule 142; Quinn v. Commissioner,62 T.C. 223">62 T.C. 223, 62 T.C. 223">229-230 (1974), affd. 524 F.2d 617 (7th Cir. 1975); Sonnenborn v. Commissioner,57 T.C. 373">57 T.C. 373, 57 T.C. 373">380-382 (1971). The Commissioner concedes that Louise met the first two requirements, 1979 Tax Ct. Memo LEXIS 189">262 but the estate is not relieved of liability because the petitioners have not established that Louise met the last of such conditions. To meet the requirements of section 6013(e)(1)(C), the petitioners were required to prove that, taking into consideration whether Louise significantly benefitted from the omission from gross income, and taking into account all of the other facts and circumstances, it would be inequitable to hold her liable for the deficiencies. The only evidence presented is that Louise had no significant sources of income other than that which Sam gave her periodically to run their household. Such evidence does not address whether she significantly benefitted from the omission from income or where the equities lie in this case. On the basis of this record, we are constrained to hold that the petitioners have failed to prove that it would be inequitable to hold the estate liable for the deficiencies for 1962 and 1965. As to 1963 and 1964, the Commissioner argues, for the first time on brief, that if we conclude that Sam and Louise filed joint returns for 1963 and 1964, then the estate is automatically liable for any deficiencies for such years as redetermined by 1979 Tax Ct. Memo LEXIS 189">263 us. The Commissioner further argues that the estate is not relieved of liability because it did not affirmatively raise the issue of whether Louise was an innocent spouse for such years. Though we have held that Sam and Louise did file joint returns for 1963 and 1964, it does not follow that the estate is liable for the deficiencies for such years. Since 1918, spouses have been permitted to file joint income tax returns. Rev. Act of 1918, 65th Cong., 3d Sess., ch. 18, sec. 223, 40 Stat. 1074; sec. 6013.In 1924, Congress established the deficiency procedures under which the Commissioner was authorized to notify the taxpayer of any deficiency. Rev. Act of 1924, 68th Cong., 1st Sess., ch. 234, sec. 274(a), 43 Stat. 297. Over the next few years, the law became increasingly unclear as to whether spouses who filed joint returns were jointly and severally liable for the tax. In 1938, Congress clarified the law by expressly providing that spouses were jointly and severally liable for the tax if they filed a joint return. Rev. Act of 1938, 75th Cong., 3d Sess., ch. 289, sec. 51(b), 52 Stat. 476; H. Rept. No. 1860, 75th Cong., 3d Sess. (1938), 1939-1 (Part 2) C.B. 728, 749. At the same 1979 Tax Ct. Memo LEXIS 189">264 time, Congress decided to allow the Commissioner, in his discretion, to send a joint notice of deficiency to spouses instead of separate notices. Rev. Act of 1938, supra, sec. 272(a), 52 Stat. 535. As explained by the House Ways and Means Committee: To conform to section 51(b) of the bill, which expressly provides for joint and several liability in the case of a husband and wife who file a joint return, express provision is made in section 272(a) of the bill for the sending of a joint notice of deficiency if the Commissioner in his discretion desires to send a joint notice instead of separate notices of the deficiency. This accords with the established procedure under the Revenue Act of 1936 and prior Acts. The committee feels, however, that, in the interests of fairness, an exception to such established procedure should be made in cases where, subsequent to the filing of the joint return and prior to the notice of deficiency, the spouses have established separate residences and notice of such fact has been given to the Commissioner. The last sentence of section 272(a) of the bill accordingly provides that a single joint notice may be sent in the general case but that, if the Commissioner 1979 Tax Ct. Memo LEXIS 189">265 has been notified by either spouse that separate residences have been established, then, in lieu of the single joint notice, duplicate originals must be sent by registered mail to each of the spouses at his last known address. [H. Rept. No. 1860, supra, 1939-1 (Part 2) C.B. at 763; empasis supplied.] The substance of such provisions was enacted as part of the Internal Revenue Code of 1954. Section 6013(d)(3) provides for joint and several liability where spouses file joint returns.Section 6212(a)(1) generally provides that if the Commissioner determines there is a deficiency in certain taxes, including income taxes, he is authorized to send a notice of such deficiency to the taxpayer. Taxpayer is defined in section 7701(a)(14) to mean "any person subject to any internal revenue tax." Section 6212(b)(1) generally provides that the notice of deficiency must be mailed to the taxpayer at his last known address. Section 6212(b)(2) provides: (2) Joint income tax return.--In the case of a joint income tax return filed by husband and wife, such notice of deficiency may be a single joint notice, except that if the Secretary has been notified by either spouse that separate residences have 1979 Tax Ct. Memo LEXIS 189">266 been established, then, in lieu of the single joint notice, a duplicate original of the joint notice shall be sent by certified mail or registered mail to each spouse at his last known address. Section 301.6212-1(b)(2), Proced. & Admin. Regs., provides: (2) Joint income tax returns. If a joint income tax return has been filed by husband and wife, the district director (or assistant regional commissioner, appellate) may, unless the district director for the district in which such joint return was filed has been notified by either spouse that a separate residence has been established, send either a joint or separate notice of deficiency to the taxpayers at their last known address. * * * In view of the reasons for enacting the predecessor of section 6212(b)(2), it is clear that section 6212(b)(2) merely provides the Commissioner with alternate methods of providing notice to spouses.For example, the Commissioner may elect to send each spouse a separate notice of deficiency, regardless of their addresses, or he may send a single joint notice to them provided he has not been notified that the spouses have established separate residences. Garfinkel v. Commissioner,67 T.C. 1028">67 T.C. 1028 (1977); 1979 Tax Ct. Memo LEXIS 189">267 Dolan v. Commissioner,44 T.C. 420">44 T.C. 420 (1965). If the spouses have provided the Commissioner with proper notice of their separate residences and the Commissioner wishes to send joint notices, he must send a duplicate original of the joint notice to establish joint liability, but a joint notice issued to only one spouse at his separate address is sufficient to proceed against that spouse separately. 67 T.C. 1028">Garfinkel v. Commissioner,supra;44 T.C. 420">Dolan v. Commissioner,supra.Though one of the characteristics of joint and several liability is that the Commissioner may proceed against the spouses jointly, or he may proceed against one or both of them separately and obtain separate judgments against each ( 67 T.C. 1028">Garfinkel v. Commissioner,supra;44 T.C. 420">Dolan v. Commissioner,supra), it is clear that section 6212(b)(2) does not dispense with the necessity of sending notice of the deficiency to the taxpayer (either the husband or the wife) against whom the Commissioner wishes to proceed. Despite the joint liability of Louise, we have no jurisdiction to hold her liable for a deficiency if a proper notice thereof has not been sent to her. Secs. 6212 and 6214(a); cf. Kisting v. Commissioner,298 F.2d 264, 268 (8th Cir. 1962), 1979 Tax Ct. Memo LEXIS 189">268 affg. a Memorandum Opinion of this Court; 67 T.C. 1028">Garfnkel v. Commissioner,supra at 1031-1032; 44 T.C. 420">Dolan v. Commissioner, supra at 432-434; Heaberlin v. Commissioner,34 T.C. 58">34 T.C. 58 (1960). Issue 12. FraudOPINION The final issue for decision is whether any part of the underpayments of tax for each of the years in issue was due to Sam's fraud with intent to evade taxes within the meaning of section 6653(b). 6The Commissioner bears the burden of establishing fraud, and he must prove it by clear and convincing evidence. Sec. 7454(a); Rule 142(b); Levinson v. United States,496 F.2d 651 (3d Cir. 1974), cert. denied 419 U.S. 1040">419 U.S. 1040 (1974); Estate of Pittard v. Commissioner,69 T.C. 391">69 T.C. 391 (1977); Estate of Temple v. Commissioner,67 T.C. 143">67 T.C. 143 (1976); Imburgia v. Commissioner,22 T.C. 1002">22 T.C. 1002 (1954); Petit v. Commissioner,10 T.C. 1253">10 T.C. 1253 (1948).To establish fraud, the Commissioner 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), cert. denied 393 U.S. 1020">393 U.S. 1020 (1969); Webb v. Commissioner,394 F.2d 366, 377 (5th Cir. 1968), 1979 Tax Ct. Memo LEXIS 189">269 affg. a Memorandum Opinion of this Court; Powell v. Granquist,252 F.2d 56, 60 (9th Cir. 1958); Acker v. Commissioner,26 T.C. 107">26 T.C. 107, 26 T.C. 107">112-113 (1956). 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, 53 T.C. 96">105-106 (1969). To establish fraud, the Commissioner relies on the following factors: (1) gambling income omitted from the Sage Patch daily report sheets in the form of checks for each year. (2) the omission of bar profits from the Sage Patch daily report sheets for each year, and (3) Sam Presley, Sr.'s full ownership of the 1979 Tax Ct. Memo LEXIS 189">270 Sage Patch and his responsibility to report all Sage Patch income on his income tax returns, which he failed to do. Specifically and additionally for 1965, respondent relies for fraud on his affirmative proof that petitioners failed to report as income the amount of $4,500.00 which Sam Presley, Sr., won from Fredrick Levin. Based on all of the evidence, we have concluded earlier in this opinion that Sam and Louise did not underreport their income from the bar, and that, except for the two checks negotiated by Louise, their "collections" entries on the daily reports of the casino properly reflected the net amount of checks cashed. Though Sam was the owner of the Sage Patch, we have also held that he followed adequate accounting and recordkeeping procedures in the operation of his bar and casino. The only remaining factors relied on by the Commissioner are the $4,500 Sam won from Mr. Levin and the two checks negotiated by Louise. In each instance, we sustained the Commissioner's determinations because the petitioners failed to carry their burden of proof; the Commissioner presented no evidence to show that the omission of such payments was deliberate. See Holland v. United States,348 U.S. 121">348 U.S. 121, 348 U.S. 121">139 (1954); 1979 Tax Ct. Memo LEXIS 189">271 Spies v. United States,317 U.S. 492">317 U.S. 492, 317 U.S. 492">499-500 (1943). Moreover, such payments are clearly insufficient to establish a pattern of omissions of substantial amount of income. 348 U.S. 121">Holland v. United States,supra;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, 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. Nor is there any other evidence of fraud by the petitioners in this case. Accordingly, we hold that the Commissioner has failed to carry his burden of proving that any part of any of the underpayments of taxes was due to fraud. Decisions will be entered under Rule 155. Footnotes1. All statutory references are to the Internal Revenue Code of 1954 as in effect during the years in issue, unless otherwise indicated.↩a. There are slight unexplained mathematical errors in the totals.a. Other expenses included payroll, utilities, dice, bonus, charity, bookkeeping, withholding and social security taxes, auto bar, other bonuses, accountant, and depreciation.↩a. Other expenses included payroll, utilities, dice, bonus, charity, bookkeeping, withholding and social security taxes, auto bar, other bonuses, accountant, and depreciation.2. Unless otherwise indicated, all references to a Rule are to the Tax Court Rules of Practice and Procedure.↩3. The only issue the Commissioner raises with respect to Sam's method of reporting the checks is that he under-reported the net amount of checks on several occasions. The Commissioner does not argue that San should have included the full face value of the checks in income and then subsequently made adjustments to their income as the checks became worthless. In addition, the Commissioner does not question what happened to the dishonored checks after they were returned to the casino. Accordingly, we will not consider such issues, and we will confine our opinion to the issues as presented by the parties.4. Moreover, in his notice of deficiency for 1963, the Commissioner did not question the amount of the losses or whether they had been substantiated. To the extent the Commissioner raises such issue at the trial and on brief, it is new matter under Rule 142(a)↩, with respect to which he has the burden of proof.5. The petitioners have not argued that they are entitled to a deduction for expenses in excess of the bar income, and accordingly, we hold that they are not entitled to any deduction for such excess expenses.↩a. There is a slight unexplained mathematical error in the figures.↩6. Sec. 6653(b) provides in relevant part: (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. * * In the case of a joint return under section 6013↩, this subsection shall not apply with respect to the tax of a spouse unless some part of the underpayment is due to the fraud of such spouse.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621781/	RAYMOND J. STEVENS and NANCY J. STEVENS, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, RespondentStevens v. Comm'rDocket No. 26550-81.United States Tax CourtT.C. Memo 1985-16; 1985 Tax Ct. Memo LEXIS 613; 49 T.C.M. 491; T.C.M. (RIA) 85016; January 10, 1985. 1985 Tax Ct. Memo LEXIS 613">613 John W. Knapp, for the petitioners. Daniel P. Ramthun, for the respondent. GOFFE MEMORANDUM FINDINGS OF FACT AND OPINION GOFFE, Judge: The Commissioner determined a deficiency of $1,029 in petitioners' Federal income tax for the taxable year 1978. The sole issue for our decision is whether1985 Tax Ct. Memo LEXIS 613">614 petitioner Raymond J. Stevens was "away from home" within the meaning of section 162. 1FINDINGS OF FACT Some of the facts of this case have been stipulated. The stipulation of facts and attached exhibits are incorporated herein by reference. Petitioners, husband and wife, resided in Hillsborough, California, when the petition in this case was filed. They filed a joint Federal income tax return for the taxable year 1978. Nancy J. Stevens is a party herein by reason of filing a joint Federal income tax return with her husband for the taxable year 1978. All references to petitioner in the singular will refer to Raymond J. Stevens. Petitioner is a locomotive engineer who, at the time of trial, had been employed by the Southern Pacific Railroad Company for 32 years. During the taxable year 1978, he was regularly assigned the San Jose-San Francisco commuter run. Petitioner's home terminal during 1978 was in San Jose. The distance between San Jose and San Francisco is approximately 47 miles. Petitioner's job is very demanding and stressful and requires his full concentration at all times. 1985 Tax Ct. Memo LEXIS 613">615 A single run to San Francisco involves traveling over 52 grade crossings. There is the constant sound of whistles blowing and bells ringing, and other trains are often only three to five minutes behind and ahead. Trains running up the peninsula reach top speeds of about 70 miles an hour. By the time the train reaches its final destination, petitioner has picked up from 700 to 1400 passengers. On a typical one-trip 2 day, petitioner goes on duty in the round house in San Jose at 5:08 a.m., inspects his locomotive, takes it to the passenger depot and attaches it to a train, normally consisting of five to nine passenger cars. Approximately 35 to 40 minutes after he goes on duty, petitioner makes his run from San Jose to San Francisco, picking up commuters at almost every station along the way. Upon reaching San Francisco, petitioner pulls into the station and the passengers disembark. After attending to his engine, petitioner goes into the1985 Tax Ct. Memo LEXIS 613">616 round house, signs a register, and is released at 7:45 a.m., as mandated by the Federal Hours of Service Act, 45 U.S.C. sec. 61 et seq. (1982). He remains in San Francisco for 8 hours. During the 8-hour break on the one-trip day, petitioner first eats breakfast. Because there are no restaurants near the round house, he must go into the city of San Francisco to find a place to eat. After breakfast, petitioner returns to the bunk house provided by the Southern Pacific Railroad Company3 to lie down and rest, occasionally for 4 or 5 hours. After resting, he exercises, returns to the city for a late lunch, and then goes back to the bunk house for some more rest. Petitioner is considered on duty during his 8-hour break even though he is free to do anything he wishes during that time, except drink alcoholic beverages. He is not subject to call for duty during this period. At approximately 3:45 p.m., petitioner returns to the round house, picks up his engine, attaches it to another train, and makes his return run1985 Tax Ct. Memo LEXIS 613">617 to San Jose, arriving at about 5 p.m. He is released from duty in San Jose at 6:30 p.m. On an average one-trip day, petitioner is considered on duty for a total of 13 hours and 22 minutes. On a two-trip day, petitioner goes on duty at 4:30 in the morning. His train leaves San Jose at 5:05 a.m., picking up passengers at every stop as it heads up the peninsula, arriving in San Francisco at 6:30 a.m. Once in San Francisco, petitioner is allowed to leave his engine in order to get coffee and doughnuts and to relax for 10 or 15 minutes. At 7:10 a.m., he makes a run back to San Jose, arriving at 8:30 a.m. At 8:52 a.m., petitioner makes the first run of his second trip back to San Francisco, arriving at 10:30 a.m. He is released from duty at 11:00 a.m. Upon his release, petitioner goes to the bunk house to rest or relax for about 15 minutes. After lunch, petitioner reports back to work at 1:20 p.m. At 1:50 p.m., petitioner makes his return trip to San Jose where he is finally released from duty at 3:50 p.m., having made two trips covering 188 miles. Petitioner's total time on duty during the two-trip day is 11 hours and 20 minutes. Petitioner incurred expenses for meals1985 Tax Ct. Memo LEXIS 613">618 on both the one-trip days and the two-trip days and deducted the following amounts: Meals$2,316Transportation219$2,535Because his employer provided the sleeping facility, petitioner did not incur costs for lodging. The Commissioner disallowed these deductions for the following reasons: [I]t has not been established that these amounts were for an ordinary and necessary business expense, were expended for the purpose designated or that they were travel expenses away from home within the meaning of Section 162 of the Internal Revenue Code. OPINION The question for decision is whether petitioner's expenses for meals and transportation are deductible under section 162. Section 162(a)(2) provides for the deduction of all ordinary and necessary "traveling expenses (including amounts expended for meals and lodging * * )" incurred by the taxpayer "while away from home in the pursuit of a trade or business." 41985 Tax Ct. Memo LEXIS 613">619 The petitioner claims that he was "away from home" in a travel status, within the meaning of section 162(a)(2), when he was released from duty in San Francisco and is in this respect no different from other railroad trainmen who must rest at away-from-home terminals before commencing the return trip to their home terminals. Although respondent does not dispute that petitioner's expenses were incurred by petitioner at his away-from-home terminal, he argues that petitioner's rest periods were merely a function of the train schedule and that the nature of petitioner's work schedule was such that he did not need to be released for sleep or rest. Thus, respondent maintains that petitioner's expenses were personal and, therefore, not deductible under section 162. Respondent has specifically addressed the question of the deductibility of traveling expenses for railroad trainmen and, in 1940, adopted the so-called 5 "sleep or rest" rule: It is held that locomotive engineers and other railroad trainmen, who are required to remain at away-from-home terminals in order to obtain necessary rest prior to making a further run or beginning a return run to the home terminal, are1985 Tax Ct. Memo LEXIS 613">620 entitled to deduct for Federal income tax purposes the cost or room rental and meals while away from home on such runs. [I.T. 3395, 1940-2 C.B. 64.] We applied a similar construction in two cases. In Osteen v. Commissioner,14 T.C. 1261">14 T.C. 1261 (1950), a railroad postal clerk living in Greenville, South Carolina, was assigned a turn-around run to Charlotte, North Carolina. He was on duty continuously for a total of 6 hours and 20 minutes (7:55 p.m. to 2:15 a.m.) including one 30-minute break in Charlotte during which time he ate his third meal of the day. We denied Osteen a deduction for meals at Charlotte because petitioner was in no essentially different position from the worker who is unable to have one of his meals at home. His regular day's work, though it took him away from his home town, was less than seven hours, perhaps shorter1985 Tax Ct. Memo LEXIS 613">621 than the work day for the ordinary worker. * * * The fact that the meal was eaten at Charlotte offers no material difference. [14 T.C. 1261">14 T.C. 1262.] In Anderson v. Commissioner,18 T.C. 649">18 T.C. 649 (1952), however, the taxpayer was a railroad express employee assigned to trains running between Parsons, Kansas, and Oklahoma City, Oklahoma. His job required him to make two consecutive round trips from Parsons to Oklahoma City and return, layover in Parsons for 45 hours, then resume his duties after the layover for another two consecutive days. He would leave his home terminal in Parsons at 2:30 a.m. and return at 6:00 p.m. the same day. At Oklahoma City he would be released for 2-1/2 hours to eat and rest. The next day, he would leave at 12:00 noon and return at 5:00 a.m. On this trip he would be released for 3 hours. On each trip Anderson ate a meal and slept on a cot provided by the railroad in the baggage car during his release from duty. Although he incurred no lodging expenses, we allowed Anderson to deduct the expenses of both runs, not just the overnight run: We think it is too narrow a view of the facts not to regard both round trips1985 Tax Ct. Memo LEXIS 613">622 as overnight trips. Furthermore, it was necessary for the petitioner to obtain rest at the end of the outbound run before starting upon the return run. We believe, too, that the determination of the question should not depend upon the length of the rest period. The round trips required 16 and 18 hours during a rest period was necessary. The facts in this proceeding bring this petitioner within the ruling of the Commissioner, I.T. 3395, supra. [18 T.C. 649">18 T.C. 649, 18 T.C. 649">653.] In 1954, the Commissioner attempted to narrow his construction of the deduction as it applied to trainmen. A taxpayer cannot deduct the cost of his meals and lodging as away-from-home expenses merely because his duties require his physical absence from his principal or regular post of duty during part or all of his actual working hours. In order to deduct such expenses, it is essential that his absence on business from his principal or regular post of duty be of such duration that he cannot leave from and return to that location at the start and finish of, or before and after, each day's work; or at least that he cannot reasonably do so without being released from duty for sufficient time1985 Tax Ct. Memo LEXIS 613">623 to obtain necessary sleep elsewhere. * * * On the other hand I.T. 3395, C.B. 1940-2, 64, holds that railroad employees who are required to remain at an away-from-home terminal in order to obtain necessary rest prior to making a further run, or beginning a return run, may deduct their actual expenses for meals and lodging while away from their home terminal on such runs. The rest period contemplated by that ruling is not satisfied by the brief interval frequantly scheduled on "turn-around" service between the outbound and return runs during which the employee may be released from duty for the purpose of eating rather than sleeping. The line of demarcation between the two situations is generally referred to, for Federal income tax purposes, as an "overnight" trip, that is, a trip on which the taxpayer's duties require him to obtain necessary sleep away from his home terminal. On an "overnight" trip of this nature, and particularly in view of the unusual hours worked in the railroad industry, the employee need not be away from his home terminal for an entire 24-hour day or throughout the hours from dusk until dawn, as evidenced by the recent decision in David G. Anderson v. Commissioner,18 T.C. 649">18 T.C. 649,1985 Tax Ct. Memo LEXIS 613">624 acquiesce C.B. 1952-2, 1. [Rev. Rul. 54-497, 1954-2 C.B. 75, 78-79.] Subsequently, we discussed the rationale of both Osteen and Anderson in Herrin v. Commissioner,28 T.C. 1303">28 T.C. 1303 (1957), where we held that a truck driver could not deduct the cost of three meals on a 14-hour round trip. The driver was not released for rest or sleep at any time. Technically speaking, petitioner's regular working day includes a portion of 2 days. This factor by itself, however, has not been considered of great enough significance to require different tax treatment for nighttime as contrasted with daytime employees. Cf. Fred Marion Osteen,supra. Nor is the proximity in distance to one's home terminal important. Certainly, an employee who travels a 200-mile route will find himself equally as unable to return to his home for meals as an employee who travels a 346-mile route. The distinguishing factor instead has been whether or not the nature of the employment requires that the employee be released from work to obtain necessary sleep or rest prior to the completion of the journey.David G. Anderson,18 T.C. 649">18 T.C. 649. [1985 Tax Ct. Memo LEXIS 613">625 Herrin v. Commissioner,28 T.C. 1303">28 T.C. 1303, 28 T.C. 1303">1305 (1957). Emphasis added.] In Williams v. Patterson,286 F.2d 333">286 F.2d 333 (5th Cir. 1961), the taxpayer, a railroad conductor, worked a 16 to 18-hour day, every other day. On a run between Montgomery, Alabama, his tax home, and Atlanta, Georgia, he had a 6-hour layover in Atlanta prior to his return to Montgomery on the same day. The Court of Appeals for the Fifth Circuit held the cost of meals, lodging, and tips during the 6-hour layover deductible. The Court of Appeals, following our rationale in Anderson, defined the test as follows: [T]he employee is entitled to the deduction if the nature of his employment is such that he is released for sufficient time to obtain sleep and rest and he uses the time for sleep and rest. There are no facts showing that the railroad tied any strings to Anderson's free time. We read Osteen, Anderson, and Herrin, therefore, as not requiring any narrowing of the language of I.T. 3395, 1940-2 Cum.Bull. 64. [286 F.2d 333">286 F.2d 333, 286 F.2d 333">338.] Thus, the Fifth Circuit concluded that 16 hours was in fact substantially longer than an ordinary workday and that it1985 Tax Ct. Memo LEXIS 613">626 was reasonably necessary for Williams to sleep during his layover in order to carry out his assignment even though no statute, regulation, or railroad order required him to sleep or rest prior to his return run. In Rev. Rul. 61-221, 1961-2 C.B. 34, the Internal Revenue Service announced that it would follow the Patterson construction of the "sleep or rest" rule, a construction similar to that in 18 T.C. 649">Anderson v. Commissioner,supra, viewing it as the "correct rule." The Commissioner also reaffirmed his earlier Revenue Ruling 54-497. The Commissioner added, however, that he did not consider a brief period of release for the purpose of eating rather than sleeping as an adequate rest period to satisfy the "sleep or rest" rule. In Hanson v. Commissioner,298 F.2d 391">298 F.2d 391 (8th Cir. 1962), revg. 35 T.C. 413">35 T.C. 413 (1960), the Eighth Circuit rejected the overnight rule using an approach different from that of the Fifth Circuit in Williams. The Eighth Circuit stated that the only test authorized by the statute was whether the taxpayer was "away from home." After a conflict in the circuits developed, the1985 Tax Ct. Memo LEXIS 613">627 Supreme Court took the opportunity to examine the Commissioner's rule. 6 In United States v. Correll,389 U.S. 299">389 U.S. 299 (1967), the taxpayer, a traveling salesman, lived almost 50 miles from his wholesale grocer-employer's place of business and was compelled to leave his home every morning at 5:00 a.m. in order to be at work at the start of the business day. His daily sales activities were completed by 4:00 p.m., and after phoning in his daily orders he left his employer's office, returning home by 5:30 p.m. The taxpayer deducted the cost of breakfast and lunch eaten on the road as "traveling expenses." The Commissioner disallowed the expenses because the taxpayer's daily trips required neither sleep nor rest. The Supreme Court sustained the Commissioner's determination giving its imprimatur to the Commissioner's "sleep or rest" rule. 71985 Tax Ct. Memo LEXIS 613">628 In Barry v. Commissioner,54 T.C. 1210">54 T.C. 1210 (1970), affd. 435 F.2d 1290">435 F.2d 1290 (1st Cir. 1970), we examined the sleep or rest rule of 286 F.2d 333">Williams v. Patterson,supra, after Correll. We observed that in Williams the "'rest' involved was substantial in time, and special provision was made for it; his rest was not confined to a mere pause in the daily work routine." 54 T.C. 1210">54 T.C. 1213. We also pointed out that the Commissioner previously held such expenses to be deductible by ruling prior to Williams,I.T. 3395, 1940-2 C.B. 64, and that he announced an intention to follow the Williams decision, Rev. Rul. 61-221, 1961-2 C.B. 34. We concluded that the rest period which is contemplated in the respondent's rule, and which was approved by the Supreme Court in Correll, is the type illustrated by Williams and not "(a brief rest period) that anyone can, at any time, without special arrangement and without special expense, take in his own automobile or office." 54 T.C. 1210">54 T.C. 1213. Furthermore, the sleep or rest rule requires a stop of sufficient duration that it would normally1985 Tax Ct. Memo LEXIS 613">629 be related to a significant increase in expenses. 435 F.2d 1290">435 F.2d at 1291; Chappie v. Commissioner,73 T.C. 823">73 T.C. 823, 73 T.C. 823">830 (1980). In Rev. Rul. 75-170, 1975-1 C.B. 60, long after the Supreme Court decision in Correll, the Commissioner updated and restated his position on the "sleep or rest rule" as applied to railroad employees: * * * [R]ailroad employees who stop performing their regular duties (with their employer's tacit or expressed concurrence) at away-from-home terminals in order to obtain substantial sleep or rest prior to making a return run to the home terminal, are entitled to deduct their costs of meals and lodging (including expenses incident thereto, such as tips) as traveling expenses pursuant to section 162(a) of the Code. Further, such absence need not be for an entire 24-hour day or throughout the hours from dusk until dawn, but it must be of such duration or nature that the taxpayers cannot reasonably be expected to complete the round trip without being released from duty, or otherwise stopping (with their employer's tacit or expressed concurrence) the performance of their regular duties, for sufficient time to obtain substantial1985 Tax Ct. Memo LEXIS 613">630 sleep or rest. However, the Service does not consider the brief interval during which employees may stop, or be released from duty, for sufficient time to eat, but not to obtain substantial sleep or rest, as being an adequate rest period to satisfy the requirement for deducting the cost of meals on business trips completed within one day. Thus, amounts incurred and paid for such meals are not deductible. [1975-1 C.B. 60, 61; citations omitted. See also Rev. Rul. 75-432, 1975-2 C.B. 60.] Petitioner, as a railroad employee, is subject to the Hours of Service Act (sometimes hereafter referred to as the "Act"), enacted March 4, 1907, 45 U.S.C. sec. 61 et seq. This Act, in general, provides that it is unlawful for a railroad (1) to require or permit an employee who has been continuously on duty for 12 hours 8 to continue on duty or to go on duty until he has had at least 10 consecutive hours off duty; or (2) to require or permit an employee to continue on duty or to go on duty when he has not had at least 8 consecutive hours off duty during the preceding 24 hours. 45 U.S.C. sec. 62. 1985 Tax Ct. Memo LEXIS 613">631 The Act also provides that time on duty commences when the employee reports for duty and terminates when the employee is released from duty and includes interim periods available for less than 4 hours rest at designated terminals. See 45 U.S.C. sec. 61. The purpose of the Hours of Services Act is to promote safety in operating trains by preventing excessive mental and physical strain whcih results from remaining too long at an exacting task. Chicago & Alton R.R. Co. v. United States,247 U.S. 197">247 U.S. 197 (1918). The need for the Act was made manifest by deplorable casualties attributable to the fact that men were required to operate trains after exhausting their physical and mental powers. Atchison, Topeka & Santa Fe Ry. Co. v. United States,269 U.S. 266">269 U.S. 266 (1925). After examining the development and present status of the sleep or rest rule, we conclude that the rule's purpose of promoting safety does not mandate a finding for petitioners in this case. Petitioner receives an 8-hour break on his one-trip day, but receives only brief breaks on his two-trip day, which could be presumed to be at least twice as arduous as1985 Tax Ct. Memo LEXIS 613">632 the one-trip day. As to the 2-hour-and-20-minute release period on the two-trip days, petitioners have not made a showing sufficient to meet their burden of proving that the purpose of this period of release was to obtain substantial sleep or rest. Petitioner testified that, after eating, he would lie down for 15 minutes and that sometimes he would do this "in the engine when it's in the depot." Thus, petitioners have not shown that the rest during the shorter release period was substantial in time, that special provision was made for it, or that it was more than a mere pause in petitioner's daily work routine. See Barry v. Commissioner,54 T.C. 1210">54 T.C. 1210 (1970), affd. 435 F.2d 1290">435 F.2d 1290 (1st Cir. 1970). The longer release period on the one-trip days results solely from the combination of petitioner's schedule and Federal regulation, and appears to have little relationship to petitioner's actual need for substantial rest or sleep. Only a 4-hour rest period was actually required by regulation, as petitioner's total work day would then have been less than 12 hours. The fact that petitioner's work day did exceed 12 hours was a mere fortuitous result1985 Tax Ct. Memo LEXIS 613">633 of the fact that the return run on the one-trip day did not take place until late in the day. We are unable to find that the release periods on either the one-trip or two-trip days were required for substantial rest or sleep. Petitioner used the breaks primarily to obtain food or take short breaks for relaxation, and only occasionally used the facilities provided for sleeping. The situation here is no different from that of many employees with long work days. 389 U.S. 299">United States v. Correll,supra;28 T.C. 1303">Herrin v. Commissioner,supra.The situation in the instant case is far different from that in 286 F.2d 333">Williams v. Patterson,supra, where the 16-hour work day, substantially longer than an ordinary work day, required that the employer provide the employee sufficient time to obtain sleep, and the employee used that time for sleep or rest. The Commissioner's determination that these expenses are not deductible is therefore sustained. Decision will be entered for the respondent.Footnotes1. All section references are to the Internal Revenue Code of 1954, as amended.↩2. "One-trip" and "two-trip," as used in this opinion, refer to round trips from San Jose to San Francisco, and return. A "run" is one-half of one trip, either from San Jose to San Francisco or San Francisco to San Jose.↩3. The rest area provided for its employees by the railroad is a room with bunk beds and special shades which keep the room dark.↩4. Meals and lodging costs are considered traveling expenses; transportation costs, however, such as bus fare, are different and need not be incurred away from home to be deductible.Sec. 62(2)(C)↩. But see sec. 262.5. This rule was originally referred to as the "overnight" rule, and the terms are sometimes used interchangeably. There is no requirement, however, that a taxpayer be away from home for an entire 24-hour day or between the hours from dusk until dawn. Anderson v. Commissioner,18 T.C. 649">18 T.C. 649↩ (1952).6. Commissioner v. Bagley,374 F.2d 204">374 F.2d 204 (1st Cir. 1967); Hanson v. Commissioner,298 F.2d 391">298 F.2d 391 (8th Cir. 1962); Williams v. Patterson,286 F.2d 333">286 F.2d 333↩ (5th Cir. 1961). 7. 286 F.2d 333">Williams v. Patterson,supra↩ at 336; see 17 N.Y.U. Tax L. Rev. 261, 273 (1962).8. Dec. 26, 1969, Pub. L. 91-169, sec. 1, 83 Stat. 463. The statute as originally enacted in 1907 provided for a 16-hour duty period. The 1969 amendment reduced the period to 14 hours and then a 12-hour period effective December 26, 1970.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621782/	BETTY L. WILLIFORD, Petitioner v. COMMISSIONER OF INTERNAL REVENUE, RespondentWilliford v. CommissionerDocket No. 8044-91United States Tax CourtT.C. Memo 1992-445; 1992 Tax Ct. Memo LEXIS 475; 64 T.C.M. 401; August 10, 1992, Filed Decision will be entered for respondent. For Petitioner: Joseph Blackwell. For Respondent: John E. Budde. GUSSISGUSSISMEMORANDUM OPINION GUSSIS, Special Trial Judge: This case was assigned for trial pursuant to the provisions of section 7443A(b)(3) and Rules 180, 181, and 182. 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, unless otherwise indicated. Respondent determined a deficiency in petitioner's Federal income tax for 1987 in the amount of $ 3,289 and additions to tax under section 6653(a)(1)(A) and (B). The issues for decision are: (1) Whether petitioner has substantiated Schedule E rental expenses in excess of the amount allowed by respondent; and (2) whether petitioner is liable for additions to tax for negligence under section 6653(a)(1)(A) and (B). Some of the facts were stipulated, and they are so found. The stipulation of facts and attached exhibits are incorporated by this reference. Petitioner was a resident of Cleveland, Ohio, at the time the petition herein was filed. Petitioner claimed rental expenses on Schedule 1992 Tax Ct. Memo LEXIS 475">476 E of her 1987 income tax return in the total amount of $ 30,369 with respect to six rental properties in Cleveland. Petitioner occupied one-half of one of the properties. Respondent in her notice of deficiency allowed an additional rental expense deduction of $ 218 with respect to one of the rental properties and disallowed the following rental expense deductions claimed with respect to the remaining five rental properties: Property #2, 841-843 E. 141st St.Commissions$ 300Repairs1,450Total$ 1,750Property #3, 14008-10, Shaw Ave.Other Interest$ 365Utilities1,725Total$ 2,090Property #4, 1721 Allendale Ave.Repairs$ 2,550Total$ 2,550Property #5, 14613-15 Potomac Ave.Commissions$ 275Insurance255Repairs4,192Taxes413Utilities1,047Total$ 6,182Property #6, 13319-21 Shaw Ave.Insurance$ 150Repairs2,550Utilities1,741Total$ 4,441Petitioner has the burden of showing that she is entitled to rental expense deductions in excess of the amounts allowed. Rule 142(a); Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933). It appears that during 1987 the rental properties were managed by War-Cel Realty (War-Cel), 1992 Tax Ct. Memo LEXIS 475">477 an entity owned and operated by Wardel Williford, petitioner's third cousin. Mr. Williford died in 1989. Petitioner had no formal agreement with War-Cel concerning the management of the properties. She apparently received monthly statements from War-Cel which she did not question. Petitioner's knowledge about the properties was singularly limited. She never visited the properties here at issue. She was markedly unaware of the most basic details involved in the acquisition and operation of the properties. It also appears that she transferred one of the rental properties to Mr. Williford's surviving children in 1991 for no consideration. On this sketchy and highly unsatisfactory record, we are unable to find that petitioner is entitled to expense deductions in excess of the amounts allowed by respondent. Petitioner demonstrated an almost complete unfamiliarity with the properties involved and with the operation of such properties. We have examined the War-Cel monthly statements with respect to the operation of some of the properties and find them unconvincing. For the most part, the statements are no more than conclusory totals of expense items. No substantiation for these1992 Tax Ct. Memo LEXIS 475">478 totals is in evidence. No breakdown of the various expense totals appears in the statements. For some unexplained reason, the monthly statements for one of the properties (the Potomac property) pertain largely to the year 1989 rather than to 1987, the year at issue. Moreover, it appears that on occasion the accountant who prepared petitioner's 1987 return simply accepted an expense amount supplied in telephone contacts with War-Cel. The accountant could not recall whether he was provided with documentary evidence to support the War-Cel monthly statements he used in preparing petitioner's returns. We find this significant in view of the disproportionately large expense items appearing on the monthly statements. In short, we find the monthly statements wholly unreliable and unpersuasive. On this record, we must conclude that petitioner has failed to meet her burden of showing that she is entitled to a deduction for the disallowed expenses in excess of the amounts allowed by respondent. Respondent is therefore sustained. Section 6653(a)(1)(A) provides that if any part of any underpayment is due to negligence or intentional disregard of rules or regulations, there shall be added1992 Tax Ct. Memo LEXIS 475">479 to the tax an amount equal to 5 percent of the amount of the underpayment. Section 6653(a)(1)(B) provides that if any part of the underpayment is due to negligence or intentional disregard of rules or regulations, there shall be added to the tax an amount equal to 50 percent of the interest payable under section 6601 with respect to the portion of such underpayment which is attributable to negligence. Negligence is the 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, 85 T.C. 934">947 (1985). Petitioner has the burden of proof. Bixby v. Commissioner, 58 T.C. 757">58 T.C. 757, 58 T.C. 757">791 (1972). Petitioner displayed an almost complete unfamiliarity with the acquisition and operation of the rental properties and a ready acceptance, with no independent inquiry, of the disproportionately large expenditures (as compared to her reported income) which were purportedly incurred. We do not believe that petitioner acted reasonably, prudently, or with due care. Taxpayers are required to maintain sufficient records to substantiate claimed deductions and credits. See sec. 1.6001-1(a), 1992 Tax Ct. Memo LEXIS 475">*480 Income Tax Regs. Petitioner apparently kept no records. Instead, she relied exclusively on the cursory monthly statements supplied by War-Cel and did not question these statements or request documentation to validate them even when various items clearly invited scrutiny. On the basis of this record, therefore, we must sustain respondent's determination on this issue. Decision will be entered for respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621783/	MRS. J. C. ERWIN, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT. J. C. ERWIN, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Erwin v. CommissionerDocket Nos. 10250, 10251.United States Board of Tax Appeals7 B.T.A. 919; 1927 BTA LEXIS 3062; August 1, 1927, Promulgated 1927 BTA LEXIS 3062">3062 A demand note to cover petitioners' proportion of a loss was given to a bank on December 18, 1920, with instructions to charge it against petitioners' checking account as soon as that account was sufficient to liquidate the note. On December 30, 1920, the checking account was large enough to liquidate the note. The note, however, was not charged against the checking account until January 18, 1921. Held, that payment of the note was made in December, 1920, and the loss was deductible in 1920. J. M. McMillan, Esq., J. Robert Sherrod, Esq., and W. W. Rankin, C.P.A., for the petitioners. Arthur H. Murray, Esq., for the respondent. LOVE 7 B.T.A. 919">919 These proceedings, duly consolidated for disposition upon the facts as stipulated by the parties hereto, involve deficiencies of $52.62 for the calendar year 1920 against each of the petitioners. The deficiencies result from the respondent's disallowance as a deduction from gross income of each of the petitioners for the year 1920, of the amount of $1,315.65, being one-half of a loss alleged to have been sustained in that year. It is stipulated that if the respondent's determination is approved, 1927 BTA LEXIS 3062">3063 the deficiency in tax as to each petitioner for the year 1920, is $52.62. FINDINGS OF FACT. The petitioners are husband and wife residing in the State of Texas. All income accruing to the petitioners arose under the community property law of the State of Texas, and for the calendar year 1920, each filed a separate income-tax return reporting thereon, on a cash receipts and disbursement basis, one-half of the community income. On December 18, 1920, the petitioner, J. C. Erwin, gave to the Collin County National Bank a noninterest-bearing demand note for $2,631.30 to cover an indebtedness to that bank, which indebtedness is stipulated as "Collin County National Bank loss." At the time of giving the note, the petitioner, J. C. Erwin, gave instructions to the bank that the note should be charged against his checking account when the balance in that account was sufficient to liquidate the note. On December 18, 1920, the balance in the checking account was $2,510.99 and on December 30, 1920, the balance was $2,911.82. 7 B.T.A. 919">920 On January 18, 1921, the Collin County National Bank charged the note for $2,631.30 against the checking account of the petitioner, J. C. Erwin. 1927 BTA LEXIS 3062">3064 The petitioners in their income-tax returns for the year 1920, each deducted the amount of $1,315.65 as a loss sustained in that year. Upon audit of the returns the Commissioner disallowed the deduction so taken by each petitioner and determined that the note for $2,631.30 was paid in 1921, and that the loss should have been deducted in that year. OPINION. LOVE: The petitioners contend that the balance in the checking account of the petitioner, J. C. Erwin, having been on December 30, 1920, greater than the amount of the note, the bank could and should have charged the note against that account on that day as it had theretofore been instructed to do and for that reason it is urged that payment to the bank was made and the resulting loss sustained in the year 1920. The bank having been given authority, instructions and directions to charge the note against the checking account when that account became large enough to cover the note, the petitioners had done all that was necessary on their part and the failure of the bank to make the book entry can not delay the right to take the deductions. The question presented is one of law as there is no disagreement as to the facts. 1927 BTA LEXIS 3062">3065 It is not disputed that a deductible loss was sustained. The year in which such loss was sustained is, however, in dispute. The question we are called upon to decide is whether J. C. Erwin, by reason of the fact that he instructed the bank to charge the demand note for $2,631.30 against his checking account when it became sufficient to liquidate the note and which was sufficient to do so on December 30, 1920, made payment to the bank and sustained, by reason of such payment, the loss in 1920 notwithstanding the fact that the bank did not charge the note against his account until January 18, 1921. In the case at bar the petitioner had given instructions and those instructions were intended and so understood by all parties to the transaction, to be in lieu of a check, dated on the date when the account became sufficient to pay the note; and was, in effect, a check drawn against that account, as of that date, in payment of that note. Under the facts of this case, we hold that payment of the note was made and the loss sustained in 1920. Judgment of no deficiency will be entered for the petitioners.Considered by SMITH and LITTLETON.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621784/	JOSEPH M. PRICE, PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Price v. CommissionerDocket No. 13826.United States Board of Tax Appeals12 B.T.A. 1186; 1928 BTA LEXIS 3386; July 6, 1928, Promulgated 1928 BTA LEXIS 3386">3386 Contribution to the civic fund of the City Club of New York held not deductible. Richard Welling, Esq., for the petitioner. Frank S. Easby-Smith, Esq., for the respondent. ARUNDELL12 B.T.A. 1186">1186 Proceeding for the redetermination of a deficiency in income tax for 1921 in the amount of $21.84. Only so much is in controversy as result from the disallowance of a claimed deduction for a contribution to the civic fund of the City Club of New York. FINDINGS OF FACT. In 1921 petitioner, a resident of New York City, contributed $148 to the civic fund of the City Club of New York. The City Club of New York is a corporation. Its purposes, as stated in its articles of incorporation, are as follows: The particular business or object of such society or club shall be to promote social intercourse among persons specially interested in the good government of the City of New York, in securing honesty and efficiency in the administration of city affairs, in severing municipal from national politics, and in procuring and election of fit persons to city offices; and to take such action as may tend to the honest, efficient and independent government of1928 BTA LEXIS 3386">3387 the City of New York; and for these purposes, to establish and maintain in the City and County of New York, for the use of ourselves and such others, above mentioned, a clubhouse, having a liabrary, a reading-room, a publication office for the distribution of the publications of the Club, and such other appurtenances and belongings as are usual in clubs and club houses and publishing offices. Its purpose as set forth in its constitution is as follows: The purpose of The City Club of New York shall be to aid in securing permanent good government for the City of New York by: 1. The divorce of the city's affairs from national party politics. 2. The establishment and maintenance of an efficient and responsible form of city government. 3. Honest and fair methods of nominating and electing municipal officers. 4. The improvement of economic and social conditions in the city. 5. Conducting discussions of the affairs and problems of the city. 6. Providing, through the facilities of a social club, means of intercourse and co-operation among citizens, officials, and organizations interested in the city's welfare. The City Club of New York pledges itself not to participate1928 BTA LEXIS 3386">3388 in the nomination, election, or appointment of candidates to any office, nor to conduct any political activities except such as are involved in legislation affecting the city, or the adoption or rejection by the city government of measures of public policy. This shall not preclude proceedings for the removal of public officers on definite charges. 12 B.T.A. 1186">1187 No citizen of the City of New York shall be debarred from membership in the Club by reason of his party affiliations. The club has a clubhouse, containing a library, dining room, meeting rooms, and bedrooms. It does not have any recreational facilities such as billiard rooms or bowling alleys. Each year the club obtains contributions from 600 or 700 persons, most of whom are club members, to make up a so-called civic fund. This fund is raised and kept separate and distinct from club funds and is spent on what the club designated as its civic work. This work consists largely of obtaining reports on bills introduced in the State legislature, selecting such as are within the scope of the purposes for which the club is formed, and either advocating or opposing their passage. Other purposes for which the civic fund is1928 BTA LEXIS 3386">3389 raised are the drafting and introduction of legislative measures, investigations and reports on municipal matters such as street railway operation and fares, housing problems, and various phases of administration of the city government. In advocating or opposing particular measures, reports are prepared by the club, or its committees, and are printed in pamphlet form. The following is a statement of the subscriptions to and expenditures made from the civic fund for the year ended September 30, 1921: Subscriptions$23,105.89Expenses: Secretary and assistant$10,750.00Clerks4,005.67Postage307.92Printing and supplies1,003.15Telephone, telegrams, and messengers521.71Civic service1,813.67Legislative information75.00Miscellaneous700.69Total19,177.81Excess subscriptions over expenses3,928.08The amount contributed to the civic fund each year is around $20,000. OPINION. ARUNDELL: The deduction sought by the petitioner is claimed under section 214(a)(11) of the Revenue Act of 1921 which allows, among other things, the following: Contributions or gifts made within the taxable year to or for the use of: * * * any1928 BTA LEXIS 3386">3390 corporation, or community chest, fund, or foundation, organized and operated exclusively for religious, charitable, scientific, or educational purposes, * * no part of the net earnings of which inures to the benefit of any private stockholder or individual; * * . The 12 B.T.A. 1186">1188 claim is here made that the objects for which the civic fund is raised bring that fund within the "educational purposes" clause of the section of the statute quoted. It does not appear that the civic fund is a distinct entity so that its nature and functions can be considered and determined entirely separate and apart from the City Club. While the monies contributed to the fund were apparently administered apart from other club monies, it appears that the activities for which the fund was expended were merely a part of the larger political and civic enterprises of the club. We have in evidence a number of booklets and pamphlets, some of which deal with subjects within the scope of the purposes for which the civic fund was maintained, but all apparently published by the City Club as they all bear the name of the club and purport to be club publications and not publications of the so-called civic1928 BTA LEXIS 3386">3391 fund. In this situation we do not see how we can determine the status of the fund for tax purposes except as it is a part of the City Club. In other words, contributions to the City Club's civic fund are deductible or not, dependent upon whether the club itself meets the statutory tests. These tests are set out in the opinion in , a case which arose under the Revenue Act of 1918, but equally applicable here, as follows: In order to be exempt, the corporation or association must meet three tests: (a) It must be organized and operated for one or more of the specified purposes; (b) it must be organized and operated exclusively for such purposes; and (c) no part of its income must inure to the benefit of private stockholders or individuals. The respondent does not question that the club meets the third of the enumerated requisites, and it appears from the annual reports in evidence that there was no income which could inure to any stockholder or individual. There remains then the application of the other two elements. It is quite clear from the parts of the articles of incorporation and the constitution that we have quoted that the1928 BTA LEXIS 3386">3392 club was not organized for the purposes enumerated in the statute. and it is equally plain from the evidence that it was not operated for such purposes. It was, rather, an institution organized and operated for the purpose of advocating such legislation and municipal action as it believed would make for good municipal government and opposing such measures as it deemed detrimental to the municipality. An idea of its activities can well be gained from the club's publications placed in evidence. We list here the titles of some of them selected at random: "Pending Amendments to the State Constitution"; "Development of the Port of New York"; "Automatic Compensation for Automobile Accident Victims"; "The Housing Crises"; "Rules of Legislative Procedure, Changes, Recommended"; "Preliminary Report on Voting Machines"; "A Useless Census - Shall 12 B.T.A. 1186">1189 We Continue It?"; "Why Delinquent Public Officers Escape, A Loop-Hole in the Law"; "Public Employment Exchanges"; "The Transit Problem of Brooklyn"; "Memorandum of the City Club with Relation to the Qualifications of Certain Candidates for the State Legislature." Even if it be conceded that there is some element of education in the1928 BTA LEXIS 3386">3393 dissemination of information through the club's publications, its advocacy of or opposition to candidates and proposed municipal measures carries it beyond the exclusively educational purposes contemplated by the taxing statute. See Judgment will be entered for the respondent.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621785/	SAFE DEPOSIT AND TRUST COMPANY OF BALTIMORE, AS EXECUTOR OF THE LAST WILL AND TESTAMENT OF HOMER G. DAY, DECEASED, (ESTATE OF HOMER G. DAY), PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.Safe Deposit & Trust Co. v. CommissionerDocket No. 91601.United States Board of Tax Appeals41 B.T.A. 580; 1940 BTA LEXIS 1165; March 15, 1940, Promulgated 1940 BTA LEXIS 1165">1165 ESTATE TAX. - An inter vivos transfer of property in trust, with reservation to the grantor of the power to revoke, alter, or change the terms of the trust in the event he should marry, held, to be a transfer with provision for a possible reverter to the grantor upon a contingency terminable by his death and thus a transfer intended to take effect in possession or enjoyment at or after death within the meaning of section 302 (c) of the Revenue Act of 1926, as amended. Helvering v. Hallock,309 U.S. 106">309 U.S. 106, followed. Richard P. Crenshaw, Jr., Esq., for the petitioner. Harold F. Noneman, Esq., for the respondent. TYSON 41 B.T.A. 580">580 OPINION. TYSON: This proceeding involves a Federal estate tax deficiency of $1,420.42, resulting from the respondent's determination that the value of the corpus of two trusts created by decedent inter vivos is includable in his gross estate under the provisions of section 302(c) and (d) of the Revenue Act of 1926, as amended. Petitioner assigns error in such determination and alleges that the decedent's estate is entitled to a refund of estate tax of $22.35 plus interest from November 15, 1935. 1940 BTA LEXIS 1165">1166 The proceeding has been submitted upon facts admitted by the pleadings, oral testimony, and a stipulation of facts embracing certain exhibits, which stipulation is included herein by reference as a part of our findings of fact. The petitioner, a Maryland trust company, is the sole executor of the last will and testament of Homer G. Day, who was born on January 12, 1886, and died on May 27, 1935, a resident of the City, County, and State of New York. On or about April 6, 1929, and February 1, 1930, the decedent herein transferred to petitioner, as trustee, certain property under two written trust instruments executed and delivered by decedent on those dates, respectively. Neither of those transfers in trust was made in contemplation of death. Each of the trust instruments provided that the net income from the principal of the trust should be paid to the grantor (decedent herein) during his lifetime and that after his death the income, and eventually the principal, of the trust should be paid to designated 41 B.T.A. 580">581 persons in the manner therein provided. Each trust instrument further provided as follows: The right to revoke this Deed in whole or in part or to alter1940 BTA LEXIS 1165">1167 or change any of its terms and provisions is hereby expressly waived by me, except only in the event I should marry, in which event the right is reserved to me from time to time to revoke the trust in whole or in part or to alter or change any of its terms or provisions, * * At the time of the decedent's death he was 49 years of age and he had never married and neither of the trusts involved herein had been altered, amended, or revoked. The petitioner herein is still administering the trust property in accordance with the terms of the trust instruments. On May 27, 1935, the date of decedent's death, the value of the property subject to the trust instrument dated April 6, 1929, was $33,310.18 and the value of the property (other than insurance payable to the trustee) subject to the trust instrument dated February 1, 1930, was $9,154.19. In determining the deficiency here involved, the respondent included in the decedent's gross estate the above stated values of the properties transferred under the two trust instruments. Respondent contends, inter alia, that the decedent's inter vivos transfers in trust were "intended to take effect in possession or enjoyment at or1940 BTA LEXIS 1165">1168 after his death" within the meaning of section 302(c) of the Revenue Act of 1926, as amended by section 803 of the Revenue Act of 1932. 1 Petitioner contends that the transfers were complete when made; that at date of his death the decedent did not have a presently existing power of revocation because his reserved power was conditioned upon the remote contingency of his marriage, which never happened, and, further, that the decedent reserved only a mere possibility of reverter of the principal of the two trusts. In our opinion, the broad principle of Federal estate tax law announced by the Supreme Court in 1940 BTA LEXIS 1165">1169 , is controlling here. The Court there held that section 302(c) of the Revenue Act of 1926, as amended, relating to inter vivos transfers "intended to take effect in possession or enjoyment at or after his death", embraces an inter vivos transfer of property where the instrument making such transfer provides for a possible return or reverter of the property to the grantor upon a contingency terminable at his death; and this irrespective of the 41 B.T.A. 580">582 technical form of conveyance used by the grantor to hold the ultimate disposition of his property in suspense until his death. In the instant case we need not inquire into the character of the grantor's (decedent's) reserved power of revocation, i. e., whether it was a presently existing power or a power conditioned upon the happening of some future contingency. Here the interests of the beneficiaries (other than the life interest of the grantor decedent) under the two trust instruments were, by reason of the death of the grantor and not until then, freed from the possibility of a reverter of the principal of the trusts to the grantor and also not until the death of1940 BTA LEXIS 1165">1170 the grantor could the beneficiaries acquire dominion over the income or principal of the trusts - a dominion which they did not have prior to the grantor's death, as was also true in the Hallock case, supra. Here there was the possibility that a reverter of the principal of the trusts could be effectuated by the grantor's marriage and by his revocation of the trusts thereafter. Thus, because of the effect of grantor's death thereon his transfers in trust of the property here involved were "intended to take effect in possession or enjoyment at or after his death" within the meaning of section 302(c) of the Revenue Act of 1926, as amended, supra, and the value of the property embraced in the two trusts is to be included in the decedent's gross estate. Decision will be entered for the respondent.Footnotes1. 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 - * * * (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, * * * ↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621787/	NATIONAL LAND CO., PETITIONER, v. COMMISSIONER OF INTERNAL REVENUE, RESPONDENT.National Land Co. v. CommissionerDocket No. 11130.United States Board of Tax Appeals10 B.T.A. 527; 1928 BTA LEXIS 4080; February 6, 1928, Promulgated 1928 BTA LEXIS 4080">4080 1. Where profit realized from sale of land was not included in a return for the calendar year 1919, held, upon the facts shown, that there was no false or fraudulent understatement with intent to evade the tax. 2. Assessment on November 21, 1925, of taxes for the calendar year 1919 held barred by the statute of limitations, the return having been filed on March 14, 1920. James C. Peacock, Esq., and M. H. Barnes, C.P.A., for the petitioner. C. H. Curl, Esq., for the respondent. SIEFKIN10 B.T.A. 527">528 The taxes in controversy are income and excess profits taxes for the calendar year 1919 in the amount of $3,576.20. The petitioner is also charged with fraud in the preparation of its return for that year. The deficiency alleged is $2,384.12 and a penalty of $1,192.07 was asserted by the respondent. The petitioner assigns as error the claim of the respondent that petitioner was guilty of fraud in the preparation of its tax return for the year 1919. FINDINGS OF FACT. The petitioner is a Georgia corporation with its principal office at Savannah. The deficiency letter was mailed to petitioner on November 21, 1925, and states a deficiency1928 BTA LEXIS 4080">4081 of $3,576.20. The return for the calendar year was filed March 14, 1920. No assessment or collection of the deficiency asserted was made within five years from March 14, 1920. During 1919, the books of the petitioner were kept by James A. Gross, who is now dead. The president at that time was W. H. Johnson, who is now incapacitated. C. H. Bell, who was treasurer of the corporation at that time and who, with Johnson, filed the return for 1919, is also deceased. In 1919, the National Land Co. sold certain land for an agreed price of $25,000, of which $10,000 was paid in 1919. The cost of this land was $10,300. No amount was included in the income and profits-tax return of the company on account of such sale. With the return there was filed a trial balance showing a property account at the beginning of 1919 of $139,358.19 and at the end of the year of $123,060.79. It was stipulated by the parties that the net income of $13,365.49 asserted by the respondent should be increased by miscellaneous items aggregating $279.72, which were not included in the return, and should be reduced by $199.57, nontaxable Liberty bond interest and $6,354.91 understatement in deduction for interest1928 BTA LEXIS 4080">4082 paid by petitioner. The petitioner, during the year 1919, was not very active, and employed no expert assistance in making out its tax return. The farm account of the petitioner contains an item of $4,464, which a witness testified was not income in 1919, but was a summary of the farm account over a number of years to make a balance. In this account there was nothing received and nothing paid in 1919. In its return, the petitioner showed a gross income of $6,354.91, composed entirely of interest received, and deductions of $7,689.42, resulting in a deficit. The respondent determined that in 1919 the petitioner, by selling a parcel of land for $25,000, made a profit of $14,500, which the petitioner did not include in its return. 10 B.T.A. 527">529 OPINION. SIEFKIN: The first question to be considered in this case is whether the petitioner is guilty of an intent to defraud, as a result of its failure to include certain items in its return for the year 1919. Section 250(b) of the Revenue Act of 1918 reads, in part, as follows: If the understatement is false or fraudulent with intent to evade the tax, then, in lieu of the penalty provided by section 3176 of the Revised Statutes, 1928 BTA LEXIS 4080">4083 as amended, for false or fraudulent returns willfully made, but in addition to other penalties provided by law for false or fraudulent returns, there shall be added as part of the tax 50 per centum of the amount of the deficiency. In this proceeding the parties who filed the original return for 1919 are not available as witnesses, one being dead and the other being incapacitated. However, it is shown that the errors in the return are not all in favor of the petitioner. An item of $6,354.91 and one of $199.57 were included as income by the petitioner, which were properly deductible from income. As against this there is an item of $14,500, the profit from the sale of a parcel of land, an item of $279.72, and an item of $4,444.62, which were not included as income in the return. The last item, we find from the evidence, was not income during the year 1919, being the summary of the farm account carried from previous years. There was apparently to attempt to conceal the transaction, since the balance sheet submitted with the return showed a decrease of $16,299.40 in the property account during the year 1919. The cost of the land which was sold was $10,300, and as the $10,0001928 BTA LEXIS 4080">*4084 received had not exhausted the basis, it would be possible that those who filed the return did not consider that income on this deal had been realized in 1919. The character of C. H. Bell, who was charged with the management of the business, it is testified, was good. In view of the evidence we are of the opinion that the understatement was not false or fraudulent with intent to evade the tax. The return was filed on March 14, 1920, and assessment or collection not having been made within five years after such date, there is no deficiency. See . Judgment of no deficiency will be entered for the petitioner.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621789/	Ryan Motor Sales, Inc. v. Commissioner.Ryan Motor Sales, Inc. v. CommissionerDocket No. 3405-69 SC.United States Tax CourtT.C. Memo 1970-270; 1970 Tax Ct. Memo LEXIS 88; 29 T.C.M. 1190; T.C.M. (RIA) 70270; September 24, 1970, Filed Herbert P. Phillips, 91 Merrimack St., Haverhill, Mass., for the petitioner. David L. Miller, for the respondent. DAWSONMemorandum Findings of Fact and Opinion DAWSON, Judge: Respondent determined a deficiency in petitioner's Federal income taxes for the years 1965 and 1966 in the amounts of $500.47 and $259.15, respectively. The only issue for decision is whether petitioner is entitled to deduct a loss under section 165 1 for the demolition of buildings on property subsequently used for the expansion of its automobile franchise. Findings of Fact Some of the facts are stipulated and are found accordingly. Ryan Motor Sales, Inc. (herein called petitioner) is a Massachusetts corporation with1970 Tax Ct. Memo LEXIS 88">89 its principal place of business at Haverhill, Massachusetts. It keeps accounts on the accrual method and files its tax returns on a calendar year basis. Petitioner filed its 1965 and 1966 Federal corporate income tax returns with the district director of internal revenue at Boston, Massachusetts. Petitioner is a Chrysler franchise which sells both new and used cars. The corporation is wholly owned by Michael T. Ryan, who serves as its president. Michael T. Ryan has operated an automobile business on petitioner's main premises at 5-7 Dudley Street, Haverhill, Massachusetts, since 1952. From at least 1960 until July 1969, petitioner conducted business at two locations; 5-7 Dudley Street and 253 Essex Street, about one mile away. It sold new and used cars at both locations. Dudley Street intersects Main Street in downtown Haverhill. In 1960, the property at 5-7 Dudley Street was separated from Main Street by two residential properties bordering Main Street, thus: 5-7383 385Dudley Main St. Main St. Main St.Street389 Main St.Dudley St.On December 22, 1960, petitioner purchased the property, consisting of land and buildings at 389 Main Street for1970 Tax Ct. Memo LEXIS 88">90 $12,159.94. On May 14, 1964, petitioner purchased the property, consisting of land and buildings, at 383-5 Main Street for $20,212. The properties at 383, 385, and 389 Main Street were zoned RC residential when petitioner purchased them. In August 1964 an engineering firm completed for petitioner a final drawing of a plan to accompany its request for a zoning variance. On March 25, 1965, petitioner applied for a zoning variance which would permit it to use the Main Street properties for an automobile sales lot. The variance was granted on April 21, 1965, by the City of Haverhill Board of Appeals. The Board noted in its minutes that petitioner lacked adequate space for its business, that the congestion caused traffic and fire hazards, and that under "the present statute petitioner has the right to expand 25% [and] such expansion would encompass most of the proposed area." No opposition to the application was recorded. On October 6, 1965, petitioner contracted to have the buildings on the Main Street properties demolished. After this was accomplished in December 1965, petitioner used the properties as an automobile display lot. The undepreciated cost of the buildings at the time1970 Tax Ct. Memo LEXIS 88">91 of demolition was $26,308.56. From the time of acquisition until shortly before the buildings were demolished, petitioner received income by renting apartments in the buildings on the Main Street properties. The building at 389 Main Street contained two apartments, while the buildings at 383-5 Main Street contained six apartments. Petitioner collected rent on a weekly basis. One apartment was rented to a new tenant on April 24, 1965. Another apartment stood vacant after August 29, 1964. It was not until July 1, 1965, that petitioner notified the tenants to quit the premises by September 1, 1965. Petitioner received rents from all three Main Street properties in the amount of $1,515 in 1963 (389 Main only), $4,281 in 1964, and $3,724 in 1965. Net profit or loss from rents, excluding depreciation, was $973.86 profit in 1963, $1,125.41 profit in 1964, and $87.80 loss in 1965. Net profit or loss, including depreciation, was $459.51 profit in 1963, $209.16 profit in 1964, and $979.01 loss in 1965. Petitioner had interior painting done for the Main Street properties at a cost of $74.84 in 1963, $545.85 in 1964, and $103.47 in 1965. Petitioner made no other repairs. 1192 In 1962, 1970 Tax Ct. Memo LEXIS 88">92 the Chrysler Corporation had discussed with petitioner the desirability of consolidating its business at one location. In his notice of deficiency respondent allowed a claimed loss of $8,517.36 for demolition of the 389 Main Street building, but disallowed a claimed loss of $17,791.20 for demolition of the 383-5 Main Street buildings. Ultimate Finding At the time petitioner purchased the property at 383-5 Main Street it did so with the intent to demolish the buildings located thereon and to use the property to expand its automobile business. Opinion The only issue before us is whether petitioner is entitled to a demolition loss deduction for the buildings at 383-5 Main Street. The law is well settled. A taxpayer who buys real property and later decides to demolish the building on it may be entitled to a demolition loss. A taxpayer who buys real property intending to demolish the building on it cannot claim a loss. Section 1.165-3, Income Tax Regs. In the latter situation the taxpayer wants, and pays for, only the land, and the purchase price is allocable entirely to the land. The question of intent is one of fact, Montgomery Co. v. Commissioner, 330 F.2d 9501970 Tax Ct. Memo LEXIS 88">93 (C.A. 6, 1964), affirming a Memorandum Opinion of this Court, and the burden of establishing the deductibility of the claimed demolition loss is on the petitioner. Based upon all the relevant facts and circumstances present in this case, we have concluded and found as an ultimate fact that petitioner purchased the property at 383-5 Main Street with the intention of demolishing the buildings thereon and using the property to expand its automobile business. 2 Compare Liberty Baking Co. v. Heiner, 37 F.2d 703 (C.A. 3, 1930). It is significant that by purchasing the properties at 389 and 383-5 Main Street petitioner could gain frontage on Main Street for its automobile business. The 383-5 Main Street property completed the assembly of a rectangular tract of land at the corner of Main and Dudley Streets. This was in a far more desirable location for an automobile business than the original property at 5-7 Dudley Street. In addition, petitioner and the Chrysler Corporation had discussed in 1962 the desirability of consolidating petitioner's business at one location. Acquisition of the Main Street properties was consistent with this purpose, and in fact the Essex Street location1970 Tax Ct. Memo LEXIS 88">94 is no longer in use. The fact that petitioner waited for 10 months after purchase to apply for a zoning variance does not detract from our conclusion. Certainly some planning went into its decision to demolish the buildings. Nor is it crucial that the purchase was not conditioned upon obtaining the variance. According to the minutes of the Board of Appeals, petitioner had a legal right to expand its business by 25 percent, which "would encompass most of the proposed area." The expansion of a commercial use on Main Street was not a proposal so unusual that it would be likely to arouse heated opposition. In fact no opposition was recorded. The rental of the 383-5 Main Street property does not necessarily indicate a lack of intent to demolish the building. Barrow Mfg. Co. v. Commissioner, 294 F.2d 79 (C.A. 5, 1961), affirming a Memorandum Opinion of this Court [Dec. 24,080(M)]; cf. section 1.165-3(a)(2), Income Tax Regs.3 It would be only logical to rent the property, if possible, until petitioner was ready to proceed. 1970 Tax Ct. Memo LEXIS 88">95 Michael Ryan, petitioner's president and sole shareholder, testified that petitioner bought the property as an investment, and to protect itself from the complaints and harassment of residential neighbors. Mr. Ryan did not elaborate about the complaints and harassment, but we note that demolition would be an effective way of eliminating those problems. As an income-producing investment the Main Street property was less than ideal. From an investment of over $20,000 (there is no evidence of a mortgage) even the cash flow must have been much less than $1,000 in 1964. For all properties it was $1,125.41 in 1964, and the 389 Main Street property accounted for $973.86 in 1963. Repairs of $724.16 in three years do not indicate any long-term commitment to apartment rental. It is of course possible that the property was rapidly 1193 appreciating, but we have no evidence of this. The inference we draw from the over-all facts is that petitioner invested in the property in order to expend its automobile business. Petitioner has pointed out that respondent allowed the demolition loss for the 389 Main Street property, and insists that the 383-5 Main Street property should be treated consistently. 1970 Tax Ct. Memo LEXIS 88">96 We can only speculate about respondent's motivation in treating the properties differently. Perhaps he was deterred from litigation by the longer holding period, or by the fact that the discussions with the Chrysler Corporation occurred after purchase. In any event, we find it of no consequence because we are not bound to treat the 383-5 Main Street property in the same fashion. On this record we hold that no demolition loss deduction is allowable on the 383-5 Main Street property. Decision will be entered for the respondent. Footnotes1. All statutory references are to the Internal Revenue Code of 1954, as amended, unless otherwise indicated.↩2. In reaching this conclusion we have considered the pertinent factors listed in section 1.165-3(c), Income Tax Regs.↩3. Neither party has raised the possible applicability of section 1.165-3(a)(2)↩. We assume, since it would have only a small effect upon the computations, that the omission was deliberate.	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621790/	S & H, Inc., Petitioner v. Commissioner of Internal Revenue, RespondentS & H, Inc. v. CommissionerDocket No. 15997-79United States Tax Court78 T.C. 234; 1982 U.S. Tax Ct. LEXIS 137; 78 T.C. No. 17; February 16, 1982, Filed 1982 U.S. Tax Ct. LEXIS 137">137 Decision will be entered under Rule 155. Petitioner, which had been in the business of acquiring improved real estate and either leasing it or operating it, entered into an agreement with Griffin to build a warehouse according to Griffin's specifications on land owned by petitioner and, upon completion, to lease it to Griffin for a period of 20 years, at a rental equal to 1 percent of the construction cost per month, with an option, exercisable by Griffin after 15 years, to purchase the property for the balance of the rental payments due over the life of the lease. The parties stipulated that the agreement constituted a sale of the property on the installment basis for Federal tax purposes. Held, the transaction was a sale of property in the ordinary course of petitioner's trade or business and the gain thereon is taxable as ordinary income rather than capital gain. Thomas A. Daily, for the petitioner.Juandell D. Glass, for the respondent. Drennen, Judge. DRENNEN78 T.C. 234">234 Respondent determined deficiencies in petitioner's Federal income tax in the amounts of $ 18,637, 78 T.C. 234">235 $ 55,170, and $ 46,141 for the fiscal taxable years ending June 30, 1975, 1976, and 1977, respectively.After concessions by both parties, the sole issue for decision is whether the income realized from the sale of a warehouse was capital gain or ordinary income, and if the former, the extent to which the gain qualified as long-term capital gain.FINDINGS OF FACTSome of the facts have been stipulated and are found accordingly. The stipulation of facts and exhibits1982 U.S. Tax Ct. LEXIS 137">139 attached thereto are incorporated herein by this reference.Petitioner S & H, Inc. (hereinafter S & H or petitioner), is an Arkansas corporation whose principal place of business was located in Fort Smith, Ark., at the time of filing the petition herein. For each of the taxable years in issue, petitioner filed a corporate income tax return with the Internal Revenue Service, Austin, Tex.Petitioner was organized on July 14, 1961. Its primary business consisted of the acquisition and leasing or operation of Holiday Inn Motels and various other types of improved real property. As of the date of trial, petitioner owned 14 improved properties which it either operated itself or leased to others. These consisted of seven Holiday Inns, four post office buildings, two Pizza Inns, and one Trans Con truck terminal.Some of these properties were already improved at the time they were acquired by petitioner, while others were improved by petitioner subsequent to their acquisition. In addition, certain lessees of the leased properties were granted options to purchase the leased property at the expiration of the lease term. The option price was at least equal to petitioner's cost for the land1982 U.S. Tax Ct. LEXIS 137">140 and improvements thereon.In 1968, petitioner acquired 300 acres of unimproved land, known as the Whiteside Farm, in the Van Buren Industrial Park, Crawford County, Ark. Petitioner considered this land to be a good investment because an industrial park was being built adjacent to it, and because the land could be served by the Arkansas River and by an interstate highway. Other than certain portions of this land which have been sold by petitioner, as described below, the land is leased to a tenant farmer who pays petitioner $ 7,500 per year for the right to farm it.In 1969, petitioner was approached by a mobile home 78 T.C. 234">236 builder who wished to lease 12 acres of the Whiteside Farm and construct a building thereon. Petitioner agreed to lease the land as requested. The lessee ultimately defaulted on the lease and moved out. The building constructed by the lessee remained unoccupied for 1 1/2 years, after which time it and the 12 acres on which it was located were sold to the Sigma Manufacturing Concern, which had initiated this purchase.In 1968, petitioner sold 6 acres of the Whiteside Farm to the Coburn Manufacturing Co. This sale was initiated by Coburn.Petitioner sold 1982 U.S. Tax Ct. LEXIS 137">141 an additional 18 acres of the Whiteside Farm to Dr. Edwin Dooley in 1978. This sale was initiated by Dr. Dooley.At no time did petitioner ever advertise any portion of the Whiteside Farm as being for sale. Petitioner has never listed this property for sale with a real estate agent or broker.In 1973, representatives of the Griffin Grocery Co. (hereinafter Griffin) contacted petitioner concerning the purchase of 10 acres of the Whiteside Farm. As a result, for the price of $ 1,000, petitioner granted Griffin an option to buy 10 acres of the Whiteside Farm for $ 5,000 per acre. The option expired without being exercised. Thereafter, representatives of Griffin again contacted petitioner and proposed that petitioner construct a warehouse and various other improvements (hereinafter collectively referred to as the warehouse) on the 10 acres which Griffin would then lease from petitioner. Petitioner agreed.Thereafter, petitioner and Griffin executed a document entitled "Agreement for Sublease" on May 10, 1974, 1 which provided, inter alia, that petitioner would construct a warehouse on a portion of the Whiteside Farm for Griffin's use and pursuant to Griffin's specifications, and1982 U.S. Tax Ct. LEXIS 137">142 that Griffin would be committed to sublease such warehouse and land upon completion of the construction. 21982 U.S. Tax Ct. LEXIS 137">143 This transaction was made specifically 78 T.C. 234">237 contingent upon petitioner's obtaining financing for construction of the warehouse from the city of Van Buren (the city) through an industrial development revenue bond issue, pursuant to the Municipalities and Counties Industrial Development Bond Law. 3Ark. Stat. Ann. secs. 13-1601 through 1605 (1960). The agreement for sublease also provided that Griffin's liability to petitioner for rent was not to begin until possession of the warehouse was given to Griffin. The term of this sublease was to begin on the first day of the first month on or after which the liability for rent commenced.Petitioner was successful in obtaining industrial development revenue bond financing for construction of the warehouse. However, Arkansas State law required that the city hold title to the land on which the warehouse was to be built. Petitioner, therefore, transferred this title to the city, which in turn leased the property back to petitioner on June 1, 1974. 4 For this reason, petitioner subleased, rather than leased, the property to Griffin.1982 U.S. Tax Ct. LEXIS 137">144 On May 10, 1974, petitioner and Griffin entered into a sublease agreement in respect of the portion of the Whiteside Farm whereon the warehouse was to be built. Pursuant to this agreement, Griffin was to sublease such land, including all the improvements located thereon, for a term of 20 years. However, the spaces provided for indicating the date of commencement of the term of this sublease and the monthly rental charge were left blank. The monthly rent was to be an amount equal to 1 percent of the cost of the land, site work, improvements, architects' and engineers' fees, premiums for lease insurance, and one-half of the cost of the construction of a railroad spur. 5Griffin had an option to purchase the land and warehouse after the sublease had been in effect for 15 years, 78 T.C. 234">238 the purchase price to be essentially the balance of the monthly rental payments that would be paid over the remaining original term of the lease, plus 3 3/8 percent. At the end of the 20-year term, Griffin could acquire this property without payment by merely notifying petitioner of its election to exercise its option.1982 U.S. Tax Ct. LEXIS 137">145 Construction of the warehouse began on or about July 1, 1974. By December 31, 1974, petitioner had expended $ 1,325,225.04 for its construction. 6 This amounted to 60.02 percent of the total cost of construction. The warehouse was completed on or about July 1, 1975, which was the date the term of the sublease commenced. The monthly rent, however, was not calculated until 2 or 3 weeks later, when the total cost of construction had been determined. The monthly rent so calculated was $ 22,978.84.During and after construction of the warehouse, petitioner characterized the transaction with Griffin on its books and records as a sublease. It capitalized and depreciated the warehouse and treated all income received from Griffin in respect of the sublease as rental income. However, during an audit of its tax1982 U.S. Tax Ct. LEXIS 137">146 returns for the taxable years 1975 and 1976, the auditing agent maintained that the sublease was, for tax purposes, a sale of the land and warehouse from petitioner to Griffin. Petitioner agreed, and subsequently, on its tax return for the taxable year 1977, it characterized the income received from Griffin as capital gain.It was stipulated for trial that the transactions between petitioner and Griffin referred to in the agreement for sublease and sublease agreement of May 10, 1974, constituted for Federal tax purposes, an installment sale of the warehouse and land to Griffin by petitioner, for the total sales price of $ 3,269,250. 7 This price was allocated among land, building, and other improvements as follows: 78 T.C. 234">239 ItemAmountLand$ 128,115Building2,519,611Garage31,712Rent insurance184,712Refrigeration equipment344,579Rail spur60,481Total3,269,210The total original cost to petitioner for the land was $ 90,000, and for the building and other improvements, $ 2,207,883.81.1982 U.S. Tax Ct. LEXIS 137">147 On its income tax return for the taxable year ending June 30, 1976, petitioner reported the income received from Griffin was rental income, 8 and for the taxable year ending June 30, 1977, it reported the income as long-term capital gain.Respondent determined that the income received during both of these years from the sale of the warehouse was reportable as ordinary income.OPINIONThe parties have stipulated that the transactions between S & H and Griffin referred to in the agreement for sublease and the sublease agreement, both dated May 10, 1974, constituted, for Federal tax purposes, a sale of the Van Buren facilities to Griffin by S & H and that S & H is entitled to report the gain from the sale under the installment method of accounting. They have also stipulated that petitioner is entitled to report the gain from the sale of the land to Griffin as long-term capital gain. It is therefore unnecessary for1982 U.S. Tax Ct. LEXIS 137">148 us to decide whether the sublease agreement of May 10, 1974, was in fact a lease or a contract of sale. 9 The stipulations also appear to negate respondent's alternative argument, raised for the first 78 T.C. 234">240 time on brief, that petitioner's gain on the sale of the building and improvements was compensation for contracting services and for the use of money and thus subject to ordinary income treatment.1982 U.S. Tax Ct. LEXIS 137">149 Therefore, the only issue for decision is whether the gain realized by petitioner on the sale of the warehouse to Griffin was capital gain or ordinary income. Resolution of the issue depends on whether the warehouse was either a capital asset within the meaning of section 1221, 10 or was property used in its trade or business so that the gain from its sale can be considered as gain from the sale of a capital asset pursuant to section 1231.1982 U.S. Tax Ct. LEXIS 137">150 Petitioner asserts that the warehouse was held by it primarily to lease, not for sale to customers in the ordinary course of a trade or business. Furthermore, petitioner claims that the sale took place on July 1, 1975, and that as of 6 months and 1 day prior to that time (Dec. 31, 1974), the warehouse was 60.02-percent completed, and to this extent it is 78 T.C. 234">241 entitled to characterize the gain realized as long-term capital gain. 11Respondent asserts that the warehouse constituted property held primarily for sale to customers in the ordinary course of a trade or business, and the income from its sale is1982 U.S. Tax Ct. LEXIS 137">151 not, therefore, entitled to capital gains treatment. Specifically, he asserts that by contracting to have the warehouse built for and sold to Griffin, petitioner entered the trade or business of constructing or selling property. In support of this assertion, he maintains that the sale was pursuant to a preexisting arrangement to sell to a specific party, and that the profit received from the sale was not due to market appreciation in the value of the warehouse, but rather to activities on the part of petitioner, to wit, the construction of the warehouse. For the reasons stated herein, we agree with respondent and do not reach the merits of his alternative contention.The income realized on the sale of the warehouse is entitled to capital gains treatment only if such warehouse was a capital asset within the meaning of section 1221 or if such income otherwise qualifies for capital gains treatment pursuant to section 1231. Generally speaking, section 1221 defines a capital asset as any property held by a taxpayer, with certain exceptions, one being property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business, and another being property1982 U.S. Tax Ct. LEXIS 137">152 used in taxpayer's trade or business of a character which is subject to depreciation. Section 1231 specifically requires, under certain circumstances, that profits and losses recognized on the sale of property used by the taxpayer in a trade or business to be treated as capital gains and losses, even though the property was not otherwise a capital asset, but the definition of property used in the trade or business excludes property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business. Sec. 1231(b)(1)(B). (This type of property shall hereinafter be referred to as sec. 1231 property.) Both sections 1221 and 1231 specifically exclude from capital 78 T.C. 234">242 gains treatment, inter alia, "property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business." Secs. 1221(1) and 1231(b)(1)(B). Whether income from the sale of property is excluded from capital gains treatment is a question of fact, the burden of proof of which is on petitioner. Rule 142(a), Tax Court Rules of Practice and Procedure; Welch v. Helvering, 290 U.S. 111">290 U.S. 111 (1933).The capital gains exception to1982 U.S. Tax Ct. LEXIS 137">153 the normal tax rates is to be narrowly construed ( Corn Products Refining Co. v. Commissioner, 350 U.S. 46">350 U.S. 46, 350 U.S. 46">52 (1955)) to effectuate the purpose of such exception of reducing the tax burden upon gains which have resulted from gradual appreciation over a long period of time. Malat v. Riddell, 383 U.S. 569">383 U.S. 569, 383 U.S. 569">572 (1966). Thus, the purpose of the exclusions provided in sections 1221(1) and 1231(b)(1)(B) is to "differentiate between gain derived from the everyday operations of a business and gain derived from assets that have appreciated in value over a substantial period of time." McManus v. Commissioner, 65 T.C. 197">65 T.C. 197, 65 T.C. 197">212 (1975), affd. 583 F.2d 443">583 F.2d 443 (9th Cir. 1978).Petitioner here contends that the warehouse was held primarily for lease. It supports this contention with the fact that the transfer was characterized in the agreements in respect of such transfer as a "sublease," and that petitioner indicated the transfer as a sublease on its books and records and income tax returns. In addition, petitioner points out that it was not until the time it was audited that it1982 U.S. Tax Ct. LEXIS 137">154 conceded to treat the transfer as a sale for Federal tax purposes.The U.S. Supreme Court in 383 U.S. 569">Malat v. Riddell, supra at 572, defined the term "primarily" to mean "of first importance" or "principally." We think the facts here indicate that the warehouse was held "primarily" for sale to Griffin.The parties have stipulated that the transaction between petitioner and Griffin referred to in the sublease agreement dated May 10, 1974, constituted a sale for Federal tax purposes. At the time this transaction took place, petitioner had not started construction of the warehouse and thus had no asset to sell. In the sublease agreement, petitioner agreed to construct the warehouse and turn it over to Griffin for its use. When the warehouse was completed, petitioner transferred possession thereof to Griffin in what the parties have characterized as a sale. Despite the terms of the sublease agreement, 78 T.C. 234">243 petitioner's only purpose in constructing the building was to "sell" it to Griffin. Therefore, we conclude that petitioner held the warehouse primarily for sale.Furthermore, we find that such sale was to a customer in the ordinary course of a trade 1982 U.S. Tax Ct. LEXIS 137">155 or business of petitioner. Prior to the time of the sale in question, petitioner was engaged in the trade or business of acquiring and either operating or leasing similar types of improved real properties. True, the transaction with Griffin did not follow the usual pattern of petitioner's business. But that does not mean that the transaction was not a part of the same trade or business. Petitioner simply enlarged or modified its trade or business to include therein the construction and sale of improved real estate. Or, if the two types of transactions must be separated, petitioner simply entered a new trade or business in the transaction with Griffin. It is settled law that a taxpayer can be engaged in more than one business ( Curphey v. Commissioner, 73 T.C. 766">73 T.C. 766, 73 T.C. 766">775 (1980), on appeal (9th Cir., Nov. 24, 1980)).And it seems clear that Griffin was a customer of either petitioner's expanded business or its new business. The warehouse was built specifically for sale to Griffin, and the fact that Griffin was petitioner's only customer as of the time of the sale does not deny Griffin "customer" status. A restricted group of purchasers may qualify 1982 U.S. Tax Ct. LEXIS 137">156 as customers and it has been said that in real estate transactions a sale to any purchaser is, in effect, a sale to a customer. Pointer v. Commissioner, 48 T.C. 906">48 T.C. 906, 48 T.C. 906">917 (1967).In determining whether a taxpayer has engaged in a trade or business for purposes of section 1221(1) with respect to the sale of property, the focus must be on whether the taxpayer's efforts rise to the level of a trade or business. Buono v. Commissioner, 74 T.C. 187">74 T.C. 187, 74 T.C. 187">205 (1980). In resolving this question, courts have looked to numerous factors. 121982 U.S. Tax Ct. LEXIS 137">158 These factors, however, have varying degrees of relevancy depending 78 T.C. 234">244 on the particular factual situation, and all may not be applicable to any given case. 74 T.C. 187">Buono v. Commissioner, supra at 199; see, e.g., Brady v. Commissioner, 25 T.C. 682">25 T.C. 682 (1955). We do not believe many of those factors are relevant in this case. Moreover, they are by no means intended to impart a "one-bite" rule, such that a taxpayer who engaged only in one venture or one sale cannot under any circumstances be held to be in a trade or business as to that venture1982 U.S. Tax Ct. LEXIS 137">157 or sale. 13 See Zack v. Commissioner, 25 T.C. 676">25 T.C. 676 (1955), affd. per curiam 245 F.2d 235">245 F.2d 235 (6th Cir. 1957); 25 T.C. 682">Brady v. Commissioner, supra.Indeed, a single venture involving the sale of property may constitute a trade or business with respect to that sale if the property was acquired pursuant to a preexisting arrangement to sell to a specific party upon its acquisition. See DeMars v. United States, an unreported case ( S.D. Ind. 1971, 27 AFTR 2d 71-925, 71-1 USTC par. 9288) wherein under facts very similar to those in this case, it was said: "property acquired [in a single venture] for the purpose of sale to a specific party pursuant to a pre-existing arrangement constitutes property held for sale in the ordinary course of a trade or business"; cf. Currie v. Commissioner, 53 T.C. 185">53 T.C. 185 (1969).Similarly, in the instant case, the property was constructed with the specific intent to transfer it, pursuant to a preexisting arrangement, to a specific party who was committed to take such property. If the May 10, 1974, agreement was a sale, the warehouse cannot be said to have ever been held by petitioner passively for investment or for long-term appreciation in value. To the contrary, there was a definite and continuing and active plan to construct and transfer (sell) the property to Griffin as soon as it was completed, and that was done. We think that this activity, under the circumstances herein, constituted a trade or business for purposes of sections 1221(1) and 1231(b)(1)(B). The profit received from this sale is not the type which Congress intended to remove from the normal tax requirements of the Internal Revenue Code (see 350 U.S. 46">Corn Products Refining Co. v. Commissioner, supra), but, rather, falls within the purview1982 U.S. Tax Ct. LEXIS 137">159 of sections 1221(1) and 1231(b)(1)(B). See 65 T.C. 197">McManus v. Commissioner, supra.78 T.C. 234">245 The case on which petitioner has primarily relied is Commissioner v. Williams, 256 F.2d 152">256 F.2d 152 (5th Cir. 1958), revg. a Memorandum Opinion of this Court. In that case, the taxpayer purchased a partially completed Navy tankship which he hoped to complete and sell for a profit. However, at the time the taxpayer purchased the tankship, he did not have a preexisting arrangement with a specific party to purchase the tankship upon its completion. The Court of Appeals found that the eventual sale of the tankship was a "non-recurring speculative venture," 256 F.2d 152">Commissioner v. Williams, supra at 155, and, therefore, held that it did not constitute a trade or business.It is obvious to us that the instant case is factually distinguishable from the Williams case. Here, the warehouse was built specifically for Griffin pursuant to its plans and specifications. On May 10, 1974, when petitioner became contractually obligated to build the warehouse and Griffin became contractually obligated to accept it, construction of1982 U.S. Tax Ct. LEXIS 137">160 the warehouse had not yet begun. Thus, there was clearly a preexisting arrangement for transfer of the property to a specific party, who was committed to take it.Furthermore, unlike the transaction involved in 256 F.2d 152">Commissioner v. Williams, supra, the transaction herein cannot be viewed as a "speculative venture." The agreement for sublease provided that Griffin was "committed to sublease" (purchase) the warehouse once it was completed. Only petitioner had the right, under certain circumstances, to terminate the agreement, in which event Griffin was obligated to reimburse petitioner for all costs and expenses incurred up to the time of such termination. Further, the sales price herein was not determined until petitioner's total cost of construction could be calculated, thus insuring that petitioner would reap a profit on the sale.Accordingly, in view of the above and the record as a whole, we conclude that the gain realized by petitioner from the sale of the warehouse was taxable as ordinary income and not as capital gain. 141982 U.S. Tax Ct. LEXIS 137">161 78 T.C. 234">246 Because of concessions by both parties,Decision will be entered under Rule 155. Footnotes1. This document superseded an agreement for sublease executed on Dec. 28, 1973.↩2. Griffin had the right to recommend contractors from whom bids would be requested, to review submitted bids, to evaluate the contractors and subcontractors who submitted bids, and to reject any or all bids so submitted. However, if Griffin rejected all the bids, petitioner could terminate the agreement. In such event, Griffin would be required to repay all "costs and expenses which have been reasonably incurred by * * [petitioner] up to the date of such termination, including, without being limited to, architects' and engineers' fees, attorneys' fees, all costs incurred in connection with arranging for the authorization and issuance of bonds, cost of holding the bond election, and any part of the nonrecoverable deposit on the premium for lease insurance which has been paid by * * * [petitioner]."↩3. Petitioner had the right to terminate the agreement if the bond issue did not pass, or if the bonds were not sold. In such event, Griffin was obligated to reimburse petitioner for all costs and expenses incurred up to the time of termination.↩4. The term of the lease was for 20 years, which corresponded with the term of the bond issue. Petitioner was to pay an average of approximately $ 203,000 per year as rent and had the option to acquire the property at the end of the lease for $ 100.↩5. It was intended by the parties that all costs incurred in constructing the warehouse and preparing it for occupancy would be included in the figure on which the rent was computed.↩6. Petitioner did not act as a general contractor and did not exercise any direct supervision over construction of the warehouse, nor did it do so with respect to the construction of any of its other properties.↩7. Griffin was to pay petitioner a total of $ 5,514,921 over a 20-year period ($ 22,978.84 X 12 X 20). Since the stipulated sales price is $ 3,269,250, the remaining $ 2,245,671 is apparently interest.↩8. It also took depreciation deductions and an investment tax credit with respect to the warehouse.↩9. It is respondent's position that the transaction between the city and petitioner was in substance no more than a financial arrangement whereby petitioner obtained the funds needed for construction of the warehouse and gave a deed to the land as security for the loan. Under this view, petitioner remained the owner of the property. Petitioner does not challenge this treatment, and we therefore need not decide the merits of respondent's position. See Helvering v. Lazarus & Co., 308 U.S. 252">308 U.S. 252 (1939); see also Rev. Rul. 68-590, 1968-2 C.B. 66↩.10. All section references are to the Internal Revenue Code of 1954 as amended and in effect for the taxable years in issue. The pertinent parts of secs. 1221 and 1231 are as follows:SEC. 1221. CAPITAL ASSET DEFINED.For purposes of this subtitle, the term "capital asset" means property held by the taxpayer (whether or not connected with his trade or business), but does not include -- (1) 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;(2) property, used in his trade or business, of a character which is subject to the allowance for depreciation provided in section 167, or real property used in his trade or business;SEC. 1231. PROPERTY USED IN THE TRADE OR BUSINESS AND INVOLUNTARY CONVERSIONS.(a) General Rule. -- If * * * the recognized gains on sales or exchanges of property used in the trade or business * * * exceed the recognized losses from such sales * * * such gains * * * shall be considered as gains * * * from sales * * * of capital assets held for more than 6 months. * * ** * * *(b) Definition of Property Used in the Trade or Business. -- For purposes of this section -- (1) General rule. -- 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 167, 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,(B) property held by the taxpayer primarily for sale to customers in the ordinary course of his trade or business,↩11. On its income tax return for the taxable year 1977, petitioner reported the entire amount received in respect of the sale as long-term capital gain. However, at trial and on brief, petitioner conceded that only 60.2 percent of the gain was long-term capital gain, the remainder being short-term capital gain. Respondent does not dispute petitioner's formula but does dispute its characterization of the gain.↩12. These factors include, but are not limited to, the nature and purpose of the acquisition of the property and the duration of the ownership; the extent and nature of the taxpayer's efforts to sell the property; the number, extent, continuity, and substantiality of sales; the extent of subdividing, developing, and advertising to increase sales; the use of a business office for the sale of the property; the character and degree of supervision or control exercised by the taxpayer over the representative selling the property; and the time and effort the taxpayer habitually devoted to the sale. Buono v. Commissioner, 74 T.C. 187">74 T.C. 187, 74 T.C. 187">199 (1980); United States v. Winthrop, 417 F.2d 905">417 F.2d 905↩ (5th Cir. 1969).13. But see Saunders, "'Trade or Business,' its Meaning Under the Internal Revenue Code," U. So. Cal. 12th Inst. on Fed. Tax. 693, 720 (1960).↩14. If, as the parties have stipulated, the sublease agreement dated May 10, 1974, constituted a sale of the warehouse, we fail to understand how petitioner would be entitled to long-term capital gain on the transaction even if the warehouse was a capital asset. Petitioner "sold" the asset before it came into existence and could not have held it for more than 6 months prior to the sale.↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621793/	Estate of Mollie P. Fabric, Elliot Fabric, Personal Representative, Petitioner v. Commissioner of Internal Revenue, RespondentEstate of Fabric v. CommissionerDocket No. 17536-81United States Tax Court83 T.C. 932; 1984 U.S. Tax Ct. LEXIS 4; 83 T.C. No. 50; December 11, 1984. December 11, 1984, Filed 1984 U.S. Tax Ct. LEXIS 4">4 Decision will be entered under Rule 155. Five days prior to her open-heart surgery, decedent created a foreign trust and entered into an annuity agreement with the trustee of the foreign trust. The trust was initially funded with $ 750. It was irrevocable, and decedent did not retain any control over it. The trust's beneficiaries were decedent's four sons and their lineal descendants.Pursuant to the annuity agreement, the foreign trustee agreed to pay decedent during her lifetime a fixed weekly amount. The annuity amount was determined by use of the tables set forth in sec. 20.2031-10, Estate Tax Regs., and it was not dependent on the trust's income. In return, decedent promised to transfer assets to the trust. The trustee was liable to the full extent of its assets for paying the annuity in the event the trust assets had been exhausted. Decedent died 1 year and 5 months after her surgery. Held, following the Ninth Circuit's opinion in La Fargue v. Commissioner, 689 F.2d 845">689 F.2d 845 (9th Cir. 1982), affg. in part and revg. in part 73 T.C. 40">73 T.C. 40 (1979); and in Stern v. Commissioner, 747 F.2d 555">747 F.2d 5551984 U.S. Tax Ct. LEXIS 4">5 (9th Cir., Nov. 15, 1984), revg. and remanding 77 T.C. 614">77 T.C. 614 (1981), we find that decedent entered into a valid annuity agreement with the foreign trust. Held, further: Decedent properly used the actuarial tables in valuing her annuity. Thus, adequate and full consideration was given for the annuity. Thus, exclusion of the transferred assets from decedent's gross estate was proper. 1984 U.S. Tax Ct. LEXIS 4">6 David M. Berman, Malcolm H. Neuwahl, and David A. Freedman, for the petitioners.Lourdes M. DeSantis, for the respondent. Sterrett, Judge. STERRETT83 T.C. 932">933 By notice of deficiency dated April 13, 1981, respondent determined a deficiency of $ 457,902 in the Federal estate tax of the Estate of Mollie P. Fabric. After concessions, the issues before us are: (1) Whether the decedent entered into a valid annuity or retained a life estate in the transferred properties, and (2) if a valid annuity existed, whether adequate and full consideration was given.FINDINGS OF FACTSome of the facts have been stipulated and are so found. The stipulation of facts, together with the exhibits attached thereto, is incorporated herein by this reference.Mollie P. Fabric (hereinafter referred to as decedent) was born on May 1, 1909, and died, testate, on February 21, 1977, a resident of Florida. She was survived by her four sons, Elliot, Robert, Bruce, and Stuart. 1 Decedent's son Elliot is the personal representative of her estate, and he resided in San Francisco, CA, at the time the petition in this case was filed. 2 Decedent's Federal estate tax return was timely filed with the1984 U.S. Tax Ct. LEXIS 4">7 Office of the Internal Revenue Service, Jacksonville, FL.Decedent's family had a history of myocardial infarctions (heart attacks) and hypertension (elevated blood pressure). The decedent had had hypertension since at least 1962. On May 31, 1974, the decedent was hospitalized, suffering from 83 T.C. 932">934 multiple medical problems, including kidney problems, ulcerative colitis, and hypertension. Decedent was treated and released on July 3, 1974.During the first 9 months of 1975, the decedent had severe chest pains, which were alleviated only with nitroglycerine. On September 5, 1975, the decedent's chest pains had increased in their intensity, resulting in an unexpected hospitalization. Medical tests conducted on the1984 U.S. Tax Ct. LEXIS 4">8 decedent revealed that she had a blockage in a single coronary artery. The obstruction, or occlusion, was determined to be in the range of 95 to 99 percent. To alleviate this blockage, the decedent underwent coronary artery bypass surgery (open-heart surgery) on September 24, 1975. Prior to the surgery, the decedent's physicians predicted that she had a 60- to 75-percent chance of survival. Decedent survived the surgery, but it was not the end of her medical treatment.On October 8, 1975, decedent had a permanent intravenous pacemaker inserted. The pacemaker was inserted in order to regulate the decedent's heartbeat, which had slowed somewhat after her surgery. Decedent was discharged from the hospital on October 11, 1975.During October, November, and early December 1975, the decedent had pleural effusion, which is retention of excessive fluid in the chest and lungs. Pleural effusion is very common after open-heart surgery and is not a serious problem. The decedent entered the hospital in December 1975 to have this condition treated.After the decedent was discharged, her followup care was entrusted to Dr. Morton Diamond, a cardiologist practicing in Hollywood, FL. Dr. Diamond1984 U.S. Tax Ct. LEXIS 4">9 first met and began treating the decedent in January 1976. At that time the decedent had hypertension, arteriosclerotic heart disease, hypertensive heart disease, chronic renal disease, and ulcerative colitis. Even with decedent's medical problems, Dr. Diamond was of the opinion that as of the latter part of 1975 and as of January 1976 he would have expected the decedent to live easily several years, possibly even in excess of 5 years. 3Decedent was hospitalized on January 6, 1977, because of congestive heart failure. The decedent was hospitalized for the 83 T.C. 932">935 last time on February 11, 1977, and died on February 21, 1977, from congestive heart failure. Decedent's death occurred approximately 1 year and 5 months after her September 24, 1975, operation.On September 19, 1975, five days prior to her September 24, 1975, operation, the decedent executed numerous documents. These documents1984 U.S. Tax Ct. LEXIS 4">10 included her last will and testament, the creation of a foreign trust (hereinafter referred to as the Chai Trust), and a proposal to enter into an annuity agreement with the trustee of the Chai Trust. The proposal was accepted by the trustee on September 22, 1975.The Chai Trust was initially funded with $ 750. It was irrevocable and the decedent did not retain any control over it. Decedent did send the independent trustee, Cayman National Bank, a letter expressing her desire that the trustee consult with her son and her attorney with respect to trust investment decisions. 4 This letter, however, was merely precatory and we attach no legal significance to it. The beneficiaries of the Chai Trust were the decedent's four sons and their lineal descendants. Pursuant to the terms of the trust instrument, the beneficiaries were to receive distributions from the trust on its fourth, sixth, and eighth anniversaries. The distributions on their respective dates, however, were contingent on the decedent's not receiving payments pursuant to the annuity agreement (i.e., so long as the decedent were living, no distributions from the trust could be made to the beneficiaries).1984 U.S. Tax Ct. LEXIS 4">11 In accordance with the annuity agreement, Cayman National Bank agreed to pay decedent the sum of $ 2,378.48 per week for the rest of her life. 5 The annuity was a fixed obligation and was not dependent on the trust's income. Its amount was determined by use of the tables set forth in section 20.2031-10, Estate Tax Regs. In consideration for the bank's promise, decedent agreed to transfer assets to the trust totaling $ 1,150,000 in value. Under the laws of the Cayman Islands, the bank was liable to the full extent of its assets for paying the 83 T.C. 932">936 annuity in the event the Chai Trust assets had been exhausted. 61984 U.S. Tax Ct. LEXIS 4">12 Mr. Steinberg, a qualified expert actuary, testified that the purchase of a private annuity in 1975 under the same terms and conditions as the decedent's would have cost approximately $ 1,215,000. He was of the opinion that decedent had received adequate and full consideration for her transfer of assets in exchange for the annuity.There were some administrative problems in carrying out the terms of the annuity agreement. Cayman National Bank did not make all of the required annuity payments to the decedent. Further, many of the payments were not distributed in a timely manner. These missing and late payments gave decedent rights as a creditor against Cayman National Bank under the annuity agreement. In addition, there were some delays in transferring decedent's assets to the Chai Trust. These delays resulted in the decedent's receiving some interest on investments which legally belonged to the trust. It should be noted that, except for the missing annuity payments, these minuscule problems were resolved. On balance, the parties to the trust and annuity agreement recognized and respected the terms and conditions of these documents.Decedent's estate tax return did not report1984 U.S. Tax Ct. LEXIS 4">13 the transfer of assets to the Chai Trust, made under the annuity agreement, as a taxable transfer. In his statutory notice of deficiency, respondent determined that the value of those assets transferred is includable in the decedent's gross estate because they were either gratuitously transferred by the decedent within 3 years of her death and in contemplation of death, or, in the alternative, the assets were gratuitously transferred by the decedent with the retention of the right to the income from the property for the remainder of decedent's life.OPINIONWe are faced with the question of how the above-described events should be characterized for estate tax purposes. Petitioner argues that the creation of the Chai Trust and the sale to, or exchange with, the trust for an annuity were two 83 T.C. 932">937 separate events. It is petitioner's contention that decedent entered into a valid and binding annuity agreement with the trust, for which adequate and full consideration was given. In support of the argument that adequate consideration was given, petitioner notes that the amounts of the annuity payments were determined from the actuarial tables set forth in section 20.2031-10, Estate1984 U.S. Tax Ct. LEXIS 4">14 Tax Regs. Thus, petitioner maintains that none of the assets that decedent transferred to the trust under the terms of the annuity agreement should be included in her estate.Respondent maintains that the decedent did not purchase an annuity but instead retained a life estate in the transferred properties. Thus, under section 2036, 7 respondent argues that the value of the transferred properties should be included in decedent's estate. Alternatively, respondent argues that if a valid annuity agreement existed, then adequate and full consideration was not given. This is premised upon the contention that decedent was not entitled to use the actuarial tables set forth in section 20.2031-10, Estate Tax Regs., in valuing the annuity. Respondent maintains that use of the tables was inappropriate because, at the time of the transfer, decedent's death was clearly imminent and her medical condition was incurable.1984 U.S. Tax Ct. LEXIS 4">15 The critical issue is whether the disputed transaction is to be treated as an annuity, or a retained life estate in the transferred properties. This issue has been addressed in the income tax context by this Court in , affd. ; in , affd. in part and revd. in part ; and in , revd. and remanded (9th Cir., Nov. 15, 1984). Since the annuity issue is separate and distinct from what income or estate tax consequences should attach to its resolution, the rationale of these cases is fully applicable to the case at bar.In Lazarus, pursuant to a comprehensive plan, taxpayers established a foreign trust for the benefit of their family members. Taxpayers then entered into an annuity agreement with the trust whereby they transferred stock to the trust in 83 T.C. 932">938 exchange for the trust's promise to pay them $ 75,000 a year1984 U.S. Tax Ct. LEXIS 4">16 for life. As part of the prearranged plan, the trust sold the stock to a corporation for a nonnegotiable promissory note, which provided for annual interest payments of $ 75,000. We found that an annuity had not been purchased. Rather, the transaction was a transfer of the stock to the trust with a reservation of the right to have the annual income of $ 75,000 distributed to taxpayers.In finding that a valid annuity was not created, the following factors were deemed important:(1) The alleged annuity payments exactly equaled the income generated by the trust. No distributions could have been made from the trust corpus because its sole asset was a nonnegotiable instrument. Thus, the corpus would remain intact for ultimate distribution to the remainderman.(2) The alleged annuity arrangement did not give taxpayers a downpayment, interest on the deferred purchase price, or security for its payment.(3) The only source of the payments to taxpayers was the income from the property they had transferred to the trust.(4) There was no relationship between the purported sales price and the value of the stock transferred.In evaluating all of these factors, the Court concluded that the1984 U.S. Tax Ct. LEXIS 4">17 trust acted as a mere conduit for the distribution of trust income to petitioners.In La Fargue, pursuant to an overall plan, taxpayer established a trust with an initial corpus of $ 100, naming her daughter as beneficiary. Taxpayer's sister, the son of friends, and her lawyer were the trustees. Two days later, taxpayer transferred various assets to the trust in return for equal annual payments for life from the trust. While there was not any precise tie-in between the income of the trust and the annuity payments, this Court did mention that the transferred property was the sole source of the annuity payments to taxpayer. There also was no relationship between the present value of the purported sales price and the fair market value of the transferred properties.This Court ruled that the transfer of assets was not a sale or exchange for an annuity but rather a transfer in trust with a reserved interest. In so holding, the Court also mentioned that there were informalities in the trust's administration. The 83 T.C. 932">939 taxpayer had continued to receive dividends on the transferred stock; the taxpayer did not assert her contractual rights when her annuity payments were late; 1984 U.S. Tax Ct. LEXIS 4">18 and the taxpayer expected to be kept informed on trust matters, even though she did not retain any control over the trust.The Ninth Circuit reversed, holding that the "informalities" the Tax Court found did not justify looking through the formal terms of the annuity agreement. The Ninth Circuit also held that Lazarus did not apply because the annuity payments were not a conduit for the trust's income.In Stern, as an integral part of taxpayers' (Sidney and Vera Stern) financial and estate plan, two foreign trusts were created (the Hylton Trust and the Florcken Trust). The terms of the two trusts were essentially identical. The trustee of both trusts was an independent foreign bank, and taxpayers and their issue were the named beneficiaries of the respective trusts.The trust instruments empowered the trustee to guarantee taxpayers' loans, to lend them money on an unsecured, interest-free basis, and to freely distribute corpus or income to them. In addition, the Hylton Trust gave Sidney, and the Florcken Trust gave Vera, a limited power of appointment over the trust properties and permitted them to replace the trustee without cause.Shortly after the trusts were created, 1984 U.S. Tax Ct. LEXIS 4">19 taxpayers transferred substantial blocks of stock to these trusts in exchange for lifetime annuities. The annual annuity payments were computed by dividing the fair market value of the stock by the appropriate annuity factor listed in the tables set forth in section 20.2031-10(b), Estate Tax Regs. Although the foreign bank trustee administered both trusts, taxpayers and their attorney played active roles in the trusts' affairs.This Court found that the transactions did not constitute sales in exchange for annuities, but were transfers in trust with retained rights to annual payments. On appeal, the Ninth Circuit reversed, relying on their decision in La Fargue. They held that a valid annuity had been established, and emphasized that lack of tie-in between the amount of the annuity and the trust's income was essential to their analysis. In arriving at their decision, the court stated that the transfers of stock to a trust may not be recharacterized simply because 83 T.C. 932">940 the transfers were part of a prearranged plan designed to minimize tax liability or because the transferred property constituted the bulk of the trust assets. The court also mentioned that taxpayers did1984 U.S. Tax Ct. LEXIS 4">20 not possess the degree of control over the trusts to justify treating them as having retained an income interest in the transferred properties.In the instant case, respondent insists that the decedent failed to purchase an annuity. He alleges that the following factors support his contention:(1) Many of the payments made to the decedent by the trustee were untimely; other payments due under the terms of the agreement were simply not made to the decedent.(2) Some interest payments on the transferred assets were made to the decedent rather than to the trustee.(3) Some of the assets were not transferred to the trustee until after September 1975.(4) The annuity agreement was not financially guaranteed by the trustee, and accordingly all payments were to be charged to the transferred property. 8(5) Decedent sent a letter to the trustee expressing her desire that he consult with her son and her attorney with 1984 U.S. Tax Ct. LEXIS 4">21 respect to trust investment decisions.This case is appealable to the Ninth Circuit, which reversed us in La Fargue and in Stern. We find that the facts here are substantially similar to those in La Fargue and in Stern. Further, the informalities in the trust and annuity administration were no more egregious than those we found in La Fargue. Therefore, given our decision in , affd. , cert. denied , we believe that we are compelled to hold that the decedent entered into a valid annuity agreement with the Chai Trust. In so holding, we express no opinion with respect to whether, aside from the application of the Golsen rule, we would follow the decision of the Ninth Circuit in La Fargue and in Stern. 91984 U.S. Tax Ct. LEXIS 4">22 83 T.C. 932">941 The next issue presented is whether the decedent erred in using the actuarial tables set forth in section 20.2031-10, Estate Tax Regs., in valuing her annuity. Respondent maintains that the decedent's physical condition at the time she entered into the annuity agreement with the trust should have been considered. His position is that the annuity's value should have been determined from the decedent's actual life expectancy, not from her life expectancy as set foth in the actuarial tables.The actuarial tables are provided as an administrative necessity and their general use has been readily approved by the courts. See ; . This need for a simplified administration of the tax laws may result in occasional individual discrepancies from the use of the actuarial tables. . In exceptional circumstances, however, courts will permit departure from the actuarial tables. ;1984 U.S. Tax Ct. LEXIS 4">23 ; .The Ninth Circuit has held that any party contending that the actuarial tables are inapplicable bears the burden of proving why the court shall deviate from those tables. ; . Respondent cites various Tax Court decisions in support of his argument. We believe that a brief synopsis of those cases is in order.In , the life tenant on the valuation date was suffering from a complete loss of memory and almost total paralysis as the result of a cerebral attack. At the valuation date, the life tenant had a life expectancy of not more than 1 year and in 83 T.C. 932">942 fact died 2 months later. In ,1984 U.S. Tax Ct. LEXIS 4">24 the beneficiary at the time of decedent's death was inflicted with an incurable and inoperable cancer of the lung. Her surgeon and physician were both of the opinion that she would die within 1 year. , involved a decedent's widow who was inflicted with cancer, which was in an inoperable form at the date of the decedent's death. The facts known at that time also indicated that her actual life expectancy was less than 1 year. In , the life tenant was more than 80 years old and had been an almost hopeless invalid for the last 2 years of her life. Her physician testified that the life tenant's physical condition was such that, at the time of decedent's death, he expected her to die at any moment. Finally, in , while medical experts had testified to a life expectancy of from 1 to 2 years, the life beneficiary was suffering from cancer in an inoperable form at the valuation date.These opinions permitted departure from use of the1984 U.S. Tax Ct. LEXIS 4">25 tables. In the majority of these opinions it was shown that the individual's maximum actual life expectancy was 1 year or less.These opinions are distinguishable from the instant case. At the time of decedent's execution of the annuity agreement, it was not established that her maximum life expectancy was 1 year or less. In addition, while the decedent underwent open-heart surgery 5 days later, she survived the operation by 1 year and 5 months. Furthermore, the uncontroverted testimony of decedent's physician was that as of late 1975 decedent should live several more years, possibly even 5 more years.Our situation is less extreme than the one in There, the decedent was 75 years old and had incurable cancer of the colon. She died on March 28, 1966, one month after the February 21 valuation date. Despite testimony by physicians that she would live for no more than 6 months, the court found that it was possible that she could have outlived the valuation date by 1 year. Hence, the court ruled that the decedent's physical condition was irrelevant and that the 83 T.C. 932">943 1984 U.S. Tax Ct. LEXIS 4">26 actuarial tables should be used to value the life estate in question.The evidence demonstrates that the decedent's death was not clearly imminent or predictable at the time she entered into the annuity agreement. Only where death is imminent or predictable will departure from the tables be justified. See . Therefore, we rule that the decedent properly used the actuarial tables in valuing her annuity. The proper use of the tables, along with the testimony of Mr. Steinberg, convinces us that adequate and full consideration was given for the annuity. 10Decision will be entered under 1984 U.S. Tax Ct. LEXIS 4">*27 Rule 155. Footnotes1. Decedent's husband, Ben Lue Fabric, had passed away in 1965.↩2. We note that decedent's estate was located in Florida and that the executor resided in California. Petitioner and respondent apparently agree that appeal in this case lies in the Ninth Circuit. We will proceed on this assumption.↩3. Dr. Diamond's testimony, which we find to be credible, was based on his review of the decedent's prior medical records.↩4. While Elliot Fabric did offer investment suggestions to the trustee, his advice was never followed.↩5. These payments were deposited into a bank account jointly held by the decedent and Elliot Fabric. Since this asset was included in the decedent's gross estate, no estate tax issues attach to this fact.↩6. It should be mentioned that, subsequent to the bank's acceptance of the annuity agreement, decedent's son Elliot allegedly personally guaranteed the annuity. We give no legal significance to this, however, since at that time Elliot did not have the wherewithal to satisfy his alleged guarantee.↩7. Unless otherwise stated, all section references are to the Internal Revenue Code of 1954 as amended and in effect during the year here in issue.↩8. We found in our findings of fact that the annuity agreement was financially guaranteed by the trustee.↩9. This Court recently in , applied the Golsen rule in holding that since the Benson case was appealable to the Ninth Circuit, the La Fargue decision would be controlling. As a result, the Court in Benson found that the transaction constituted the purchase of an annuity contract. The facts in Benson indicated the following: (1) The trustee was independent; (2) there were several late payments; (3) the annuity payments were not always uniform in amount; (4) the annuitant occasionally requested and received advances of the annuity; (5) the annuitant received an interest-free loan from the trust, which was never repaid, and (6) the amount paid for the annuity ($ 371,875) significantly exceeded the value of the annuity (by $ 194,374.08). The facts in the instant case are almost identical to these facts which the Court in Benson found were sufficient to require application of the Golsen↩ rule.10. Respondent alternatively argued that the assets were transferred to the trust in contemplation of death, and, accordingly, should be included in the decedent's estate. Our finding that a legally binding annuity was entered into for adequate and full consideration in money or money's worth precludes application of sec. 2035(a) and (b).↩	01-04-2023	11-21-2020
https://www.courtlistener.com/api/rest/v3/opinions/4621795/	ESTATE OF J. LAWRENCE DAVIS, DECEASED, BY MADGE W. DAVIS & MARTHA D. ALTIERI, EXECUTRICES, Petitioner v COMMISSIONER OF INTERNAL REVENUE, RespondentEstate of Davis v. CommissionerDocket No. 11265-77.United States Tax CourtT.C. Memo 1979-461; 1979 Tax Ct. Memo LEXIS 63; 39 T.C.M. 509; T.C.M. (RIA) 79461; November 21, 1979, Filed William C. Cassebaum, for the petitioner. Louis T. Conti, for the respondent. TANNENWALDMEMORANDUM FINDINGS OF FACT AND OPINION TANNENWALD, Judge: Respondent determined a deficiency of $14,480.75 in petitioner's estate tax. Concessions having been made, the only issue remaining for decision is whether certain transfers of stock made by decedent within three years of his death are includable in his estate as transfers made in contemplation of death. FINDINGS OF FACT Some of the facts were stipulated and are found accordingly. The stipulation of facts, together with the exhibits attached thereto, is incorporated herein by this reference. The decedent, J. Lawrence Davis, died on March 6, 1974, a resident of the Borough of Bangor, Northampton County, Pennsylvania. The executrices1979 Tax Ct. Memo LEXIS 63">64 of his estate, Madge W. Davis, his wife, and Martha D. Altieri, his daughter, filed a Federal estate tax return in December 1974. Madge W. Davis was a resident of Bangor, Pennsylvania, and Martha D. Altieri was a resident of Easton, Pennsylvania, at the time the petition herein was filed. Decedent was born on February 3, 1905, and was 69 years of age when he died. He had been an attorney actively engaged in the practice of law and knowledgeable about the estate tax laws.The cause of decedent's death was respiratory failure and acidosis, precipitated by emphysema and chronic bronchitis. Decedent was also suffering from pneumonia but this was not related to the immediate cause of death. Decedent had been suffering from emphysema for about 12 years before his death. The disease was progressive and incurable. Decedent and his family became aware of the seriousness of his condition some time in 1972. 11979 Tax Ct. Memo LEXIS 63">65 Decedent was admitted to Saint Luke's Hospital in Lehigh County, Pennsylvania, on April 15, 1973, for a prostate operation. At the time, he was suffering from severe emphysema, benign prostatic hypertrophy, and arteriosclerotic heart disease. A prostatectomy was performed on April 19, 1973. The decedent was ambulatory when discharged on April 29, 1973. He was given instructions to receive continued, supervised care of his pulmonary problem at home. Decedent was again admitted to Stain Luke's Hospital on November 6, 1973, suffering from chronic obstructive lung disease, respiratory acidosis, and chronic respiratory failure. He was discharged on November 30, 1973. On February 24, 1974, decedent was readmitted to Saint Luke's Hospital with acute and chronic obstructive lung disease and metabolic encephalopathy. He also suffered from dyspnea (painful breathing) and had lost 30 pounds during the previous year. On February 27, 1974, a tracheostomy was performed. The decedent never left the hospital, and, on March 6, 1974, he died. Decedent was limited in his physical activities to short walks and drives from October 1973 until his death. He stopped going to his law office1979 Tax Ct. Memo LEXIS 63">66 in October 1973 but continued to work at home. Because of decedent's poor health, in the years immediately preceding his death decedent and his wife led a less active social life than they had in previous years and did not entertain or go out much socially. Since decedent found breathing difficult in cold weather, he and his wife would travel to warm climates, if possible, in the winter. In the winter of 1971 to 1972, they went on a long cruise to Hong Kong and in the winter of 1972 to 1973, they went to Arizona. Decedent and his wife intended to spend the winter of 1973 to 1974 in Florida. As was their habit, they made their plans about six months in advance so that their decision to spend the winter in Florida was made by the summer of 1973. Because of decedent's deteriorating health, the plans to go to Florida were never carried out. Martha D. Altieri was decedent's only child. Her son, Jody Lawrence Altieri, born in 1967, was decedent's only grandchild. Martha and her husband, Joseph Altieri, owned a riding stable. Martha had not received a college education. Prior to the birth of her son, Martha had worked as a legal secretary for her father's law firm; thereafter, 1979 Tax Ct. Memo LEXIS 63">67 she worked as her father's personal secretary one day a week and was compensated for her services. Martha and Joseph Altieri had adjusted gross income, as shown on their joint individual income tax returns, of $4,220 in 1970, $7,984 in 1971, $5,793 in 1972, $4,109 in 1973, and $5,322 in 1974. Decedent made the following gifts of securities which respondent contends were made in contemplation of death: DoneeDateItemTransfer Value 2Martha Altieri10/11/7250 shares, FirstNational Bank inBangor$ 8,7503/ 3/7325 shares, SecondNational Bank ofNazareth7508/73200 shares, FirstValley Bank Corp.10,0002/7450 shares, FirstValley Bank Corp.2,500Jody Altieri10/11/731,000 shares, FirstValley Bank Corp.50,0002/745 shares, First ValleyBank Corp.250Total$72,250The decedent had previously made gifts of securities to his daughter, Martha, as follows: DateItemTransfer Value9/14/648 shares, First National Bankin Bangor $ 2401/26/65100 shares, Second NationalBank of Nazareth2,5002/ 4/6610 shares, The Pen Argyl NationalBank4003/29/665 shares, First National Bank ofPer Argyl5506/14/665 shares, Easton National Bank& Trust Co.1,0002/26/704 shares, Standard Oil of N.J.2003/ 3/7025 shares, The Second NationalBank of Nazareth8004/30/7060 shares, Penn Central R.R.1,3805/ 1/706 Warrants, A.T.&T.Modest1979 Tax Ct. Memo LEXIS 63">68 Martha was 23 years old at the time decedent made his first gift of securities to her in 1964. Decedent had previously made gifts of securities to his grandson Jody, as follows: DateItemTransfer Value9/18/68500 shares, Louis Burk Co. $5002/ 5/691 share, The Citizens NationalBank of Slatington1004/ 1/7050 shares, Allstate EnterprisesStock Fund, Inc.5007/15/714 shares, The Citizens NationalBank of Slatington150Jody Altieri was one year old at the time he first received a gift of securities from decedent. Of the gifts made to Jody Altieri, all were made outright, except the one on October 11, 1973, which was made under an irrevocable trust agreement, whereby decedent, the settlor, gave 1,000 shares of the capital stock of First Valley Corporation to Martha Altieri and First Valley Bank as trustees for the benefit of Jody Altieri. The trust agreement provided as follows: (a) TRUSTEES shall pay the entire net income of the Trust to or for the benefit of Jody Lawrence Altieri, quarterly, to assist in providing him with an education and the enrichment of his life generally, such as through travel and familiarity with1979 Tax Ct. Memo LEXIS 63">69 the arts (by participation or observation), for the purpose of affording opportunities which might not otherwise be available to him. (b) TRUSTEES shall pay from the principal of said Trust Property such sums as TRUSTEES, in their uncontrolled joint discretion, shall think necessary and proper to provide an education and other advantages for Jody Lawrence Altieri, including attendance at preparatory schools, colleges and universities, as an undergraduate or a graduate student, and thereafter to continue his education and cultural activities in such way and to such extent as the discretion of TRUSTEES shall dictate and the capacity of the fund shall permit. (c) With recognition that basic needs must be provided for as a prerequisite to education and life enrichment, TRUSTEES shall also distribute to or for the benefit of Jody Lawrence Altieri such portions, if any, of the Trust Property as in the joint discretion of the TRUSTEES shall be necessary for the support, medical care and comfortable maintenance of Jody Lawrence Altieri, taking into consideration all other income and cash resources available for such purposes, from all sources known to TRUSTEES. The corpus1979 Tax Ct. Memo LEXIS 63">70 and undistributed income of the trust were to be distributed to Jody, at his request, in three parts, when he attained the ages of 25, 30, and 35 years. The decedent, by a will dated July 28, 1971, bequeathed 1,000 shares of stock of First National Bank in Bangor to his daughter Martha. Decedent was the chairman of the board and largest shareholder of the First National Bank in Bangor. The residue of the estate was given to his wife, Madge W. Davis. The First National Bank in Bangor merged into First Valley Bank in the summer of 1973 and each share of stock in the First National Bank in Bangor was exchanged for three and a half shares of stock in First Valley Bank. By a codicil dated October 3, 1973, decedent made clear that, due to the merger, Martha was entitled to a legacy of 3,500 shares of First Valley Bank.ULTIMATE FINDINGS OF FACT The transfers of securities by decedent to his daughter, Martha, on October 11, 1972, and in August 1973, were made in contemplation of death. The transfer of securities by decedent to a trust for the benefit of his grandson Jody on October 11, 1973, was made in contemplation of death. The transfers of securities by decedent to Martha1979 Tax Ct. Memo LEXIS 63">71 on March 3, 1973, and in February 1974, and to Jody in February 1974, were not made in contemplation of death. OPINION The issue for decision is whether certain gifts of securities from decedent to his daughter and grandson are includable in his gross estate under section 2035 3 as transfers made in contemplation of death. That section is intended "to reach substitutes for testamentary dispositions and thus to prevent evasion of the estate tax." United States v. Wells, 283 U.S. 102">283 U.S. 102, 283 U.S. 102">117 (1931). Subsection (b) of section 2035 creates a rebuttable presumption that the transfers in question, which occurred within three years of death, were made in contemplation thereof. Estate of Honickman v. Commissioner, 58 T.C. 132">58 T.C. 132, 58 T.C. 132">135 (1972), affd. without opinion 481 F.2d 1399">481 F.2d 1399 (3d Cir. 1973). The resolution of the issue before us turns on whether decedent's dominant motive for making the transfers, as determined1979 Tax Ct. Memo LEXIS 63">72 from all the facts and circumstances, was the thought of death or a purpose normally associated with life. 283 U.S. 102">United States v. Wells, supra at 118; Estate of Gerard v. Commissioner, 57 T.C. 749">57 T.C. 749, 57 T.C. 749">758 (1972), affd. per curiam 513 F.2d 1232">513 F.2d 1232 (2d Cir. 1975). Although we have carefully considered all cases cited by the parties in support of their positions, they have only tangential value because, in this area, each case must ultimately turn on a weighing and balancing of its own particular facts. Allen v. Trust Co.,326 U.S 630, 636 (1946); Estate of Ford v. Commissioner, 53 T.C. 114">53 T.C. 114, 53 T.C. 114">122 (1969), aff. per curiam 450 F.2d 878">450 F.2d 878 (2d Cir. 1971). See also, Estate of Johnson v. Commissioner, 10 T.C. 680">10 T.C. 680, 10 T.C. 680">688 (1948). Petitioner takes the position that the decedent did not intend the gifts in question to be substitutes for testamentary dispositions, but rather intended them as vehicles for supplementing the income of his daughter, Martha, and for making available to his grandson, Jody, educational opportunities which Martha and her husband might be unable to provide. A desire to provide1979 Tax Ct. Memo LEXIS 63">73 financial assistance or education to family members has been recognized as a factor indicating that a gift was prompted by lifetime motives rather than the thought of death. 57 T.C. 749">Estate of Gerard v. Commissioner, supra at 759; Estate of Hutchinson v. Commissioner, 20 T.C. 749">20 T.C. 749, 20 T.C. 749">756 (1953); Estate of Wilson v. Commissioner, 13 T.C. 869">13 T.C. 869, 13 T.C. 869">871 (1949), affd. per curiam 187 F.2d 145">187 F.2d 145 (3d Cir. 1951). The record shows that decedent, an attorney, was an educated and prosperous man with a gross estate of $453,038, exclusive of the transfers in question herein. 4 His daughter, Martha, on the other hand, had not attended college, and she and her husband had a low income during the years preceding decedent's death. By these facts, together with Martha's testimony at trial about her father's wishes and the terms of the trust decedent established for Jody, we are persuaded that decedent had the intentions ascribed to him by petitioner. The existence of these intentions, however, is not in itself decisive of the issue before us, 57 T.C. 749">Estate of Gerard v. Commissioner, supra at 759, without a further determination as1979 Tax Ct. Memo LEXIS 63">74 to whether such purposes associated with life were the primary motivation or impelling cause of the transfers in question. Allen v. Trust Co.,supra at 636. The gifts should be considered in the context of decedent's bodily and mental condition at or near the time they were made. 283 U.S. 102">United States v. Wells, supra at 117; Estate of Lowe v. Commissioner, 64 T.C. 663">64 T.C. 663, 64 T.C. 663">673 (1975), affd. per curiam 555 F.2d 244">555 F.2d 244 (9th Cir. 1977). Decedent had emphysema for about 12 years before his death. While petitioner is correct in asserting that the mere fact that a decedent had a serious illness does not preclude the possibility that gifts were not made in contemplation of death, Estate of Awrey v. Commisioner, 5 T.C. 222">5 T.C. 222, 5 T.C. 222">242 (1945), 5 the record herein clearly reveals, not only that the decedent had a1979 Tax Ct. Memo LEXIS 63">75 chronic illness (considered incurable and to have death-producing quality), but further that the gifts in question were made during a period when his health was deteriorating and when medical treatment, hospitalization, and restrictions on his daily activity must have served as a continual reminder of his declining health. 6We see no need to repeat the sequence of events making the various stages of decendent's medical condition and his personal activities, which are set forth in detail in out findings of fact. Suffice1979 Tax Ct. Memo LEXIS 63">76 it to say that, in light of the evidence of repeated hospitalization, deterioration of health, and curtailment of activity reflected in our findings, we are unpersuaded by petitioner's argument that decedent was in good spirits, negating an inference of transfers in contemplation of death. Compare 10 T.C. 680">Estate of Johnson v. Commissioner, supra at 689. We are also unimpressed by petitioner's argument that decedent's plans, made in the summer of 1973, to go to Florida the following winter, indicate that decedent, despite his poor health, had an optimistic outlook unclouded by thoughts of death. We note that vacations in warm climates were necessitated by decedent's respiratory problems and that he and his wife routinely made their vacation plans far in advance. The record does, however, support petitioner's contention that, because of the contrast between his own financial circumstances and those of his daughter and her husband, decedent had established a policy of giving gifts of securities to his daughter and grandson. Prior to 1972, decedent had made nine gifts of securities to Martha, beginning in 1964 when she was 23 years of age, and four gifts of securities1979 Tax Ct. Memo LEXIS 63">77 to Jody, starting in1968 when he was one year old. This policy, initiated prior to the transfers in question herein and prior to the deterioration of decedent's health in the last year-and-a-half of his life, sheds considerable light on the question of decedent's dominant motive for the subsequent transfers. 7Estate f 10 T.C. 680">Johnson v. Commissioner, supra at 688-689; 5 T.C. 222">Estate of Awrey v. Commissioner, supra at 242. Weighing the evidence of this prior pattern of gifts in conjunction with the evidence of the financial need of decedent's daughter and grandson against the evidence of decedent's deteriorating health, we conclude that, as to those transfers which were consistent in value with the prior pattern, petitioner has borne the burden of proving that provision of eduction and financial assistance, rather than substitution for testamentary dispositions, was the dominant motive. 8 Cf. 64 T.C. 663">Estate of Lowe v. Commissioner, supra at 676. 9 Our conclusion as to each gift is set forth in our ultimate findings of fact. See p. 10, supra. 1979 Tax Ct. Memo LEXIS 63">78 Petitioner contends that the apparent deviations from the pattern of prior gifts can be reconciled by taking into account the increase in decedent's resources caused by the merger in 1973 of the First National Bank in Bangor, in which he was the principal shareholder, and the First Valley Bank Corporation. 10 While an increase in a decedent's resources immediately prior to a gift may sometimes give rise to an inference that the thought of death was not the dominant motive for the gift, Skall v. United States355 F. Supp. 778">355 F. Supp. 778, 355 F. Supp. 778">783 (N.D. Ohio 1972); Kniskern v. United States, 232 F. Supp. 7">232 F. Supp. 7, 232 F. Supp. 7">13 (S.D. Fla. 1964), on the facts of this case, we are not convinced that the increase in decedent's resources was a sufficiently significant inducement for the gifts to overcome the other elements which are consistent with a motive associated with death. 111979 Tax Ct. Memo LEXIS 63">79 Petitioner argues that, if decedent had been predominantly motivated by a desire to reduce the tax on his estate, he would have transferred a larger portion of his estate prior to his death. In view of the other circumstances revealed in this record, argument along these lines is totally insufficient to tip the scale in petitioner's favor. Indeed, it is equally plausible that decedent, who was knowledgeable in estate tax law, anticipated that any large transfer of assets would not escape inclusion in his estate under section 2035. Moreover, the three major gifts by decedent, which we have found to be exceptions to his prior pattern of gifts, amounted to a transfer within a one-year period of over 12 percent of his remaining gross estate valued as of the date of death. See footnote 4, supra. We do not consider this percentage to be negligible. 12We conclude, therefore, on1979 Tax Ct. Memo LEXIS 63">*80 the basis of the entire record before us, that thoughts of death, stimulated by decedent's deteriorating health, were the impelling cause of those transfers which were not in conformity with decedent's prior pattern of gifts. We hold that the securities transferred to Martha on October 11, 1972, 13 and in August 1973 and the securities transferred to a trust for the benefit of Jody on October 11, 1973, are includable in decedent's estate as property transferred in contemplation of death. Decision will be entered under Rule 155. Footnotes1. The stipulation of the parties states that "as of 1972, decedent know of the seriousness of his condition." One of his physicians, in a questionnaire stipulated by the parties, stated that he first treated decedent for the condition which caused death on August 8, 1972, and that the time when decedent was informed of the seriousness of the condition was "approximately 1972."↩2. In regard to the significance of the term "transfer value," see footnote 7, infra↩.3. All statutory references are to the Internal Revenue Code of 1954, as amended and in effect in the taxable year in issue. Section 2035 was subsequently amended by the Tax Reform Act of 1976, Pub. L. 94-455, 90 Stat. 1520, 1848.↩4. This is the value of the gross estate as reported in the estate tax return, with adjustments agreed upon by the parties as stated in the notice of deficiency. The estate tax return showed a date of death value for the gross estate of $542,654 and a value of $459,350 as of the alternate valuation date.↩5. Accord, Estate of Kaye v. Commissioner, T.C. Memo. 1973-270↩. 6. Skall v. United States,355 F. Supp. 778">355 F. Supp. 778 (N.D. Ohio 1972), and Kniskern v. United States, 232 F. Supp. 7">232 F. Supp. 7↩ (S.D. Fla. 1964), cases on which petitioner heavily relies, are clearly distinguishable because the transfers in question therein were made during periods when the decedents, despite their advanced age, were enjoying good health and countervailing motives associated with life were clearly revealed. Moreover, in both cases, the subject matter of the transfers was recently acquired accretions to wealth by decedent for which he had no need.7. In evaluating the prior pattern of gifts, and for all other purposes, we have employed the "transfer values" to which the parties have stipulated, interpreting the term "transfer values" as a stipulation, solely for the purposes of this case, of the value of the gifted securities at all relevant times. ↩8. Respondent calls attention to the gap of over a year between the first of the transfers in question and the last prior transfer of securities to Martha or Jody. We attach no significance to this hiatus because the pattern of the prior gifts reveals that decedent did not adhere to any well-defined time schedule in making the gifts. ↩9. See Estate of Martin v. Commissioner↩, a Memorandum Opinion of this Court dated December 7, 1943.10. We can find no evidence in the record showing that the merger actually did increase decedent's net worth, but respondent has conceded this point on brief. Nor is there any evidence in the record to support petitioner's contention that, because of the merger, decedent lost his position as controlling shareholder and no longer considered it necessary to retain his stock. ↩11. Compare Estate of Kaye v. Commissioner, footnote 5, supra↩, cited by petitioner, wherein, despite a decline in health, a prior pattern of gift-giving was not altered.12. Compare Estate of Selling v. Commissioner, 24 T.C. 191">24 T.C. 191, 24 T.C. 191">195↩ (1955), where a transfer of approximately 10 percent of the decedent's gross estate, spread over a 5-year period, was held to be inconsistent with the theory that the transfers were made in contemplation of death.13. While we are less clear in our minds about the includability of this transfer, we have concluded that, at a minimum, petitioner has failed to carry its burden of overcoming the statutory presumption.↩	01-04-2023	11-21-2020

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